The Global Economy

Chris EdmondNYU Stern

Spring 2008

1

Today

• Housekeeping

– assessment– course materials– problem set #1

• Brief course overview

• First topic: macroeconomic measurement

2

This course

• Twelve 3-hour sessions

– introduction and macroeconomic measurement (1 session)– long-run economic growth (2)– international trade (1)– labor markets (1)

– spring break

– midterm review and exam (1)

– business cycles (1)– inflation and monetary policy, financial markets (2)– taxation and fiscal policy (1)– exchange rates and international capital flows (1)

– final review and exam (1)

3

Assessment

• Grade based on

– participation, 10%– best 4 of 5 problem sets, 30%– optional midterm exam, 25% or nothing– final exam, 35% or 60%

• Practice exams on Blackboard

• Review sessions will be scheduled in advance

• Read syllabus for fine print

4

Course materials

• Notes

– custom-designed for you

• Optional text

– Greg Mankiw’s Macroeconomics, 6th edition

• Slides

– posted before class

• Videos

– available after class

5

Getting help• My contact details

– Email: cedmond@stern.nyu.edu

– Phone: 212-998-0288

– O!ce: KMC 7-81

– Hours:

* Saturdays TBA* Tuesdays 4:30-6:00pm* or by appointment, after class, anytime you find me

• Teaching fellows

– Alejandro Bonano alejandro.bonano@stern.nyu.edu, Saturdays

– Amit Sinha as3827@stern.nyu.edu, Tuesdays

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Project #1

• Posted on Blackboard

• Due Saturday February 23 (both sections)

– work in groups– stop by or email if you have questions– get started asap

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About me

• Grew up in Australia

• PhD in Economics, UCLA, 2004

• Before that, research department Reserve Bank of Australia

• Fourth year at Stern

8

Other questions?

9

What this course is all about

• Economic growth

– where are the best growth prospects?

• International trade

– is o"-shoring bad? for whom?

• Labor markets

– how much churn is normal?

• Business cycles and monetary policy

– are we going into recession? what is the Fed doing?

10

China or India?

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China

India

real GDP per person (2000 US dollars, PPP basis, log scale)

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Who are the big o!-shorers?

Rank Country Business Services Rank CountryComputer and

Information Services

1 United States 40,929 1 Germany 6,124

2 Germany 39,113 2 United Kingdom 2,602

3 Japan 24,714 3 Japan 2,148

4 Netherlands 21,038 4 Netherlands 1,586

5 Italy 20,370 5 Spain 1,572

6 France 19,111 6 United States 1,547

9 United Kingdom 16,184 9 France 1,150

11 India 11,817 10 China 1,133

18 China 7,957 14 Russia 592

20 Russia 4,583

Millions of US dollars

Value of services o!-shored, 2004.12

How much labor-market churn is normal?

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job creation and destruction per quarter

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job creation

job destruction

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Are we going into recession?

Prediction market probability of recession in 2008

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What’s up with monetary policy?

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target and actual fed funds rate (percentage points)

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Macroeconomic measurement

• Gross domestic product (GDP)

– definition– how it’s measured– how it relates to national income, expenditure– cross-country comparisons

• Nominal vs. real variables

– inflation

• Stock vs. flow variables

16

US real GDP per person

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real GDP per person (2000 US dollars, log scale)

trend growth 2.4% annual

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GDP: definition

• Product

– total value of production in economy– value = price ! quantity– economy could be country, state, etc

• Domestic

– domestic product, produced by inputs inside economy– national product, produced by inputs owned by economy– for US, di"erences between GDP and GNP is small

• Gross

– net domestic product NDP = GDP " depreciation– economic depreciation di!cult to measure

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GDP: measurement

• In United States

– system of National Income and Product Accounts– produced by Dept. of Commerce’s Bureau of Economic Analysis

• Similar agencies in all other industrialized countries

• Key principle: value added

– want to avoid ‘double counting’

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Value added, not sales

A firm that makes PCs with labor and computer parts

Sales revenue 40m

Expenses 26m

Wages 20m

Cost of computer parts 6m

Net income 14m

• Firm has sales of $40m

– but $6m of computer parts were produced elsewhere– this firm added $34m value to the parts– total GDP = sum of all value added in economy– value chain typically involves many firms

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Value added = sum of income

A firm that makes PCs with labor and computer parts

Sales revenue 40m

Expenses 26m

Wages 20m

Cost of computer parts 6m

Net income 14m

• Value added $34m, divides into

– payments to labor, $20m wages– payments to capital, $14m income to owners

• What does this accounting look like for the whole economy?

