MACROECONOMICS!
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Macroeconomics: the study of
the economy as a whole.
• Goals:
1.Measure health of the
economy
2.Guide government policy
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For all countries there are
three major policy goals:
1.Promote Economic Growth
2.Limit Unemployment
3.Limit Inflation
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Goal #1
Promote Economic Growth
How does a country measure
economic growth?
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How do we know how well the economy is
doing?
• Economists collect statistics on production,
income, investment, and savings.
The most famous statistic is GDP.
Gross Domestic Product (GDP): the dollar value of
all final goods and services produced within a
country’s borders in one year.
• *Final Goods - GDP does not include the
value of intermediate goods (goods used in
the production of final goods and services)
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What does GDP tell us?
Basically, how much wealth a country produces
Uses of GDP
1. Compare to previous years (Is there growth?)
2. Compare policy changes (Did a new policy work?)
3. Compare to other countries (Are we better off?)
Countries by GDP (2014)
We’re number 1!
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World map – land area
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World map – population
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World GDP Distribution
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World GDP Distribution
Nominal GDP – 2014 rankings
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U.S. State Rankings – Gross State Product
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The GDP of US states is comparable to entire countries
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How can we measure economic
growth?
% Change
in GDP
=
Year 2 - Year 1
Year 1
X 100
Mordor’s GDP in 2007 was $4000
Mordor’s GDP in 2008 was $5000
What is the % Change in GDP?
Transylvania’s GDP in 2007 was $2,000
Transylvania’s GDP in 2008 was $2,100
What is the % Change in GDP?
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What is NOT included in GDP?
1. Intermediate Goods
• No Multiple Counting, Only Final Goods
• EX: Price of finished car, not the radio,
tire, etc.
2. Nonproduction Transactions
•Financial Transactions (nothing produced)
•Ex: Stocks, bonds, Real estate
•Used Goods
•Ex: Old cars, used clothes
3. Non-Market (Illegal) Activities
•Ex: Illegal drugs, unpaid work
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Calculating GDP
Two Ways to calculate GDP:
1. Expenditures Approach - Add up all
the spending on final goods and
services produced in a given year.
2. Income Approach - Add up all the
income from sales of final goods and
services
*Same result; all money spent is
income to someone else
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Expenditures Approach
Four components of GDP:
1. Consumer Spending
Ex: $5 Little Caesar's Pizza
2. Investment Spending - When businesses put
money back into their own business.
Ex: Machinery or tools
3. Government Spending
Ex: Bombs or tanks, NOT social security
4. Net Exports - Exports (X) – Imports (M)
Ex: Value of 3 Ford Fiestas minus 2 Honda Civics
GDP = C + I + G + Xn
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Calculating GDP
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Included or not Included in GDP?
For each situation, identify if it is included in
GDP the identify the category C, I, G, or Xn
1. $10.00 for movie tickets
2. $5M increase in defense spending
3. $45 for a used economics textbook
4. Ford makes new $2M factory
5. $20K Toyota made in Mexico
6. $10K profit from selling stocks
7. $15K car made in US, sold in Canada
8. $10K Tuition to attend college
9. $120 Social Security payment to Bob
10.Farmer purchases new $100K tractor
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Nominal GDP vs.
Real GDP
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How can you figure out which is the most
popular movie of all time?
What is the problem with this method?
Nominal Box Office Receipts
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How can you figure out which is the most
popular movie of all time?
Real Box Office Receipts (adjusted for inflation)
The Problem with GDP
If a country’s GDP increased from $4 Billion to $5
Billion in one year, is the country experiencing
economic growth? Did the country definitely
produce 25% more products?
What is Inflation?
• A rising general level of prices
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Warm Up
Answer the following with your neighbor:
1. What is Macroeconomics?
2. What is GDP?
3. What are the four main components
of GDP (using the expenditures
approach)?
4. What’s NOT included in GDP?
5. What’s the difference between
nominal and real GDP growth?
6. What’s the best movie of all time?
1.What’s Macroeconomics?
2.What is GDP?
3.What are the four main
components of GDP?
4.What’s NOT included in GDP?
