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Finance 101 RL Items 1-2 Notes

by: Brooke O'Leary

Finance 101 RL Items 1-2 Notes Finance

Marketplace > University of Pennsylvania > 101 > Finance > Finance 101 RL Items 1 2 Notes
Brooke O'Leary

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These notes along with RL items 3, 4, and 5 cover what is on the final and first midterm,
Intermediate Macroeconomics
Tayyeb Shabbir
Class Notes
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This 29 page Class Notes was uploaded by Brooke O'Leary on Monday August 8, 2016. The Class Notes belongs to Finance at University of Pennsylvania taught by Tayyeb Shabbir in Fall 2016. Since its upload, it has received 12 views. For similar materials see Intermediate Macroeconomics in 101 at University of Pennsylvania.


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Date Created: 08/08/16
Measuring National Output and Inflation/Deflation Rate (Ref.: Chap 2) Dr. Tayyeb Shabbir FNCE 101; RLItems 1, 2 Introduction/Motivation 1. Motivation: • Business Leader • Investor • Policy maker • Start-up Entrepreneur • CEO MNC GDP Fluctuations 1. SBEA Outline I: Measuring Nominal GDP ( Y ) n • Product Approach • Expenditure Approach (main approach used in this course) • Income Approach II: From Nominal GDP ( Y ) to real GDP ( Y ) r • Motivation • Procedure • Side Benefit – A measure Inflation/Deflation (%Δ P) III: Measures of Rate of Change in Price Level (Inflation/Deflation) • GDP Deflator (GDPD) • Consumer Price Index (CPI) • Comparison of GDPD and CPI IV: Boskin Commission Report: Upward Bias in CPI • Problem; Causes • Solutions V: Conclusion of the GDP Discussion: Bottom Line 3 Nominal GDP (Y ) n I: Nominal GDP (Y ) measures the National Output in current prices. n Def: Nominal GDP (Y ) is the market value in terms of current prices of all Final goods and services produced in a country during a given time period. Final = ‘Not Intermediate’ where Intermediate goods are those that are completely used up in current period production. If one fails to make this distinction between Final and Intermediate goods, the GDP number will suffer from ‘Multiple Counting’. Aside: releases and revisions of Quarterly GDP (Text p. 24) Advance, preliminary, final. Annual revisions. Stock Market reactions. 4 Protecting Against Multiple Accounting (1) The following approaches towards calculating Nominal GDP (Y ) protect against the potential hazards of ‘Multiple Counting’: Approach # 1: Product Approach Y = S N PQ i = 1i i •Measurement– Value Added •Also Analytical Tool (Good way of thinking what isnot included & why) 5 Value Added (VA) VA = Value of Output–Value of Inputs V. A. Shirt Retail Price in Philly = $ 100 $ 25 Manufactured in Reading = $ 75 $ 10 Designed in LA = $ 65 $ 30 Yarn made in S. Carolina = $ 35 $ 15 Cotton grown in Alabama = $ 20 $ 20 Sum of All Outputs = $ 295 Sum of Value Added = $ 100 What if cotton was imported? Also think of New iPad. (Also, see Text 2.1) Protecting Against Multiple Accounting (2) Approach # 2: Expenditure Approach n Y = C + I + G + (X – M) in Open Economies n Y = C + I + G in Closed Economies Definitions of Expenditure Categories. Expenditure Approach C = Spending by domestic households on Final goods and services including imported ones. I = Spending by businesses on new capital goods (including imported ones) and on construction of new residential units (Fixed I) as well as inventory investment. G = Government purchases of Goods and Services (including imported ones) Net Exports = Exports (X) – Imports (M) represent net spending by the Rest of the world on domestic production. GDP = C + I + G + X – M $100 = $55+ $15 + $20 + $20 - $10 8 2014 GDP: Expenditure Approach Gross Domestic Product 2014 (Billions of dollars) 1 Gross domestic product (Y) 17,348.1 2 Personal consumption expenditures (C) 11,865.9 3 Goods 3,948.4 4 Durable goods 1,280.2 5 Nondurable goods 2,668.2 6 Services 7,917.5 7 Gross private domestic investment (I) 2,860.0 8 Fixed investment 2,782.9 9 Nonresidential 2,233.7 10 Structures 507.0 11 Equipment 1,036.7 12 Intellectual property products 690.0 13 Residential 549.2 14 Change in private inventories 77.1 15 Net exports of goods and services (X-M) -530.0 16 Exports 2,341.9 17 Imports 2,871.9 Government consumption expenditures and