Econ 104 Final Study Guide
Econ 104 Final Study Guide ECON 104
Popular in Introductory Macroeconomic Analysis and Policy, Goffe
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This 10 page Study Guide was uploaded by Allie Z on Tuesday March 31, 2015. The Study Guide belongs to ECON 104 at Pennsylvania State University taught by Goffe in Winter2015. Since its upload, it has received 559 views.
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Date Created: 03/31/15
Econ 104 Final Study Guide Go e Allie Zecca Section 1 GDP the market value of all nal goods and services produced in a country during a period of time typically one year c What doe Real GDP and Nominal GDP Measure 0 Real GDP the value of nal goods and services evaluated at base vear prices 0 Base year prices x current year quantity 0 Nominal GDP the value of nal goods and services evaluated current year prices 0 Current year prices x current year quantity 0 GDP de ator Nominal GDP x 100 measures in ation Real GDP 0 quot measures price level of all goods and services in the economy 0 Ex 2009 base year GDP de ator 100 Fiscal and Monetary Policy Monetary Policy Conducted by the US Federal Reserve the Fed The US Central Bank controls the supply of money often targeting a rate of interest for the purpose of promoting economic growth maximum employment and price stability 0 Dual mandate Maximum employment and stable prices How do they uphold the dual mandate Changing or in uencing the interest rates federal funds rate or changing the money supply M1 or M2 0 When the Fed monetary policy lowers interest rates C and rise because people are spending more money C consuming more goods and services and investing more money I therefore stimulating economic growth 0 Janet Yellen Chair of the Fed and controls Monetary policy 0 Federal funds rate set by the Fed what banks charge each other for over night loans 0 Banks pro t by borrowing at a lower interest rate than what rate they lend o By raising federal funds rate growth slows and by raising the federal funds rate growth rises Fiscal Policy the use of government revenue collection mainly taxes and expenditure to in uence the economy Controls government purchases G of the GDP equation Controlled by the President When federal taxes fall GDP rises although the G does not change Government budget de cit federal expenditures federal taxes ex 2014 D 0 506 billion govt budget de cit 3512 trillion 3006 or o 29 204 175 of GDP 0 US treasury borrows the de cit to sell in securities as bonds to the investing public Ex Question To aid the unemployed during a recession what can the Federal Government do 0 Lower taxes CPI Consumer price index a measure of the average change over time in the prices a typical urban family of four pays for the goods and services they purchases Use CPI for prices and wages APrices lAtime expenditures in the current year expenditures in the base year x 100 limitations of CPI are all the biases In ation A price index 0 A new old old 0 Price index ex GDP de ator CPI GDP de ator 2014 1082 GDP de ator 2013 1065 In ation 108210651065x 100 16 Production usually rises price always rises production rises but falls in recessions Nlnminall GP 51123 trillion Ellfl 11 final eon 151 trillion 201411 Emmi Et wth by the Eli change in real GDP 35 I rrnnl 2m 11 2014 11 at an annual rate CPI 2319 35201nd In ation by the Hit change in the CPI over the last 1near 1 be Inflation rate A price index 0 quotcore ratequot of in ation measures it without food and energy prices included 0 best source quotheadlinequot CPI includes food and energy CPI Nominal interest rate the stated interest rate on a loan 0 Real interest rate nominal interest rate in ation rate 0 Corrects the nominal interest rate for the effect of in ation on purchasing power 0 Real prices subtraction o A real price A nominal price inflation real prices division 0 nominal price 1 x CPI2CPI1 Harm from In ation o unanticipated in ation 0 reduces real wages 0 reduces real interest rates 0 aids debtors harms lenders 0 anticipated in ation 0 you can prepare for and the Fed forecasts it Section 2 0 zero sum when one country gets rich and makes another country poor 0 one person39s gain is someone else39s loss GDP per person improves life expectancy improves Everywhere in the world is progressing 1750 long term economic growth begins in Great Britain Industrial Rev Rates of Economic Growth D o G xnxo quot 1n 1 o nyearsXn 1 g quot nXo o G nal value initial value quot 1years between 1 0 Rule of 70 l time it takes for GDP to double 70 growth rate 0 Small differences in growth rates over time 0 Because growth rates are exponential so a small annual