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Macroeconomics CH. 23&24

by: bauer47 Notetaker

Macroeconomics CH. 23&24 ECN-120

bauer47 Notetaker

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These notes cover chapters 23 & 24 of Macroeconomics
Principles of Macroeconomics
Joshua M. Phillips
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This 4 page Bundle was uploaded by bauer47 Notetaker on Thursday March 10, 2016. The Bundle belongs to ECN-120 at Iowa Central Community College taught by Joshua M. Phillips in Fall 2015. Since its upload, it has received 28 views. For similar materials see Principles of Macroeconomics in Economcs at Iowa Central Community College.

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Date Created: 03/10/16
Unit 2 Chapter 23- Measuring a Nation’s Income Gross Domestic Product (GDP) 1. Measures total income of everyone in the economy 2. GDP also measures total expenditure on the economy’s output of goods and services 3. For the economy as a whole, income equals expenditure because every dollar a buyer spends is a dollar of income for the seller 4. Measures income, spending, and production 5. Defined as: the market value of all final goods & services produced within a country in a given period of time a. Goods are valued at their market prices, so: i. All goods measured in the same units ii. Things that don’t have a market value are excluded (housework you do for yourself) b. Final goods: intended for the end user c. Intermediate goods: used as components or ingredients in the production of other goods i. GDP only includes final goods --- they already embody the value of the intermediate goods used in their production d. GDP includes tangible goods and intangible services e. GDP includes currently produced goods, not goods produced in the past f. GDP measures the value of production that occurs within a country’s borders, whether done by its own citizens or by foreigners located there g. Usually recorded on an annual basis or a quarterly basis 6. Components of GDP: a. Four components: i. Consumption (C) 1. Is total spending on households on G&S ii. Investment (I) 1. Is total spending on goods that will be used in the future to produce more goods 2. Purchased by firms 3. Includes: capital equipment, structures, inventories iii. Government Purchases (G) 1. Is all spending on the G&S purchased by the gov’t at the federal, state, and local levels 2. Excludes transfer payments (such as Social Security or unemployment insurance benefits) iv. Net Exports (NX) 1. NX = Exports (X) – Imports (M) 2. Exports represent foreign spending on the economy’s G&S b. These components add up to GDP (Y) c. Y = C + I + G + NX 7. Real vs. Nominal GDP a. Inflation can distort economic variables like GDP, so we have two versions of GDP: i. Nominal GDP: 1. Values output using current prices 2. Not corrected for inflation ii. Real GDP: 1. Values output using the prices of a base year a. If the output doesn’t change, the RGDP will not change 2. Is corrected for inflation iii. Percentage change: 1. (End value – Start Value)/ Start Value = (that number) x 100 = % 2. (12 – 10)/ 10 = .2 x 100 = 20% 3. The percentage change in GDP is called the Growth Rate 4. The percentage change in the Price Level is called the Inflation Rate 8. GDP does NOT value: a. The quality of the environment b. Leisure time c. Non-market activity i. Such as child care a parent provides at home d. An equitable distribution of income 9. Why do we care about GDP? a. Having a large GDP enables a country to afford better schools, a cleaner environment, health care, etc. b. Many indicators of the quality of life are positively correlated with GDP 10.The GDP Deflator a. Is a measure of the overall level of prices b. Definition: i. GDP Deflator = 100 x (NGDP/RGDP) c. One way to measure the economy’s inflation rate is to compute the percentage increase in the GDP deflator from one year to the next Chapter 24- The Consumer Price Index (CPI) 1. Measures the typical consumer’s cost of living 2. The basis of cost of living adjustments (COLAs) in many contracts and in Social Security 3. How CPI is calculated: a. Fix the “basket” i. The Bureau of Labor Statistics (BLS) surveys consumers to determine what is in the typical consumer’s “shopping basket” b. Find the prices i. The BLS collects data on the prices of all the goods in the basket c. Compute the basket’s cost i. Use the prices to compute the total cost of the basket d. Choose a base year and compute the index i. The CPI in any year equals 1. 100 x (cost of basket in current year/cost of basket in base year) e. Compute the inflation rate i. The percentage change in the CPI from the preceding period 1. Inflation Rate = (CPI this year – CPI last year)/CPI last year x 100% 4. Substitution Bias a. Over time, some prices rise faster than others b. Consumers substitute toward goods that become relatively cheaper, mitigating the effects of price increases 5. Introduction of New Goods a. Increases variety, allows consumers to find products that more closely meet their needs b. Dollars become more valuable 6. Unmeasured Quality Change a. Improvements in the quality of goods in the basket increase the value of each dollar b. The BLS tries to account for quality changes but probably misses some, as quality is hard to measure 7. Problems with the CPI a. Each of these problems causes the CPI to overstate the cost of living increases b. The BLS has made technical adjustments, but the CPI probably still overstates inflation by about .5% per year c. This is important because Social Security payments and many contracts have COLAs tied to the CPI 8. Contrasting the CPI and GDP Deflator a. Imported consumer goods: i. Included in CPI ii. Excluded from GDP Deflator b. Capital Goods: i. Excluded from CPI ii. Included in GDP Deflator (if produced domestically) c. The basket: i. CPI uses fixed baskets ii. GDP Deflator uses basket of currently produced goods and services iii. This matters if different prices are changing by different amounts 9. Correcting Variables for Inflation: Comparing Dollar Figures from Different Times a. Inflation makes it harder to compare dollar amounts from different times b. Example: minimum wage i. 1963: $1.25 ii. 2015: $7.25 c. Amount in today’s dollars = amount in year T dollars x (price level today/price level in year T) i. “year T” is 12/1963, “today” is 12/2015 ii. Minimum wage was $1.25 in year T iii. CPI = 30.9 in year T, CPI = 234.6 today iv. 1.25 x (234.6/30.9) = $9.49 v. The minimum wage in 1963 was $9.49 in 2015 dollars d. SAME AS ABOVE----- Amount in Year X’s $ = Amount in Year Y’s $ x (CPI Year X/ CPI Year Y) e. Indexation i. A dollar amount is indexed for inflation if it is automatically corrected for inflation by law or in a contract ii. For example, the increase in the CPI automatically determines 1. The COLA in many multi-year labor contracts 2. Adjustments in Social Security payments and federal income tax brackets f. Real vs. Nominal Interest Rates i. The nominal interest rate: 1. Not corrected for inflation 2. The rate of growth in the dollar value of a deposit or debt ii. The real interest rate: 1. Corrected for inflation 2. The rate of growth in the purchasing power of deposit or debt iii. Real Interest Rate = (Nominal Interest Rate) – (Inflation Rate)


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