Macroeconomics

Macroeconomics◆Basic concepts in Macroeconomics●GDP1.What’s GDP?Gross domestic product (GDP): the market value of all finalgoods and services produced within a country in a givenperiod of time.2.The comparison of two measures of income (GDP&GNP)Gross national product (GNP): the total income earned by anation’s permanent residents (called nationals).It differs from GDP by including income that our citizensearn abroad and excluding income that foreigners earn here.3.The components of GDP4 components: consumption(C), investment (I), governmentpurchases (G), net export (NX).4.GDP deflatorNominal GDPGDP deflator=100Real GDP●CPI1.What’s CPI?Consumer price index (CPI): a measure of the overall cost ofthe goods and services bought by a typical consumer.How to calculate? 4 steps:○1Fix the basket. Determine which prices are mostimportant to the typical consumer.-The Bureau of Labor Statistics (BLS) identifies a market basket of goods and services the typical consumer buys.-The BLS conducts monthly consumer surveys to set the weights for the prices of those goods and services.○2Find the Prices: Find the prices of each of the goods and services in the basket for each point in time.○3Compute the Basket’s Cost: Use the data on prices to calculate the cost of the basket of goods and services at different times.()=100 Price of basket of goods and services Comsumer price index CPI Price of basket in base year○4Choose a Base Year and Compute the Index: -Designate one year as the base year, making it the benchmark against which other years are compared.-Compute the index by dividing the price of the basket in one year by the price in the base year and multiplying by 100.2- 1 2100 1CPI in Year CPI in Year Inflation Rate in Year CPI in Year =⨯ 2. Problem of measuring the cost of living3. The GDP deflator & CPI4. How to use CPI to compare dollar figures from different times.Price level today Amount in today's dollars= Amount in year Tdollars Price level in year T⨯e.g.:20011931Price level in 2001Salary Salary Price level in 1931177$80,00015.2$931,579=⨯=⨯= ◆ Long run analysis in Macroeconomics● The real economy in the long run1. Production and growth○1 The factors to influence production and growth Physical capital--the stock of equipment and structures that are used toproduce goods and services.Human capital--for the knowledge and skills that workers acquirethrough education, training, and experienceNatural resources--Inputs used in production that are provided by nature,such as land, rivers, and mineral deposits.Technological knowledge--society’s understanding of the best ways to producegoods and services.○2The government policies to improve productivity and livingstandard.2.UnemploymentMoney and Prices in the long run1.What are money and its function?2.Who can create money?3.Three tools of Monetary control by central bank.Open-market operations: the purchase and sale of U.S.government bonds by the Fed.--When the Fed buys government bonds, the money supplyincreases.--The money supply decreases when the Fed sells government bonds.Reserve requirements: regulations on the minimum amountof reserves that banks must hold against deposits--The reser ve requirement is the amount (%) of a bank’s totalreserves that may not be loaned out.--Increasing the reserve requirement decreases the money supply.--Decreasing the reserve requirement increases the money supply.Discount rate: the interest rate on the loans that the Fed makes to banks.--Increasing the discount rate decreases the money supply.--Decreasing the discount rate increases the money supply. 4.The level of price and the value of money. Money Equilibrium.5.The Classical Dichotomy and Monetary Neutrality.The Classical Dichotomy: the theoretical separation of nominal and real variables.--Nominal variables are variables measured in monetary units.--Real variables are variables measured in physical units.Monetary Neutrality: the proposition that changes in themoney supply do not affect real variables.Two applications:○1Monetary quantity equation:⨯=⨯M V P YM: quantity of money; V: velocity of money;P: the price level (GDP deflator); Y: the quantity of output(real GDP).--The quantity equation shows that an increase in thequantity of money in an economy must be reflected in one ofthree other variables:-the price level must rise,-the quantity of output must rise, or-the velocity of money must fall.○2Fisher Effect: The one-for –one adjustment of the nominalinterest rate to the inflation rate.