Note
Studied by 72 people
ap macro chapter 2
2.1 Circular Flow and GDP
macroeconomics is the study of the large economy as a whole.
the study of the big picture.
analyze everyone instead of analyzing one consumer
study all businesses instead of one business
macroeconomics field was born during the Great Depression.
the government didn’t understand how to fix a depressed economy with 25% unemployment.
macro was created to:
measure the health of the whole economy.
guide policies to fix problems.
********circular flow**********
All countries have three macroeconomic goals:
promote economic growth
limit unemployment
keep prices stable (limit inflation)
economists measure economic growth by collecting statistics on production, income, investment, and savings
called national income accounting
gross domestic product (GDP) - the most important measure of growth; the dollar value of all final goods and services produced within a country in one year
dollar value - GDP measured in dollars
final goods - GDP only counts NEW goods and services
within a country - GDP measures production within the country’s borders
one year - GDP measures annual economic performance
GDP measures how well the U.S. is doing financially
like how you calculate your income
using GDP
compare to previous years (is there growth?)
compare policy changes (did a new policy work?)
compare to other countries (are we better off?)
measuring GDP
% change in GDP = (year 2 - year 1)/year 1 × 100
standard of living
standard of living can be measured, in part, by how well the economy is doing, but GDP needs to be adjusted to reflect the size of the nation’s population
GDP per capita (per person) - the best measure of standard of living; calculated by GDP divided by the population
identifies on average how many products each person makes
why countries have higher GDPs
economic system- capitalism promotes innovation and provides incentives to improve productivity
rule of law - countries with solid institutions and political stability have historically had more economic growth
capital stock - countries that have more machines and tools are more productive
ex. 1: India has a relatively low GDP because they have a lot of labor but not very much capital
ex. 2: Japan has few natural resources but a high GDP
human capital - countries that have better education and training are more productive
natural resources - in general, countries that have access to more natural resources are more productive
all boils down to productivity (output per unit of input)
goods and services not included in GDP
intermediate goods
goods inside the final goods don’t count
ex. price of finished car, not the stock radio or tires
final good eventually gets counted
nonproduction transactions
financial transactions (nothing produced)
ex. stocks, bonds, real estate
used goods
ex. old cars, used clothes
nonmarket and illegal activities
things made at home - household production
ex. unpaid work, black markets, drugs
calculating GDP
expenditures approach - add up all the spending on final goods and services produced in a given year
income approach - add up all the income earned from selling all final goods and services produced in a given year
value-added approach - add up the dollar value added at each stage of the production process
each method should generate the same number
income approach - the income approach adds up all the income earned from producing goods and services
factor payments - labor earns wages, land earns rent, capital earns interest, and entrepreneurship earns profit
labour income - wages earned from performing work
rental income - income earned from property owned by individuals
interest income - interest earned from loaning money to businesses
profit - money businesses have after paying all their costs
expenditures approach - there are 4 components to GDP
consumer spending - ≈70% of U.S. GDP Purchases of final goods and services by individuals
ex: $5 sandwich at Subway
made up of 3 components:
Durable Goods
ex. washing machines, refrigerators, cars
Non-durable Goods
ex. food, clothes, toilet paper
Services
ex. dental work, repairs, tutoring
business investment - ≈16% of U.S. GDP; businesses spending on tools and equipment
ex: Walmart buys self-checkout machines.
government spending - ≈17% of U.S. GDP
ex: schools, roads, tanks (NOT transfer payments)
net exports - ≈-3%
ex: the value of 3 Ford Focuses minus 2 Hondas.
expenditures approach formula
GDP (Y) = C + I + G + (X - M)
investment (I) - “investment” is used differently in economics than usual—be careful!