rate creates a huge change over many 0 Find growth rate using new and old real per capita GDP 0 now thenquot 1yrs between 1 Per Worker Production Function 0 real gdp worker or YL BealGiEiF perhauw worked Wit WEE a i iWLh i3 EMU Capital per hour workedJIUl YL AKL3 Y real gdp L labor KL capital per worker China and Haiti have much lower value of KL capital or labor 3 types 0 1 Better capital newer versions of computers 0 2 Better organized production ef ciency Technology A something that increases production without increasing the amount of o 3 More human capital people being more educated inc per worker production function labor productivity varies Why 0 KL and A vary greatly throughout the world Panini Shop Example Without increases in A even if KL increases you eventually reach diminishing returns to capital increasing at a decreasing rate explains graph39s curve 0 All workers and capital are averaged together to get KL 0 Inputs kI and A 0 Result labor productivity Concerns 0 Little increase in human capital in recent decades 0 We are not good at graduating students from high school and college 0 Natural resources ARE NOT included in this functions The Role of Institutions and Markets in Economic Growth 0 To be rich you need a lot of technology and KL 0 Government is an institution 0 Structure incentives in human exchange property rights ef cient justice limits on government norms of behavior essential for markets Common misconception only 26 of US workers earn the minimum wage market people and rms freely buying and selling 0 set the wage of just about everyone at rates m above the minimum 0 almost ALL nominal prices are set in markets and are exible free to move up and down 0 prices provide quotsignalsquot and incentives incentive to go college greater income possible due to exible wages impact is higher labor productivity because of more technology per worker production function 0 need a free market without it no competition 0 what helps markets ourish Rule of Law peace commercial law limits on govt power rewards for innovation property rights government promotion of markets Government needs to correct market failures and externalities o Pollution education RampD parents and copyrights o Prevent market manipulation laws for pricing and market structure 0 Globalization markets across borders PRO CONSUMER fairness 0 Political stability rights of the people taming corruption ln thinking about all the factors that go into growth or making a country rich which comes rst or is the most fundamental o Institutions A and KL need to increase in order for a country to grow this happens with good institutions that have 0 Vibrant markets high TFP and KL high YL high GDPperson o incentives for research horizontal drilling with fracking you get more pro ts v vertical so rampd is bene cial to the company 0 creative destruction one industry replacing another CDs D ltunes 0 Growth and market transactions are positive sum Rising Productivity Can Lead to Falling Employment 0 essential for long term growth rising real incomes o fewer farmers today so every farmer today makes a lot more money 0 agricultural layoffs led to nding jobs in the service industry 0 employment 5x higher in 2014 than in 1939 0 over long periods which rises more quickly in a growing economy 0 Real gdp or labor 0 Over long periods real GDP rises quicker than the labor force 0 Slow growth in Y since 09 increases in labor productivity l slow growth in L o 1 More output by fewer workers in a rm l higher real wages same amount of productivity or more with fewer workers o 2 New industries employ the laid off and then some labor saving technology key to prosperity Predicting the Future US Growth over the next 30 years 0 Headwinds something that will inhibit us from growth 0 1 Slowing human capital formation 0 many who enter college don39t graduate 19th 28th rich countries 0 A is affected because people aren39t getting smarter 2 Falling Labor Force Participation Rate those working those looking for a job those 16 and above each worker is supporting more of the population 3 Rising Inequality not as affected when you correct for family size health and bene ts 0 4 Innovation Slowdown AIRPAAAAAANE o airplanes ying cars twitter 0 Solid now but we cannot forecast future innovations internet was not predicted Low CLA loses jobs more than high CLA collegiate learning assessment Section 3 The Business Cycle and Unemployment Recession signi cant decline in economic activity spread across the economy lasting gt few months normally visible in real GDP real income employment industrial production and wholesaleretail sales business cycle is combo of a