* Macroeconomics > the sum of its parts Macroeconomics - Big picture, overall behavior of the economy. VS Microeconomics - Individuals (firms) decisions and their consequences. Paradox of Thrift: When business / families are worried about an economic downturn, they cut spending.This reaction depresses the economy because consumers are spending and businesses react by laying people off. Keynesian Economics - economic slumps are caused by inadequate spending, and they can be mitigated by government intervention. Monetary Policy - uses changes in the quantity of money to alter interest rates and affect overall spending. Fiscal Policy - uses changes in government spending and taxes to affect overall spending. Recessions - or contractions, are periods of economic downturn when output and employment are falling.2 Expansions - or recoveries, are periods of economic upturn when output and employment are rising. Business Cycle - short-run alternation between recessions and expansions. (Business Cycle) Peak - the highest point of an expansion before a recession begins. (Business Cycle) Trough - the lowest point of a recession before an expansion begins. Long-run economic growth - sustained upward trend in the economy's output over time. (Long-run economic growth) Per-capita is key to higher wages and a higher living standard. The rising overall level of prices is Inflation. The falling overall level of prices is Deflation. Open Economy - an economy that trades goods and services with other countries. Trade Deficit - a country runs a Trade Deficit when the value of goods & services bought from foreigners is more than the value of goods and services it sells to them. Trade Surplus - a country runs a Trade Surplus when the value of goods & services bought from foreigners is less than the value of the goods & services it sells to them.3 GDP and the CPI: Tracking the Macroeconomy What is GDP? Gross Domestic Product → The total value of all final goods and services produced in the economy during a given year.
The total value of all final goods and services produced in the economy during a given year, calculated using the prices of a selected base year.
The value of all final goods and services produced in the economy during a given year, calculated using the prices current in the year in which the outpost is produced.
● Economic activity is best measured by real G DP because, in order to accurately measure an economy’s growth, we need a measure of aggregate output. Otherwise a perceived increase in GDP could be due simply to inflation (an increase in aggregate price levels). Aggregate output → The economy’s total quantity of output of final goods and services. Final Goods→ (consumer goods), Goods that are ultimately consumed rather than used in the production of another good. HOW IS GDP MEASURED?: ● Three methods of measuring GDP ● Two main methods are value-added and expenditure approaches Value-added approach: ➔ Measuring GDP as the value of production of final goods and services. ➔ Add up the value of the final goods and services produced in the economy. ➔ Do not count intermediate goods because this would cause the counting of the same items several times and artificially inflate the calculation of GDP.4 ➔ To avoid double counting, we only count each producer's value-added in the calculation of GDP. Value-added = The value of sales - cost of intermediate goods Expenditure approach: ➔ Spending on domestically produced final goods and services, adding up aggregate spending on domestically produced goods and services (flow of funds into firms). ➔ Count only the value of sales to final buyers, such as consumers, firms that purchase investment goods, the government, or foreign buyers (aka, omit sales of inputs from one business to another). ➔ Final sales include factors of production, NOT INPUTS. C = consumer spending I = investment spending, sales of investment goods to other businesses G = government spending on goods and services X = sales to foreigners, exports IM = spending on imports GDP = C + I + G+ (X - IM) Income approach: ➔ Factor income earned from firms in the economy. ➔ Add up all the income earned by factors of production from firms in the economy, such as: ◆ Wages earned by labor ◆ Interest paid to those who lend their savings to firms and the government ◆ Rent earned by those who lease their land or structures to firms ◆ Dividends, the profits paid to the shareholders, the owners of the firm’s physical capital ➔ NOT AS MUCH EMPHASIS ON THIS METHOD Price Index (PI) → Measures the cost of purchasing a given market basket in a given year, where that cost in normalized so that it is equal to 100 in the selected base year. Market basket → A hypothetical set of consumer purchases of goods and services.5 Consumer Price Index (CPI) → Measures the cost of the market basket of a typical urban American family. Inflation rate → the % change per year in a price index → typically CPI. PI in a given year = cost of market basket in a given year / cost of market basket in base year Inflation Rate = (PI in year 2 - PI in year 1 / PI in year 1) * 100 Base year → The year used for comparison in the measurement of business activity or economic index, (aka first year). Disposable income = Income + (Government transfers - taxes) → total amount of household income available to spend on consumption and to save. Investment spending → Spending on productive physical capital such as machinery and construction of buildings, and on changes to inventories. Important equations: Real Interest rate = Nominal Interest rate - Inflation rate Nominal Interest rate = Real Interest rate + Inflation rate Inflation rate = Nominal Interest rate - Real Interest rate
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