macroeconomic measurements. full employment act - 1946 ensure economic stability maintain low...
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Macroeconomic Measurements
Full Employment Act - 1946
Ensure economic stabilityMaintain low unemploymentKeep prices stablePromote economic growth
How do we measure progress?
Macroeconomic Goals
Inflation: 3 percent Unemployment: 4 percent Economic growth: 4 percent
Bureau of Labor Statistics
BLS Chart for latest unemployment.
Unemployment Rate 2011 to 2012
GDP 1007 to 2012 Q3
GDP Growth to March, 2013
Now- was that a bad recession????
Gross Domestic Product (GDP)
The dollar (market) value of all final goods and services produced within the nation’s borders in one year. total production total expenditures total income
Transactions Not Included in GDP Transfer payments
Entitlement programsTransfers in kindCash payments
Unreported incomeLegal and illegal
Work for which no money changed handsProduction within household
Sale of used goods
Basic Circular Flow
This shows the interactions between households (income earners and resource owners) and businesses (resource buyers)
Figure 8-1. Basic Circular Flow
Businessfirms
Consumers inHouseholds
Productmarket
Resourcemarket
ConsumerSpending
Income
Business SalesRevenues
BusinessCosts
Expenditures The components of total spending are:
C – Consumption spending I – Investment spendingG – Government spending
X – Exports From which we subtract M – Imports to get
NX = Net exports (exports – imports)
C – Consumption spending
Three kinds:durable goodsnon-durable goodsservices
Determining factors: incomeexpectations about the future
I – Investment spending
Three kinds:new or replacement capital goods inventory changesnew housing construction
Determining factors: interest ratesexpected return on investmentexpectations about the future
G – Government spending
Three kinds:Federalstate local
Determining factors:Politics - goalsunexpected external events
X – Exports and M - Imports
Exports - Determining factors: income of foreign customerscomparative advantage of American goods
Imports – Determining factors: income of American customerscomparative advantage of foreign goods
Macro Equilibrium
Total spending = total output = total income No unexpected changes in inventories Full-employment equilibrium is the goal:
total spending = total production at the economy’s capacity to produce
Total Income = Total SpendingFor every transaction, when someone spends
money, it is income to someone else
Macro Equilibrium
Equilibrium with high unemployment: total spending is less than the economy’s
capacity to producerecessionunderperforming economy idle labor and capital goods
Macro Equilibrium
Equilibrium with low unemployment: total spending is greater than the economy’s
capacity to produce inflationoverheated economyshortages of labor and capital goods
Leakages
Leakages – funds leaving the circular flow Households do not spend all of their
income on American goodsThe following leak out of the circular flow:
saving (S) taxes (T) imports (M)
Injections
Injections – funds entering the circular flow Not all American made products are
bought by US households.The following are injected into the circular
flow: investment spending (I) government spending (G) exports (X)
Basic Circular Flow
Businessfirms
Consumers inHouseholds
Productmarket
Resourcemarket
ConsumerSpending (C)
Income (Y)
BusinessRevenues (GDP)
BusinessCosts
S + T +M
I + G + X
Leakages and Injections
For equilibrium: leakages = injectionsS + T + M = I + G + X
It is not necessary that S = I and T = G and M = X to have equilibrium
Recessions
Usually caused by a decrease in total spendingSpending < production Inventories rise Investment spending fallsUnemployment rises Income fallsTax collections fall and transfer payments rise
Recessions
Real GDP decreases To be called a recession, real GDP must
decrease two quarters (six months) in a row.
Recessions
Possible causes:Decreases in injections (I, G, X) Increases in leakages (S, T, M)
Result: injections < leakagesspending < productionultimately reach an equilibrium in an
underperforming economy
Real GDP
Terminology:“nominal” means ‘as measured’ – current $ or
rate“real” means with ‘the effects of inflation
removed’
Is the Growth of GDP real or inflated?This is the real test!!!!!!!
Was there actual increase in production and services or did the prices just skew the GDP statistics when C+I+G was added?
Have to correct GDP for price changes so we can measure actual production.
CPI tells the consumer if they have to spend more dollars to get that loaf of bread… but other measures have to be evaluated.
Still another way to test the health of the U.S. economy
The GDP Deflator…. The broadest price index and covers all output including consumer goods, investment goods and government services. (C+I+G)
The GDP deflator isn’t a pure measure of price change. Its value reflects both price changes AND market responses to those price changes as reflected in new expenditure patterns.
The GDP deflator typically registers a lower inflation rate than CPI and the government watchdogs use this barometer more readily than current CPI
Historical Record Graph
20
16
12
8
4
0
4
8
12
1920 1930 1940 1950 1960 1970 1980 1990 2000
Inflation
B
A
Deflation
Real GDP
A change in Nominal GDP can include changes in both prices and quantities.
Economic growth wants to consider only the change in quantitiesRemember – GDP measures production.