NEVER when individuals buy assets (stocks and bonds)
ALWAYS when businesses buy capital (machines, resources, tools)
government (g) - tracks the spending made in the “public sector”
includes payments made by the government for goods and services
ex. price of fighter jets and the salaries of the pilots
doesn’t include money spent on transfer payments (welfare, social security, subsidies)
doesn’t include interest payments on the national debt
production of a new home - new real estate counts as investment spending since a new home can potentially be rented out
inventories - goods produced and held in storage in anticipation of later sales
counted the year they are produced, not the year they are sold
change in inventories is a valuable economic indicator
drastic change in inventory (leading indicator) - might not have been producing much, just getting through inventory
2.2 limitations of GDP
things in GDP that make society worse off
ex.
money spent on cleaning up toxic waste
money spent on jails
money spent on divorce lawyers
money spend on suicide nets
etc.
things in GDP that don’t count but indicate that society is better off
ex.
time spend on recycling
community service hours
church donations
hours spent with family at a park
homemade birthday cards
etc.
nonmarket transactions - many goods and services provide value but don’t count in GDP
problems with using GDP to measure the standard of living (limitations)
population
not measured; address by saying GDP per capita
inequalities
can’t measure
environment
don’t know/measure the impact on the environment as different goods and services are produced
shadow economy
black market transactions to get people potentially working, not getting paid for service (not included in GDP)
2.3 unemployment
unemployment - workers who are actively looking for a job but aren’t working
the unemployment rate - the percentage of people in the labor force who want a job but are not working
unemployment rate formula
unemployment rate = #unemployed/# in labor force x 100
labor force
at least 16 years old
able and willing to work
not institutionalized (in jails or hospitals)
not in the military, in school full-time, or retired
three types of unemployment
frictional unemployment - temporary unemployment or being between jobs
individuals are qualified workers with transferable skills
high school or college graduates looking for jobs
individuals who were fired or are looking for a better job
teachers aren’t frictionally unemployed, they still have a salary throughout the whole year
seasonal employment - a specific type of frictional unemployment, due to the time of year the nature of the job
ex. ski instructors - can’t really work in the summertime (temporarily unemployed/between jobs
structural unemployment - changes in the labor force make some skills obsolete
workers do NOT have transferable skills and these jobs will never come back (must learn new skills to get a job)
the permanent loss of these jobs is called “creative destruction”
ex. VCR repairman, milkman, carriage driver
technological unemployment - a type of structural unemployment where automation and machinery replace workers
ex. self-checkout at grocery stores - more people using self-checkout so some workers may not be able to apply the same skills anywhere else
cyclical unemployment - unemployment caused by a recession (6-month decrease in GDP, downturn in economy)
as demand for goods and services falls, demand for labor falls, and workers are laid off (GDP goes down)
sometimes called “demand deficient unemployment”
steel workers laid off during recessions
restaurant owners lay off waiters after poor sales due to recession (pandemic)
high unemployment during the Great Depression (25%)
the natural rate of unemployment
frictional and structural unemployment is present at all times because some people will always be between jobs or replaced by technology
don’t want 0% unemployment
the natural rate of unemployment (NRU) - frictional + structural unemployment; the amount of employment that exists when the economy is healthy and growing
full employment output (Y) - the real GDP created when there is no cyclical unemployment
the U.S. is at full employment when there is 4-6% unemployment
composed of frictional and structural
doesn’t change unless something big happens
difference between the natural rate of unemployment (NRU) and the non-accelerating inflation rate of unemployment (NAIRU)
both represent the idea of full employment
NRU focuses on output and not having too much unemployment
NAIRU focuses on inflation and not having too little unemployment
factors that influence NRU
incentives to search for a new job
why to NOT look for a new job
government?
low unemployment
too little unemployment can cause prices to rise since consumers spend more and producers bid up the price of resources
low employment that doesn’t cause high prices is considered “non-accelerating”
PPC and unemployment
inside the full employment curve - 6%+ unemployment
on the full employment curve - 4-6% unemployment
outside the full employment curve - super low unemployment <4% — leads to inflation
criticisms of unemployment rate
unemployment rate can misdiagnose the actual unemployment rate because of:
discouraged workers
some people are no longer looking for a job because they have given up
labor force participation rate - percent of the population in the labor force; if people leave the labor force the unemployment rate falls
underemployed workers
someone who wants more hours but can’t got them is still considered employed
race/age inequalities
the overall unemployment rate doesn’t show disparity for minorities and teenagers
2.4