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115 Cards in this Set

  • Front
  • Back
The macro economy affects...
1.) unemployment and real wages
2.) interest rates
3.) political outcomes
4.) mental health, crime rates
2 methods of studying macroeconomics
1.) measurements/data
2.) Economic models
Important economic measurements
-Inflation Rate (GDP deflator, CPI)
-Unemployment rate
-others (factors of GDP)
-Quantity measured at a given point in time.
-the water in the tub
-Quantity measured over a time period
-the water flowing in and out of the tub
The macro economy affects...
1.) unemployment and real wages
2.) interest rates
3.) political outcomes
4.) mental health, crime rates
2 methods of studying macroeconomics
1.) measurements/data
2.) Economic models
Important economic measurements
-Inflation Rate (GDP deflator, CPI)
-Unemployment rate
-others (factors of GDP)
-Quantity measured at a given point in time.
-the water in the tub
-Quantity measured over a time period
-the water flowing in and out of the tub
Examples of Flow
Examples of Stock
Endogenous variable
value is determined "inside" the model
Exogeneous variable
value is determined "outside" the model
Classical Theory
-Long Run
-Economy when prices are "flexible"
Growth Theory
-Very Long Run
-Economy and Standard of Living growth rate
Business Cycle Theory
-Short Run
-Economy when prices are "sticky"
Fiscal policies
Govt decisions about taxes and spending
Monetary policies
govt (central bank's) decisions about money supply
3 Macroeconomic measures
1. Size of the economy -- GDP
2. Inflation -- GDP deflator and CPI
3. Employment - Unemployment rate (natural and cyclical)
Difference between Real and Nominal GDP
CPI (layman's)
how much more is it to buy a carton of milk (as opposed to last year)
Natural unemployment rate
unemployment rate that is 'natural'/healthy so labor can get to optimal job (job changing, etc.)
Cyclical unemployment rate
when rates higher or lower than the natural rate
3 ways of measuring GDP
1. Output
2. Income
3. Expenditure
Total Output = Total Income = Total Expenditure
Market Value
the value added at each stage of production
Total Market Value =
Total Value added = $$(price of good)
GDP and trade-->
GDP is goods and services produced, THEREFORE traded goods don't count
GDP: Output
GDP is the market value of goods and services produced by labor and property in the United States, regardless of nationality
GDP: Income
GDP is the total income earned by domestically located factors of production
GDP: Expenditure
GDP is the total expenditure on domestically-produced final goods and services.
Value added
the value of the output minus the value of the intermediate goods used to produce that output
-GDP: by labor and property in the United States, regardless of NATIONALITY
-GNP: by labor and property of domestic factors of productions regardless of LOCATION
output = expenditure (given that....?
there is no trade
GDP Expenditure components
Consumption, Investment, Govt Purchases, Net Exports
Consumption (GDP)
Durable goods (long lasting), Non-durable goods (short-lasting), Services (work purchased by consumers)
Investment (GDP)
-Business Fixed Income (plant and equipment)
-Residential Fixed Income (housing by consumers and landlords)
-Inventory Investment (change in firm's inventory values)
Government Purchases (GDP)
-(excludes transfer payments)-->i.e. excludes welfare, medicare, etc. because effectively a negative tax; negative govt. income
-Federal: defense and non-defense (accounts for consumption and investment of govt)
-State and Local
Net Exports (GDP)
= Total Exports - Total Imports
Changes in Nominal GDP
include the changes in amount of goods and services and changes in prices (inflation)
Changes in Real GDP
-include only the change in amount of goods and services
-Real GDP measures goods and services using a CONSTANT SET OF PRICES. Using the base prices, we get measures for the Real GDP and the growth rate in the Real GDP
Two ways to calculate Real GDP
1. constant price
2. chain-weighting
Constant Price
-way to calculate Real GDP
-use base prices
-find real GDP, use that to find growth rate
-use 'average current' price, find growth, add to GDP of previous year
-find growth rate, use that to find real GDP
-Base Year Real GDP = Base Year Nominal GDP
Real GDP growth factor for time t is calculated twice, using beginning prices and ending prices. The “average” of these is the real GDP growth factor.
Real GDP is then calculated by adding the real GDP growth to the real GDP of the previous period
Advantages of Chain-Weighting method
-Prices are not "stale" (since using current prices to determine growth rate)
-When base price level changes, growth rates do not change.
percentage increase in the overall level of prices
GDP deflator
reflects price level of all goods and services produced in a given period. The “GDP deflator basket” changes as the GDP goods and services change.
CPI -Consumer Price Index
-reflects the price level of a “basket of consumer goods and services”
-The “CPI basket” remains fixed for long periods of time. CPI basket also includes imported goods.
GDP Deflator = (nom, real gdp)
(Nominal GDP)/(Real GDP)
Real GDP = (in terms of nominal gdp, gdp deflator)
(Nominal GDP)/(GDP Deflator)
Unemployment rate is...
the percentage of adults who want to work, but are not working. This is the proportion of available labor that is not being used.