5.What’s the difference between
Nominal and Real GDP?
6.What’s inflation?
7.What’s the best movie of all time?
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Real vs. Nominal GDP
Nominal GDP is measured in current prices.
Doesn’t account for inflation
Real GDP is expressed in constant, or
unchanging, dollars
Real GDP adjusts for inflation.
REAL GDP IS THE BEST MEASURE OF
ECONOMIC GROWTH
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Real vs. Nominal GDP
2013
The GDP in year 2013 shows
10 cars at $15,000 each = $150,000
the dollar value of all final
10 trucks at $20,000 each = $200,000
goods produced.
Nominal GDP = $350,000
The nominal GDP in year
2014 is higher, which
suggests that the economy
2014
10 cars at $16,000 each = $160,000 is improving.
10 trucks at $21,000 each= $210,000
Nominal GDP = $370,000
2014
But did the economy really
grow? How can we find
out?
Use 2013 Prices
10 cars at $15,000 each = $150,000
10 trucks at $20,000 each= $200,000 2014 GDP is the same as
REAL GDP = $350,000
2013 GDP after the inflation
adjustment
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Real GDP “deflates” nominal GDP by adjusting
for inflation in terms of a base year prices.
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Does GDP accurately measure
standard of living?
Example: Norway and Nigeria have roughly
the same GDP ($500 Billion). Is Nigeria
as wealthy as Norway?
• Two adjustments:
–1) divide GDP by population (GDP
per capita)
–2) adjust for cost of living – PPP
(Purchasing Power Parity)
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Country rankings – GDP per capita (PPP adjusted)
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Why are some countries wealthier than others?
1. Economic System and Institutions
Capitalism vs. fascism, socialism, totalitarianism
Good governance vs. corruption
2. Physical Capital
Ex: Machinery, tools, and man-made resources.
Example#1: Bangladesh has over 100 million people but
relatively few capital resources => poverty
3. Human Capital
An educated, knowledgeable workforce is more
productive – E.g. Japan is wealthy despite limited
natural resources
4. Natural Resources
Ex: Mauritania is mostly barren desert
Where-To-Be-Born Index (WTBBI)
Even better than GDP (PPP) per capita!
WTBBI Includes:
• Average Income
• Life expectancy
• Divorce rates
• Political freedoms
• Corruption
• Climate
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Bottom 10
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Warm Up
According to results from a Gallup poll of
over 140,000 people in 143 different
countries, the happiest* country in the world
is Paraguay. Paraguay ranks 110th in the
world in GDP per capita and 111th on the
Human Development Index. How do you
explain this apparent discrepancy?
*The survey defines happiness as “experiencing
positive emotions on a daily basis”
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THE BUSINESS
CYCLE
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The Business Cycle
• The Business Cycle describes
the fluctuations in economic
activity (as measured by real
GDP) that a national economy
experiences over time
The Business Cycle
Peak
Peak
Trough
Expansion
• During a period of expansion:
–Wages increase
–Unemployment is low
–Consumers spend more money
–High demand for goods/services
–More businesses are launched
–Getting a loan is easier
–Businesses make more profits and
stock prices rise
Peak
• When the business cycle peaks:
–The economy stops growing
–Real GDP reaches a maximum
–Businesses stop expanding
and hiring workers
–Economy begins to contract
Contraction
Contraction
• During a period of contraction:
– Businesses cut back production and
lay off workers
– Unemployment increases
– Wages fall
– Consumers become pessimistic
about the economy and decrease
spending
– Banks cut back on lending
Trough
• When the business cycle reaches a
trough:
– Real GDP “bottoms-out” (reaches a low
point)
– High unemployment and low spending
– Stock prices drop
On the bright side, when an economy
bottoms out, there’s nowhere to go
but up!
Recession and Depression
• A prolonged contraction is called a
recession (contraction for over 6 months)
• A really prolonged recession (generally a
year or more) is called a depression
Causes of the Business Cycle
1.External “shocks” to the economy
• e.g. sharp changes in oil prices,
wars, droughts
2.Financial crises
• e.g. the Great Depression and
Recession