Thus, the change in prices must be removed from the data.Convert Nominal GDP to Real GDP
GDP Deflator
GDP Deflator = Nominal GDP x 100
Real GDP
Real GDP = Nominal GDP x 100
GDP deflator
Nominal GDP is GDP measured at current prices
Real GDP is GDP measured at base year prices
Year (base
Price of good Quantity GDP Real GDP
1 $10 100 $1,000 $1,000
2 $12 120 12x120 = $1,440
10 x 120 = $1,200
3 $14 140 14 x 140 = $1,960
10 x 140 = $1,400
GDP Growth Rates
Growth economy – increases 3% or more Stagnant economy – grows less than 3% Declining economy – growth is negative
Business Cycle
The long run trend in economic growth is positive, 3 to 3.5 percent per year
Short run, there are periods of greater growth and of decline this variation is called the business cycle
Business Cycle
Four phases:peakrecession/contraction troughrecovery/expansion/prosperity
Figure 8-3.A Stylized Business Cycle
time
realGDP
peak
peak
trough
recession
recession
recovery
prosperity(“boom” times)
long-runtrend of realGDP
Peak
economic activity at its highest unemployment is low income is at its highest
tax collections are high transfer payments are low
danger of inflation
Recession/Contraction
economic activity slows inventory levels rise unexpectedly sales fall off production decreases unemployment rises incomes fall
tax collections fall and transfer payments rise
Trough
economic activity is at its lowest unemployment is high incomes are at their lowest
tax collections are low and transfer payments are high
Recovery/Expansion/Prosperity
economic activity increases sales rise production rises unemployment falls income rises
tax collections rise and transfer payments fall when real GDP increases beyond the previous peak,
prosperity sets in in the late stages, inflation may become a problem
Inflation
A rising general/average level of prices Measured monthly similar to the GDP
deflatorSpecial basket of goods urban consumers buyConsumer Price Index (CPI)
Inflation then is the %change in the CPI from year to year
How to measure rate of inflation
Measuring the Rate of Inflation Market Basket
Representative bundle of goods and services
Base YearThe point of reference for comparison of
prices in other years
Macroeconomic Measures - Prices
Base Year - The year chosen as a point of reference or basis of comparison for prices in other years; a benchmark year. (82-84)
Computing the Consumer Price Index
Consumer Price Index (CPI)
By observing the extent of price increases, we can calculate the inflation rate.
The inflation rate is the annual percentage rate of increase in the average price level.
Changes in Prices
In 2005 the CPI was 195.3; in 2006 the index was 201.6. What was the percentage change in prices from 2005-2006?
Click below for answer.
3.22 %
Here’s a little hint if you forget…C-L/L
Percentage change in prices = Current year - later year x100 later year
CPI determined
Calculates the inflation rate Market basket of goods and
services (same each year.) Bureau of Labor Statistics
determines cost in 85 cities by shopping 184 items.
19,000 stores visited and 60,000 landlords,renters and homeowners surveyed each month
Statistics released each month.(3.15- .7%)
Yearly average compiled.
CPI expressed in base year ’82-84
Constructing the CPI The base period is the
time period used for comparative analysis — the basis of indexing, for example, of price changes.
Shopping for CPI
CPI is constructed by identifying a typical bundle of goods that the average consumer buys. This bundle stays the same each year.
The base year is changed periodically. The base year used is ’82-’84 and prior to that it was ’63.The price level in the base period is designated as 100.
The market basket (bundle) can be changed if BLS research shows that the “average” consumer no longer is purchasing that good or service.
Each item in the bundle is weighted percent-wise in the market basket figures.
The Market Basket
Transportation19.0%
Housing32.6% Food
13.6%
Clothing 4.7%
Miscellaneous 10.5%
Health care 5.3%
Entertainment 5.1%
Insurance and pensions 9.3%
Inflation’s Harmful Effects
Purchasing power falls Redistribution of income and wealth Savings rate tends to fall Businesses plan only in very short time
horizons Interest rates rise – business investment
falls
Bottom LineCPI is designed to measure the impact of price changes on
the cost of a typical bundle of goods purchased by households(remember, market basket and only for urban purchasers.)
GDP deflator is a broader price index and is designed to measure the change in the average price of the market basket of goods included in GDP (in addition to consumer goods it includes capital goods, & g & s by government.)
CPI measures money income of consumers in relation to rising prices (only consumer goods.)
GDP deflator measures economy wide inflation- more g & s included in measurement.
Types of Inflation Monetary
Money supply rapidly increases – ‘too many dollars chasing too few goods and services’
Demand-pull Total spending exceeds production of goods and
services Cost-push
Decrease in production – may be caused by rising production costs/external shocks
Unemployment
Definitions: labor force = those at least 16 years old who are
working or are actively seeking work Labor Force = # E + # UE
Employed (#E) = those in the labor force who are working
Unemployed (#UE) = those in the labor force who are not working but are actively seeking work
Unemployment
Unemployment rate = # unemployed / labor force x 100
Types:seasonalcyclical frictionalstructural
Full Employment
No cyclical unemployment exists. Only frictional and structural
unemployment exists.Full employment exists when the
unemployment rate is 4 to 6 percent.Occurs at or near the peak of the business
cycle.
Macroeconomic Measurements
Study Questions
1. What is Gross Domestic Product (GDP)?
2. Why must Nominal GDP be corrected for inflation?
3. How is economic growth calculated? 4. What is the difference between growth,
stagnation, and decline?
Study Questions
5. What are the phases of the business cycle? 6. What are the three types of inflation? 7. What are the four types of unemployment? 8. Which is the one of most concern to policy
makers? 9. What is the full employment goal?