Okun’s Law
One percentage decrease in unemployment is associated with two percentage points of increase in GDP growth.
Public Saving
=Govt revenues - Govt Spending
-can be positive (surplus) or negative (deficit)
Government debt is...
the accumulation of past borrowing by the government for deficits
trade balance =
=receipts from exports - payments for imports
Why does GDP deflator increase each year?
-Increases each year since next year includes previous year's inflation
-measure of price level
current price of 'basket'/base price of 'basket'
In general, why is GDP Deflator > CPI?
because the basket changes.
-substitution of goods by consumers
-therefore basket changes towards more efficient use of income, but CPI basket does not change
Calculating Inflation
(current price of 'basket' - previous price of 'basket')/previous price of 'basket'
Who prefers CPI, GDP deflator?
-Consumers/receivers prefer CPI
-Payer/govt prefer GDP deflator (social security)
i =
nominal interest rate
r =
real interest rate
"pi" =
inflation rate
What does interest rate measure?
the cost of funds used to finance investment
nominal vs. real interest rate
Nominal interest rate is the rate published. This includes the cost of using the funds (real interest rate) and the expected lower value of the funds repaid (inflation).
(1 + i) =
= (1 + r ) x (1 + inflation rate)
nominal interest rate =
r + inflation rate
real interest rate =
i - inflation rate
Ex Ante
ex post
A =
Adults (16 and older)
Labor Force (people who choose to work)
U =
E =
E = L-U
Labor Force Participation Rate
Unemployment Rate
Natural Rate of Unemployment
The steady state level of unemployment
(u sub n)
Number of unemployed finding work (fU)
is equal to the number of workers separating from work (sE).
Cyclical Unemployment
Unemployment above the natural rate.
(u - u sub n)
Total Income =
= total wages + total return to capital and profits
Factors of Production
Capital (K) and Labor (L)
Production Function
Y(output)= F(K,L)
Cobb-Douglas Production Function
mirrors the true economy
Assumptions of Cobb-Douglas
1. Technology is fixed
2. Supply of capital and labor are fixed
"alpha" =
capital's share of input
"1-alpha" =
labor's share of input
Features of Cobb-Douglas Production Function
1. Both inputs are necessary for production
2. Constant returns to scale (this is why we need alpha + 1-alpha = 1)
3. Diminishing marginal product of factors
Both inputs necessary
If either K or L are 0 then the production is 0.
Cobb-Douglas Production Function
Y = AK^(alpha)L^(1-alpha)
2. Constant Returns to Scale
If all inputs are increased by the same scale (%) then the output is increased by the same scale (%). Note: All inputs must be increased by the same scale (%).
= F (zK, zL) = zY
3. Diminishing Marginal Product of Factors
As labor (or capital ) is increased and the other input, capital (or labor) is held fixed, the marginal product of labor, MPL (or MPK) falls.
Marginal product of a factor
Additional output from an additional unit of a factor holding all other factors constant; and holding technology fixed. Note: Increase only one factor, while holding all other factors fixed and holding technology fixed.
Marginal Product of Labor (MPL)
Additional output from an additional L, holding K fixed.
Marginal Product of Capital (MPK)
Additional output from an additional K holding L fixed.
Y = F(K, L) and Y = F(K, L)
Y = F(K, L) and Y = F(K, L) are upward sloping at a decreasing rate.
MPL and MPK are downward sloping.
MK (marginal capital) =
slope of f(Y) at any given K
slope = rise/run = change in y/change in x
Cobb: Supply of Capital and Labor are fixed
Labor is “fixed” by the natural level of unemployment and the labor force
Capital is “fixed” by the investment in previous periods
Distribution of Income to factors of production:
Each factor input is paid its marginal product
-determined by factor prices
W =
nominal wage
R =
nominal rental rate
W/P =
real wage rate
R/P =
real rental rate
Total income from production
Y = MPL x L + MPK x K + economic profit
Additional features of Cobb function
4. Marginal product of a factor is proportionate to the output per factor input
5. Economic profit is zero
Keynesian Models of Consumption
Consumption is an increasing function of disposable income
marginal propensity to consume (mpc)
increase in C from a one unit increase in disposable income
Y-T =
disposable income: Total income minus total taxes
Real interest rate is
-cost of borrowing
-the opportunity cost of using own funds to fund investment spending
Exogenous Variables:
K = capital
L = labor
Y = income, output
G = government purchases
T = taxes
Endogenous Variables
C = consumption (co, Y, T)
I = investment
r = real interest rate
How are equilibrium factor prices determined?
by supply and demand for factors of production
why no economic profit?
all of the output is paid out to factors of production
in the long run why is consumption fixed?
since all variables are exogeneous (Co, mpc, Y-T)
apc (average propensity to consume)
different from mpc because does not include Co (autonomous consumption)