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The Circular Flow Diagram
households
provide labor to firms through the factor market in exchange for wages
firms
provide goods & services through the product market in exchange for revenue in the form of consumer spending
transfer payments
payments that the govt. makes to individuals without expecting a good or service in return (examples: social security, scholarships, grants)
exports
imports
economic system
a mechanism that decides what to make, how to make it, and who gets it
Which of the following best describes the difference between microeconomics and macroeconomics?
microeconomics is about individuals, households, and firms
macroeconomics is about economies as a whole
financial markets
government
global world
stocks
factor services from households
outputs from firms
factor markets
product markets
GDP
Gross Domestic Product: total market value of all final goods and services produced within a country in one year
the purpose of GDP is to get a total count of production within an economy
nominal GDP
GDP given in current prices, without adjustment for inflation
real GDP
an inflation-adjusted measure that reflects the value of all goods and services produced by an economy in a given year
quarters
measure GDP every 3 months
trough
expansion
peak
trend
recession
2 consecutive quarters
a period of decline in total output, income, and employment
income
what you produce of value
inflation
an increase in the overall level of prices
uncertainty
impacts companies by forcing them to make projections
expectations
future expectations affect current behavior
unmet expectations (shocks) create shifts in the economy
shocks
unexpected results:
can be good or bad
can effect demand or supply
flexible & inflexible (“sticky”) pricing
prices may not change as neatly as our supply and demand graph indicates
companies are often reluctant
GDP Expenditure Approach Formula
GDP = C + I(subscript g) + G + X(subscript n)
C: Consumption
Ig: Gross Private Investment
G: Government Spending
Xn: Net Exports
durable goods
products that have expected lives of three years or more
Consumption
Gross Private Investment
Government Spending
Net Exports
nondurable goods
products with less than 3 years of expected life
(Khan Academy): In Fitlandia, a $100M skyscraper is constructed over 2 years. In the first year, $60M was spent, and in the second year, $40M was spent. How will the construction of these skyscrapers impact Fitlandia’s GDP in year 1 and 2?
Answer: Increases by $60M in year 1 and $40M in year 2
Explanation: The $100M is the total budget for the skyscraper, which was split between the two years. In the first year, $60M was used, so that $60M goes towards the GDP of year 1, since even though the skyscraper isn’t finished, it is still a “final good” in the sense that money was spent on it, which factors into the GDP. This same scenario is shown in year 2 also.
total market value
the value of all production within an economy
final goods
products you can pull right off of store shelves (ex: bottle of ketchup)
intermediate goods
the goods used to make final goods (ex: tomatoes, sugar used to make the ketchup)
production
MUST happen in the COUNTRY to count towards that country’s GDP (even if it’s a foreign brand)
What is not Included in GDP?
Used / Second-hand products
Purely Financial Transactions (ex: transfer payments, stocks and bonds)
Services provided for no money (ex: stay at home mom)
Inputs / Intermediate goods and services
Foreign produced goods and services
Note
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