ECON 102 Notes

Chapter 5

Economics: the study of how to manage the problem of unlimited needs & scarce resources

  • Microeconomics- behavior of each individual economic unit (eg. one consumer, one supplier, one specific market)
  • Macroeconomics- behavior of the whole economy, uses Aggregates (totals). Studies topics like inflation rates, unemployment rates, exports of an entire country

Output Gaps: Actual output (Y) - Potential output (YNR)

  • Recessionary Gap: Y<YNR, unused resources
  • No Gap: Y=YNR, full employment
  • Inflationary Gap: Y>YNR, by putting pressure on resources we can produce more than our normal full capacity (eg. making workers work more hours). This causes a “Boom” (eg. during the war every factory increased its capacity because everyone was working harder than normal)

Measuring Actual Output:

  1. Mathematically
  • Expenditure Method
  • Income Method
  • Value Added Method
  1. Graphically
  • Where aggregate demand & supply intersect (Y axis)

Closing Output Gaps:

  1. Self Correction Mechanism- where the economy closes the gap on its own without govt. intervention, think invisible hand BUT it’s very slow
  2. Intervention Policies
Fiscal PolicyMonetary Policy
Implemented by:Govt.Central Bank
Instruments:1. Government Spending2. TaxesManagement of money supply

Main Economic Goals of a Country:

  1. Full employment
  2. Price & Economic stability- no uncertainty
  3. Economic Growth- as the population increases the economy must produce more

Textbook sections not done:

Working Age Population:

  1. Not participating in the labour force- eg. someone focusing on having a family, full time students, discouraged workers (no longer searching for a job)
  2. Pariticipating in the labour force- working or searching
  • Employed
  • Unemployed (must be searching)
    • New entrants
    • Rentrants
    • Job losers (fired)
    • Job leavers (quit)

Types of Unemployment:

  1. Frictional Unemployment- normal turnover in the economy
  • People who left their jobs to find better ones
  • People moving one place to another
  • Just joined the labour force
  1. Structural Uemployment- a mismatch between ones skills and what is required
  • People not working because they lack skills required by available jobs
  1. Cyclical Unemployement- People not working due to a recession
  • Businesses gone bankrupt, no job opportunities

So i can say there is full employment in an economy where natural unemployment still exists? There just cant be any cyclical?Natural Unemployement- natural unemployment will ALWAYS exist, full employment means there is no gap (cyclical unemployment) but we still have natural unemployment

  • Natural Unemployment**=** Frictional + Structural (add cyclical to natural for total if there is a recession)

Labour Force= employed + unemployed

Participation Rate= labour force/working age pop *100

Unemployment Rate = number of unemployed/labour force *100

Employment Rate = number of employed/labour force *100

Costs of Unemployment:

  1. Lost output
  • Okun’s Law- for every 1% increase in Cyclical Unemployment here is a decrease in output by 2%
  1. Poverty
  2. Crime
  3. Low levels of consumption

Official Unemployment Rate: not an accurate measure of unemployment because it ignores:

  1. Underground economy- the government counts people as unemployed but they are actually working “under the table” so the official rate may overstate the extent of unemployment
  2. Part time workers- half of the time they are employed, half they are unemployed but they are officially considered employed
  3. Discouraged workers- officially treated as out of the labour force even though they are technically unemployed
  4. Underemployed people- people overqualified for their jobs, officially counted as employed even though they are signically overqualified and may be considered unemployed

Economic Stability:

Business Cycles: short term fluctuations in the level of economic activity where the actual output fluctuates around the potential output (consists of 1 up & 1 down)

  • Fluctuations of real GDP around the long term growth trend
  • Peak: the highest point where output reaches the maximum level
  • Trough: the lowest point where output reaches it’s minimum
  • Contraction: a drop in output & employment
  • Recovery: an increase in output & employment
  • Expansion: period where there is a recovery
  • Recession: a period where there is a contraction
  • Depression: prolonged recession
  • Boom: prolonged expansion

 

Leading Indicators: Macroeconomic variables that give an indication of what part of a business cycle the economy is entering

  1. Sales of durable goods (eg. cars, homes), decrease = recession
  2. EI applications, increase = recession

Price Stability:

Inflation: continuous increase in the price level

Deflation: continuous decrease in the price level

Measures of Price Level:

  1. Consumer Price Index (CPI) = current cost of basket bought by avg. consumer/ cost of this basket in base year (relative)
  • When CPI is 100 in a year, it is the base year
  1. GDP Deflator- average price of ALL goods and services

Inflation Rate: measures by what % the price level changes each year

  • Inflation Rate = (CP2-CP1)/CP1 *100
  • Inflation Rate = (P2-P1)/P1 *100
    • P1 is the price level determined by either CPI or GDP Deflator? So its literally just that number?
    • P2 is current price

Costs of Inflation:

  1. Reduces purchasing power or “value” of money
  • Harms people with fixed incomes
  1. Harms creditors (lenders)- people who lend their money get it back but it is worth less now does this have to do with opp cost or just lost interest?
  • If inflation is expected then lenders protect themselves by asking for higher interest rates
  • If it is unexpected this harms lenders
  1. Menu cost- cost of sellers having to reprint menus with updated prices
  2. Shoe Leather cost- we keep money in banks to benefit from interest but everytime you need cash you have to go to the bank which wastes time or may have a transaction cost associated with it

Indexing: salaries increase every year in many county by a certain percentage to compensate for inflation

Hyperinflation: very high rates of inflation for a long period of time in a specific country

Real Interest Rate: takes into account what happens to the value of the money when it adjusts for inflation

  • Real Interest Rate = nominal interest rate (not adjusted for inflation, reported rate) - inflation rate (reduces value of money)

Chapter 6

GDP: Gross Domestic Product- value (price*quantity) of all final goods and services produced domestically during a certain time period, can be -

  • Does not include buying used items, foreign bought goods, and only includes final items are the value of additions on a house part of gdp or just the act of paying for the paint when remodeling and then selling a house?