gross 18 investment (G) 3,152.1 19 Federal 1,219.9 20 State and local 1,932.3 9 Protecting Against Multiple Accounting In this course, we will primarily be using the Expenditure Approach. Intertemporal Comparisons of National Output Going from Nominal GDP (Y ) to Real GDP (Y ) r Def.: Real GDP (Y ) = is the market value in term of Base year or constant prices of all Final goods and services produced in a country during a given time period. Practically speaking, we obtain the Real GDP number by ‘deflating’ nominal GDP using one of the several indices of aggregate price change. Re.: Interactive Data (after next Table) GDP – Intertemporal Comparisons 12 Advanced Issues in computation of Real GDP • Sensitivity to choice of base year: Use of Chain Weighting. Re.: When Quantity increases and price declines. Text Example section 2.4 and the related “The Computer Revolution and Chain-Weighted GDP” feature Box 2.2. • QualityAdjustments over time. • Appearance of New products. (Hedonic Indices and Splicing of data series) GDP as a measure of well-being. • Environmental degradation, Inequality, Moral? Dimension: HDI SOURCES OF INTERNATIONALDATAON GDP& HDI • GDP/capita charts * Comments/Queries: Qatar? Beats US?? What about Switzerland? *Aside: GDP per capita from World Bank (Useful for detailed analysis for a given country) • Human Development Index from UPSHOT: Measuring Wellbeing is not unidimensional! 14 Obtaining Measures of Inflation An important side benefit of trying to obtain Real GDP is that we obtain measures of inflation. Inflation measures are generally based on GDP Deflator (GDPD) and the Consumer Price Index (CPI). Let us see how they are computed. Inflation/Deflation Rate - Basic formula 1. Inflation rate = {(P - P )t P } t-100 t-1 2. Candidates for P t i) GDPD ii) CPI 16 Calculation of GDPD GDPD =Nominal GDP/Real GDP= Y / Y = n r S N PQ / SN P QB i = 1i i i = 1i i 17 Calculation of CPI 1. CPI= (Cost of Basket in current Year)/Cost of Basket in Base year) T B T B B 2. CPI = S i = 1i/i S i = 1iQ i T = S i = 1 i i (Fixed weight or Laspeyres Index) 3. Case T = 2 (Examples as End of the Chapter exercies) 18 URL for CP 1. Base Year 1982-1984. Comparison of GDPD and CPI Advanced Issue: CPE Price Index ASIDE: FED’s favorite measure of consumer inflation rate is Personal Consumption Expenditures (PCE) Price Index -- a component of GDP Deflator. Ref. pp. 48-50, Text: APPLICATION. “The Federal Reserve’s Preferred Inflation Measures.” A good complement to our comparison of CPI and GDP Deflator. (In particular, the concept of core inflation rate). Problem with CPI as measure of Inflation 1. The CPI as a measure of the inflation rate is not perfect. As a matter of fact, the Boskin Commission report in 1996 pointed out that the official computation of the CPI resulted in an upward bias in the CPI. 2. This is worthy of a detailed study – Issue being revisited in the current budget deficit debate during this election year. Boskin Commission Report (1) Main Finding: Overstatement of true Inflation rate when we use CPI to the extent of 1.1 %. Causes: 1. Substitution Effect 0.4% 2. Inadequate Adjustment for Quality Changes 0.6% 3. Point of Purchase Bias 0.1% CPI & Substitution Effect Oranges 3 2 1 191990 2003 Enuf! CPI Apples 24 Boskin Commission Report (2) Effects: 1. On COLA Adjustments 2. On Government Budget Surplus Boskin Commission Report (3) Cures: 1. More Frequent Consumer Expenditure Surveys to update the ‘Budget Share relative weights’ 2. More Representative Point of Purchase Sample 3. After-the-Fact Adjustment Optional– chain weighting 27 Real GDP as a measure of Overall National Welfare Real GDP vs. Human Development Index (HDI) Rankings of countries The Bottom Line Real GDP per capita and its growth rate are the best possible measures of material welfare which is certainly a big part of overall welfare or well being. Thus it is important to investigate the determinants of the real GDP per capita of nations in the long run (Ch. 6) as well as the short run (much of the business cycles discussion of the course) . In particular, we want to analyze the role of technology and public policy in the process of material well being and progress. We will start next time with a discussion of the potential output (Ch. 3)


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