--According to the Fisher effect, when the rate of inflationrises, the nominal interest rate rises by the same amount.--The real interest rate stays the same.6.The cost of inflation.◆Short run analysis in Macroeconomics●AD-AS1.What’s AD curve?The aggregate-demand curve shows the quantity of goods and services that households, firms, and the government want to buy at each price level.Why the AD curve slopes downward?=+++Y C I G NXThe Price Level and Consumption:The Wealth Effect-- A decrease in the price level makes consumers feel more wealthy, which in turn encourages them to spend more.--This increase in consumer spending means larger quantities of goods and services demanded.The Price Level and Investment:The Interest Rate Effect--A lower price level reduces the interest rate, which encourages greater spending on investment goods.--This increase in investment spending means a larger quantityof goods and services demanded.The Price Level and Net Exports:The Exchange-Rate Effec t--When a fall in the U.S. price level causes U.S. interest rates to fall, the real exchange rate depreciates, which stimulates U.S. net exports.--The increase in net export spending means a larger quantity of goods and services demanded.Why the AD curve shifts?Shifts arising from-Consumption-Investment-Government Purchases-Net Exports2. What’s AS curve?The aggregate-supply curve shows the quantity of goods and services that firms choose to produce and sell at each price level.Distinguish the shape of LAS and SAS.LAS:Shifts arisingLaborCapitalNatural ResourcesTechnological KnowledgeSAS:Shifts arisingLaborCapitalNaturalResourcesTechnology Expected Price Level3.Two causes of Economic fluctuations→the lessons of AD curve shift and AS curve shiftShifts in Aggregate Demand-In the short run, shifts in aggregate demand cause fluctuations in the economy’s output of goods and services.-In the long run, shifts in aggregate demand affect the overall price level but do not affect output.An Adverse Shift in Aggregate Supply-A decrease in one of the determinants of aggregate supply shifts the curve to the left:Output falls below the natural rate of employment.Unemployment rises.The price level rises.○1Stagflation-Adverse shifts in aggregate supply cause stagflation—a period of recession and inflation.Output falls and prices rise.Policymakers who can influence aggregate demand cannot offset both of these adverse effects simultaneously.○2Policy Responses to Recession-Policymakers may respond to a recession in one of the following ways:Do nothing and wait for prices and wages to adjust.Take action to increase aggregate demand by using monetary and fiscal policy.The influence of Monetary and Fiscal policy on AD1.How monetary policy influence AD○1LPT-Theory of liquidity preference: Keynes’s theory that theinterest rate adjusts to bring money supply and moneydemand into balance.○2the downward shape of AD curve with LPTP↑r↑i↓y↓P↑M d↑M s→r↑i↓y↓○3The influence of M s on AD2.How fiscal policy influence AD○1Two tools of fiscal policy-government purchase-taxes○2Multiplier Effect: the additional shifts in aggregate demand that result when expansionary fiscal policy increases income and thereby increases consumer spending.-Each dollar spent by the government can raise the aggregate demand for goods and services by more than a dollar.The formula for the multiplier is:Multiplier = 1/(1 - MPC)An important number in this formula is the marginal propensity to consume (MPC).It is the fraction of extra income that a household consumes rather than saves.e.g.:If the MPC is 3/4, then the multiplier will be:Multiplier = 1/(1 - 3/4) = 4In this case, a $20 billion increase in government spending generates $80 billion of increased demand for goods and services.Crowding-Out Effect:the offset in aggregate demand that results when expansionary fiscal policy raises the interest rate and thereby reduces investment spending.When the government increases its purchases by $20 billion, the aggregate demand for goods and services could rise by more or less than $20 billion, depending on whether the multiplier effect or the crowding-out effect is larger.e policies to stabilize the economy (automatic stabilizers)Automatic stabilizers are changes in fiscal policy that stimulate aggregate demand when the economy goes into a recession without policymakers having to take any deliberate action.Automatic stabilizers include the tax system and some forms ofgovernment spending.。