Chapter 13 – Macroeconomics, the level of overall economic activity, p. 155-169
Macroeconomics: the study of a national economy
The five main macroeconomic goals:
Variable
Economic growth
Employment
Price stability
External stability
Income distribution
Macroeconomic Objective
A steady fate of increase of national
output
A low level of unemployment
A low and stable rate of inflation
A favourable balance of payments
position
An equitable distribution of income
At a very simplistic approach there are two sectors to a nation’s economy, the
households, and the firms.
Households: are the people who buy the nation’s output of goods and
services and the owners of all of the economy’s factors of production.
Firms: hire the factors of production from households and use these factors
to produce the nation’s output of goods and services.
Households provide the factors of production and receive income. They buy the
goods and services produced by the firms by using the income received, and in this
way the income circulates throughout the economy.
However, this is only a simplistic approach. Households do not spend all of the
money that they receive. In China, for example only around 35% is spent, due to the
lack of social security. This is known as a leakage. If households do not consume all
the output produced, firms will reduce their output. As a result fewer factors of
production are used and less income is paid to the households. Thus saving will
cause the amount of income circulating in the economy to fall. Firms can also
borrow money from financial institutions, and use the money to increase their stock
of capital and expand their output. This is an investment, and an injection to the
circular flow of income. Leakages cause the income circulating in the economy to all,
injections cause the income in the economy to rise.
Other sources of income flow in the economy are:
- Imports and exports
- Government sector
Government spending does NOT include transfer payments, e.g. pensions,
unemployment benefits, and child allowance payments.
Conclusions:
- The economy is in equilibrium where leakages are equal to injections
- If leakages rise, without a corresponding increase in injections, then national
output will fall to a new equilibrium, as there will be less income circulating
- I injections rise with no corresponding rise in leakages, then the economy will
move to a new equilibrium, as there will be more income circulating
How to measure national income:
- Most common used measure is GDP, gross domestic product, to calculate there
are three different possibilities:
1. The output method:
This measures the actual value of the goods and services produced. The data is
usually grouped according to the different production sectors: agriculture and
mining (primary sector), manufacturing (secondary sector), and services (tertiary
sector).
2. The income method:
This measure the value of all the incomes earned in the economy
3. The expenditure method:
This measure the value of all spending on goods and services in the economy.
Calculated by summing up the spending by all the different sectors in the economy:
o Spending by the households, known as consumption (C)
o Spending by the firms, known as investment (I)
o Spending by governments (G)
o Spending by foreigners on exports minus spending on imports. Known as
net exports (X – M)
All methods measure the same, and all have inevitable flaws in their data collection
Two definitions for GDP are: it is the total value of all final goods and services
produced in an economy in a year (output method). It is the total value of all
spending in the economy, algebraically expressed as GDP = C + I + G + (X - M) .
National output = National income = National expenditure
GDP can also be defined as the total of all economic activity in a country, regardless
of who owns the productive assets
GNI (gross national income), is defined as the total income that is earned by a
country’s factors of production regardless of where the assets are located.
GNI = GDP + net property income from abroad
Throughout the course of a year a country’s capital stock will lose some of its value.
This is known as depreciation of capital or capital consumption. Either the
production damages the capital, or the capital is just ‘used up’. The GDP does not
take this into account, the measure that does is net national income (NNI); this is a
more realistic view of the real economic activity of a country. In practice it is very
difficult to account for depreciation.
NNI = GNI - depreciation
Nominal GDP and real GDP, whenever the word ‘real’ is used in front of an economic
variable it means that the variable has been adjusted for inflation. Thus;
REAL GDP = NOMINAL GDP adjusted for INFLATION
GDP per capita is measured to give a broad value of how much income is earned by
an individual in the economy. It is measured by using the GDP value and dividing it
by the total population of the economy, and mostly used to compare different
countries in terms of rising living standards.
National income is fairly simple to define, but do compile accurate accounts is
extremely complicated and expensive. There are guidelines set by the UN as to how
to account for national income and gather statistics (national income statistics, NIS).
The statistics found are used in many ways:
- NIS can be seen as a countries ‘report card’, people use the statistics to see
whether or not the government has achieved its goal of macroeconomic growth
- Governments use the NIS to develop policies
- Economists use the NIS to develop models of the economy and make forecasts
- The performance of an economy over rime can be analysed (using real data)
-
NIS can be used as a basis of evaluating for rising living standards
NIS are used as a basis for comparing countries
Limitations of the data:
- Inaccuracies
- Unrecorded or under-recorded economic activity – informal markets:
- External costs
- Other quality of life concerns
- Composition of output
Green GDP
Green GDP is a measure of GDP that takes into account any environmental costs
incurred from the production of the goods and services included in the GDP figures:
Green GDP = GDP - environmental costs of production
Environmental costs include costs such as: health, agricultural and industrial costs
caused by air pollution and water pollution, or costs of waste disposal and the costs
of clearing up any environmental damage.
The business cycle:
Note:
For better diagram go back to
book, p. 166 plus 167