recession and an expansion 0 Postwar 12 recessions av 11 months 0 0709 Great Recession most severe postwar Depression severe recession 0 Great recession unemployment 20 gt U gt 25 0 Causes of Recessions D o Shocks nancial disasters 2008 Rapid move to raise federal taxes and or cut federal purchases de cit would shrink Non government spending would shrink Recent slow growth modest increase in taxes and spending cuts 0 Oil disruption Yom Kipper War 1973 o If In ation is too high Fed will raise interest rates 0 Higher rates D more expensive to borrow D less spending D slower growth D less in a on Monetary policy and oil shocks are the most common causes of recessions today Measuring Unemployment and Employment unemployment you are not working and looked for a job in the last month labor force all those working all those looking in the last month unemployment rate unemployed labor force x 100 participation rate labor force aged 16 0 Example 0 unemployment 2014 9262 million 0 labor force 156 million 0 population 16 250 million o unemployment rate 59 o participation rate 627 0 pre and post great recession unemployment rate rose by a larger amount and is taking more time to return to precessions values EX say that the economy improves and people start to look for a job again this month after being out of the labor force What would happen to unemployment rate this month 0 A fall 0 B stay the same 0 C rise 10 million 100 million l 11 million 101 million 10 109 0 Underemployment rate U6 those who have looked in the past 12 months but not the last month Those working part time who wish to work full time 0 As a percent of the labor force marginally attached oThe current unemployment rate is 59 while the average since 1948 is 58 0 Employment is barely above 07 level U6 unemp rate is 118 30 of unemp have been so 27 weeks labor force participation rate is falling Rate of Unemployment the natural rate of unemployment Total unemployment rate cyclical frictional structural Frictional short term unemployment that is caused by the process of matching workers with jobs can still utilize the skills and abilities that you already have Structural skills and abilities that you have do not match up with the requirements that the job demands change occupations or go back to school Cyclical demand forjobs would be greatly reduced because of a business cycle recession Occurs when cyclical unemp 0 The resulting rate of unemp is thought to be between 5 and 6 Then at full employment There never can be a zero rate of unemployment because there is always frictional and structural unemp 0 Connection between GDP and unemp To reduce unemp rate and increase employment real GDP potential GDP Potentia GDP real GDP when all rms are operating at quotcapacityquot Real GDP can greater than potential GDP Okun39s Law 0 AY 3 2Au 0 Connection between change in real GDP and the Unemp rate 0 Since labor force grows with population increases amp since productivity rises some economic growth is needed to keep the unemp constant over time o 3 economic growth keeps the unemployment rate constant if you plug in 0 for u 0 means constant you get 3 3 o If economic growth was 0 what happens to the unemployment rate Goes up 15 0 3 2Au Au 15 Section 4 Explaining the Economy39s Movements in the Short Run 0 Aggregate supply and demand puts together shocks real GDP and monetary and scal policy to explain recessions 0Norm Q O O P Price level average prices in the entire economy measured with the GDP de ator GDP measured by production spending and income During the Great Recession the real GDP went down and GDP de ator in ation rose During an expansion real GDP rises and so does the GDP de ator To reduce the unemployment rate growth AY must get bigger Growth increase in Y In ation increase in P AD total spending C I G NX SRAS total production from all rms Equilibrium where spending production In an expansion both curves slowly shift right Aggregate Demand AD 0 All spending in an economy for different values of the price level P 0 Components C I G NX with net exports beingexports imports Consumption Consumption is 67 of GDP 0 Household disposable income income taxes transfer payments 0 O O 0 As disposable income rises so does C Wealth effect as wealth rises so does C As interest rates go down C goes up That39s why federal funds right is 0 More people leads to rise in C Graphing AD the role of the Price level P Y axis 0 All prices and nominal wages change 0 Pljljrealwealth le leDlj o PjjUSexportscostjDNXDDADD o P D D Loan demand D D Interest rates D D AD D o If the Fed cuts interest rates what would happen AD shifts right because when you cut interest rates