Ch 13 - The Level of Economic Activity

• Macroeconomics: larger scale economy which is concerned with the allocation of a nation’s resources

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1. Five main variables:

   1. Economic growth
   2. Employment
   3. Price stability
   4. External stability
   5. Income stability

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• Circular flow of income model:

  

• Output method: actual value of the goods and services produced

• Income method: measures the value of all the incomes earned in the economy

• Expenditure method: measures the value of all spending on goods and services in the economy

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1. GDP: monetary value of all of the final goods and services produced in a year in a country

   1. GDP = national output = national income = national expenditure
   2. in a sophisticated economy, households do not trade with each other
   3. These factors have to be equal in order to encourage equilibrium. If they are unequal, flow increase and more money flows in than out

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2. Leakages: a diversion of funds from a process. It is the money that escapes an economy in a circular flow of income

   1. imports are a leakage (income that is spent and not returned to firms)
   2. Taxes are a leakage

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• Injections: introduction of income into the flow
  • Firms have access to savings by borrowing money from banks
  • Investments allow the amount of income circulating in the economy to rise
  • Exports are injection (source of income not coming directly from households)
  • Government spending is an injection

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• National income is measured with: GDP = C+I+G+(X-M)
• C: consumption
• I: investment
• G: government spending
• (X-M), net import: export - import

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• Real GDP: GDP which has been adjusted for inflation
  • Nominal GDP / GDP deflator * 100
• NNI (net national Income): income of households, businesses, and the government
  • NNI = GNI - depreciation
• GNI/GNP: total income earned by a country’s factors of production regardless of where the asses are located
  • GNP = GDP + net property income
  • GNI = GDP + net factor income from abroad - income paid to foreign assets
  • Real GNI = normal income * price deflator
• GDP deflator: GDP*100 / (100 + inflation rate) = real GDP
• GDP per capita: GDP divided by the size of the population

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• The business cycle: its fluctuations in economic activity are measured by changes in real GDP

  • Fluctuations in practice → regular

  

1. Recovery:

   • Economic expansion driven by aggregate demand as households + consumers spend more

   • Firms increase their output as demand increases

   • Newly employed workers spend their income on goods and services

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2. Boom:

   • Increased demand for goods and services pushes up average price (inflation)

   • Rate of growth of GDP falls as the economy nears its potential output

   • Policy makers may try to slow down growth (to reduce inflation) causing a fall in total demand, recession could begin

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3. Recession:

   • Two consecutive quarters of negative GDP growth

   • Falling aggregate demand → laying off workers so unemployment rises

   • Less spending → lower rates of inflation or deflation

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4. Trough: when contraction comes to an end, aggregate demand will pick up and enter recovery phase

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• Negative output gap: economy producing below its trend and unemployment will is likely to be an issue
• Positive output gap: economy producing above its trend and inflation is likely to be an issue

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