21

GDP: National income and expenditure

• Two breakdowns, one based on income, other on expenditure

• Income breakdown

GDP = NI + IBT + DEP + NFA

where

NI = net national income (wages, profits)IBT = indirect business taxes (sales taxes)

DEP = depreciationNFA = net factor payments abroad

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GDP: National income and expenditure

• Expenditure breakdown

GDP = C + I + G + NX

where

C = private consumptionI = private investmentG = government purchases

NX = net exports

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National income, 2006

$ billions sharecompensation 7,448 0.64proprietors 1,007 0.09rental 55 0.005corporate profits 1,554 0.13net interest 599 0.05miscellaneousnet national income 11,656 1.00indirect business taxesdepreciationnet factor paymentsGDP 13,195

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National expenditure, 2007

$ billions $ per person shareconsumption 9,732 32,191 0.70investment 2,132 7,053 0.15government 2,691 8,903 0.19net exports -713 -2,357 -0.05GDP 13,843 45,790 1.00

Notes

– consumption is durables, non-durables, and services– investment is business fixed investment (plant and equipment) and

inventories, residential fixed investment– government is purchases of goods and services, not transfers

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Expenditure shares

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share of GDP

consumption

investment

government

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Cross-country comparisons

• Often want to compare GDP across countries

• Several di"culties

– size, typically scale GDP by population or workforce– exchange rates, need to convert to some common unit– others?

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GDP per person across countries

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real GDP per person (2000 US dollars, PPP basis)

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GDP is not a measure of well-being

• GDP measures expenditure/production, no value-judgements

– wars– repairs after a hurricane– medical expenses

• But GDP highly correlated with other measures of well-being

– life expectancy– literacy and school retention

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GDP and life-expectancy

20

30

40

50

60

70

80

90

0 10000 20000 30000 40000 50000 60000 70000

GDP per capita vs. life expectancy at birth

years

US dollars

Source: United Nations.

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GDP and ‘human development’

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GDP per capita vs. the UN’s ‘human development index’

US dollars

Source: United Nations.

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GDP and ‘happiness’

Source: Angus Deaton.

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Nominal vs. real variables• Nominal GDP

– measures value of production/expenditure/income

value = price! quantity

– at current market prices, denominated in units of account (dollars)

• Real GDP

– measured in reference-year prices (‘year 2000 prices’)

• Price level

– an index summarizing many prices, e.g., the CPI– real GDP = nominal GDP ÷ price level– inflation is rate of change of price level

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Prices and quantities

Two prices, two quantities

Fish Chips

Date Price Quantity Price Quantity

2005 0.50 10 0.25 10

2006 0.75 12 0.50 8

What is real GDP growth? What is the inflation rate?

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GDP deflator

Fixed weight method: The GDP deflator, base 2005 prices

Date Nominal GDP Real GDP Price deflator

2005 0.50*10+0.25*10

2006 0.75*12+0.50*8

Growth rate

prices

quantities

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GDP deflator

Fixed weight method: The GDP deflator, base 2005 prices

Date Nominal GDP Real GDP Price deflator

2005 7.50 7.50 1.000

2006 13.00 8.00 1.625

Growth rate 73.3% 6.7% 62.5%

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Consumer price index

Fixed basket method: The CPI

Date 2005 basket 2006 basket

2005

2006

Growth rate

0.50*10+0.25*10

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Consumer price index

Fixed basket method: The CPI

Date 2005 basket 2006 basket

2005 7.50 8.00

2006 12.50 13.00

Growth rate 66.7% 62.5%

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US price level

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fixed basket CPIGDP deflator

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Inflation = rate of change in price level

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annual inflation, rate of change in price level

CPI inflation

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Other measurement issues

• Quality change and new goods

– computers, iPods

• Intangibles

– firms may have value not reflected in transactions

• Non-market production

– work in the home– black-market activity

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Stock vs. flow variables

• Stock concepts, measured at point in time

– wealth– debt– number of unemployed

• Flow concepts, measured per period time

– GDP, wage or capital income (dividends, rent)– deficit– number of people losing their jobs

42

What have we learned today?

• GDP

– total value added in economy (production)– total income in economy– total expenditure in economy

• Accounting

GDP = NI + IBT + DEP + NFA

GDP = C + I + G + NX

• Real vs. nominal variables

• Stock vs. flow variables

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