Consumption increases which makes AD larger shifting it right Investment 0 l 15 GDP 0 As interest rates Investments l c As taxes on investment l Investments o More rms Investments Government Purchases 19 of GDP 0 independent of taxes T 0 federal expenditures G transfers interest payments on federal debt Net Exports 0 3 of GDP exports imports o if foreign income l NX l AD shifts right dollar39s value v foreign currencies not P o as the dollar depreciates NX D because it is cheaper for other countries to buy US made products Shift Summary AGGREGATE DEMAND TO THE RIGHT Fiscal policy o G D T D on C amp I transfers D on C Monetary policy 0 Interest rates lljon C and Others Wealth D on C 0 Population D on C rms On I 0 foreign income l on NX value of dollar D NX Static Aggregate Demand 0 one event one shift new P and Y o G D Unrealistic because economy is generally growing and prices are rising Dynamic AD Shifts right every year with more consumers rms and G D with more consumers and rms Short Run Aggregate Supply limit to the possible increases in real GDP Y 0 Shows how much the economy can produce at different values of the price level Spending production in equilibrium AD SRAS If A K L l SRAS shifts right 0 Cost of business wages energy capital D Shifts left 0 expected increase in costs due to predicted in ation P shifts left Static one variable in play SRAS one time event K so SRAS shifts right Unrealistic as it assume that this is the only change in the entire economy Dynamic all variables in play SRAS every year K amp L amp A l SRAS shifts right Real GDP cannot exceed what the economy can produce which is described by SRAS Static and Dynamic Equilibrium c all spending AD all production SRAS values on real gdp and the GDP de ator P o STATIC 0 Only one variable is changing DYNAMIC o SRAS shifts right each year KLA l Why does AD grow so slowly 1 aftermath of nancial crisis credit still hard to get for many consumers paying dwn debts slower growth in C 2 aftermath of housing crisis homebuilding l 3 scal policy G D T D D slower C D 4 less investment and fewer working lsmaller growth in SRAS a w less investment less room for new technology Section 5 Financial Markets and Assets checking account student loan car loan mortgage bond stock 0 nancial assets a legal claim for future payments securities stocks and bonds stocks share in ownership or corp 0 owners sell on stock mkt o corp sell stocks to themselves to raise funds IPO 0 bonds 3 types Tbills Tbonds and Tnotes 0 sold by large businesses and govt o borrow from willing investors o tbonds 2030 year coupons annually 0 tnotes 210 year coupons annually 0 tbills up to 1 year 0 interest rate face value Ptbill Ptbill interest rates go up and down together 0 as the price of a bond rises interest rates fall retirement 0 average monthly social security bene t for a retired person is 1230 month 0 keep seniors out of poverty 0 bene ts will be 13 of today39s by me retiring 0 quotsave early and oftenquot returns on stock average 11yr assume 2amp in ation save 300month increases with in ation estimate you need 25x nal salary o stocks are risky varies drastically but positive in long run 0 now de ned contribution plans 401k 403b and 457 IRS code income tax free pay inc tax when funds withdrawn at retirement you select where it goes and how much goes there 0 M1 cash checkable deposits 0 M2 M1 savings accounts 0 Open Market Comms the Fed buyingselling bonds 0 With an open market purchase interest rates fall and the money supply rises Federal Open Mkt Committee purchases bonds directs sales 0 Interest rates affect C and l in our model Fed39s amount of bonds has risen since the end of the great recession Fed Programs 0 Quantitative Easing lnstituted as Fed Funds rate 0 Buying long term bonds Forces down mortgage and long term interest rates 0 Federal govt can issue bonds to raise funds for a de cit although the federal reserve cannot Fed buys and selling Tbills just like any person or rm Quantity Theory of Money oMxVPxY V how often the average dollar is spent in a year 0 Avg spent 6 x year VM1 AM AV lnflation rateAP AY V is fairly constant inflation rate AM AY In ation occurs when the money supply grows faster than the economy and lowers interest rates Fed39s target goal is a 2 in ation rate 0 Federal debt is larger than de cit de cit is yearly transfer payments G taxes 0 Debt gdp ratio will be constant if de cits are about 3 of GDP as this is about how fast nominal GDP grows Discretionary spending defense transportation etc decrease Entitlement spending automatically receive if eligible rules rarely changed increase
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