Measuring GDP:

  1. Value Added Method: calculating GDP by summing up all added values at different stages of production, all are equal
  • Final goods already include the value of ALL intermediate goods- DO NOT readd the value of intermediate goods because this will cause a double counting problem (the same item being counted more than once)
  • Value added = Value of Output- Value of ONLY THE PRECEDING Input
  • GDP = sum of all added values or the value of all final goods
  1. Expenditure Method: How much is spent on final domestic goods & services
  • GDP = C + I + G + X - M
    • C: Consumer Expenditures- only on domestically produced goods
  1. Goods (tangible)
  • Durable: used repeatedly for more than a year (eg car)
  • Semi-Durable: used more thna once within a year (eg pen)
  • Non-Durable: used only once (eg apple)
  1. Services (intangible)
    • I: Investment Expenditures- only on domestically produced goods *Does not mean buying a stock, bond, or saving money (this is called saving) how do we know consumer vs investment, is it company for investment?
      • Gross Investment = net investment (new machines bought to increase productivity) + replacement investment (replacing depreciated items)
  2. Fixed Investment: capital goods like machines
  3. Residential Investments: new houses built
  4. Additions to Inventory: “unsold” items
    • G: Government Expenditure- domestic only *does not include transfer payments (financial assistance), this is later included in consumer expenditure once it is spent on goods and services
    • X: Exports
    • M: imports
  5. Income Method: how much the owners of the inputs make
  • Factors of production (inputs) -> Owners
    • Labour -> Wages
    • Capital -> Interest
    • Land -> Rent
    • Entrepreneurship -> Profit
  • GDP = net domestic income at factor cost (wages + interest + rent + profit + any other income to owners) + net indirect taxes (+ indirect tax (why do we add tax and subtract subsidy? Does govt income count in GDP? - subsidies) + depreciation allowance (included in expenses but is actually just savings, not taxed, used for eg. replacing old machines)

Stages of Production: *goods can be both or either depending on situation

  1. Intermediate Goods: used as inputs to produce another good
  2. Final Goods: goods used for final consumption

Per Capita GDP: GDP/Population = income/person thus it takes into account the size of the population

  • When comparing standards of living, we must use per capital

GDP vs. GNP:

  • GDP: produced domestically whether by our citizens or foreigners in our country, made in Canada
  • Gross National Product (GNP): value of all final goods & services produced by our citizens no matter where they live, made by a Canadian

Is GDP an accurate measure of happiness?

  • No, it ignores the following factors:
  1. Weather
  2. Leisure time
  3. Distribution of income
  4. Externalities (benefits or damages to others)
  5. non market transactions (do it yourself activities eg. fixing own car or painting own house)
  6. Underground economy (anything unreported whether legal or illegal eg drugs)

Circular Flow Model: shows the flow of income and expenditure between different sectors in the economy

Real Salary vs. Nominal Salary:

  • Real Salary = Nominal Salary/Price Level
    • Real Salary- physical items, eg number of coffees you can buy
    • Nominal Salary- measured in money
    • Price Level- price of a good eg. price of coffee

Disposable Income: After tax income

  • Yd = consume + save
  • Yd = y (personal income before tax)-personal tax

Nominal GDP: uses current prices

  • Change in nominal GDP can be due to a change in P or Q or both
  • Misleading, if only P increases then the GDP goes up but Q could remain stagnant and economy is not growing

Real GDP: uses base year rice (more accurate)

  • Change in real GDP is only due to change in Q (production)

GDP Deflator: average price of all goods & services, “general price level”

  • When Nominal GDP = Real GDP, Deflator = 100 and it is the base year
  • Nominal GDP/Real GDP *100
  • More comprehensive price level measure compared to CPI

Chapter 7

Economic Growth: refers to the long term growth trend in real GDP

  • Business cycles happen around the long term growth trend are these business cycles aka short term shifts in ability to produce (production)

 

  • Occurs when quantity & quality (productivity, the amount of G&S that a worker can produce/hour) of resources increases

Production Possibility Curve (PPC): frontier shows the different bundles from two goods that the economy can produce using all our resources

  • Economic growth causes PPC to shif outward to the right, enabling higher levels of production

Economic Growth Rate: Measures by what % our per capita GDP changes every year

  • (Y2-Y1)/Y1*100
  • Y2= percapita real GDP current
  • Y1= percapital real GDP last year

Rule of 70: tells us how long it takes a country to double its GDP (income)

  • 70/annual economic growth rate

Determinants of Economic Growth:

  1. Land & Minerals- eg new minerals, clearing land once not able to be used
  2. Capital
  • Human- knowledge and skill we get from education & training
    • Thus why the govt should subsidize education and health
  • Physical- machinery, infrastructure (public facilities, eg bridges and roads)
    • Thus why the govt should invest in infrastructure
  1. Labour- eg. immigration of skilled workers
  2. Technology-
  • Requires research and development
    • Thus why the govt should give incentives & enforce property rights to protect firms
  • Innovation
    • Application of new knowledge to improve an existing product/create new product
  • Invention
    • Creating something that doesn’t exist
  1. Free trade- specialization in comparative advantage (lowest opportunity cost to produce) allows for more production