MACROECONOMIC MEASURES
WHAT THEY ARE & HOW TO USE THEM
Chapter 21, 22, 26
Outline
• GDP
• Comparing GDP across Time
• Inflation
• Real Interest Rates
Gross Domestic Product
Quantity Aggregates
• To understand the macroeconomy, we need to
measure it.
Chief measure of economy is the level of production: GDP
• We need to combine the many goods produced or
consumed in an economy into one measure.
+
+
+
+
=?
All goods sold in an economy
share a common unit of
measure: the price at which
they are sold.
Sum up
the value
of goods
Gross Domestic Product (GDP)
• GDP is the sum of the value of new, final goods
produced within the domestic borders of an
economy.
Final goods are goods sold to their end-users
Three Methods for Calculating GDP
Expenditure Method - The sum of the
domestic spending on final goods (less
domestic demand satisfied by imports).
2. Production Method - The value added created
in all the sectors of the economy.
3. Income Method – The Wage, Rent, Interest
and Profit Income generated by the domestic
economy.
1.
Income=Expenditure=Value Added
• Value of final good expenditure is equal to
value added at each stage of production.
(Expenditure = Value Added)
• Value Added would be paid to workers,
creditors, or kept as profits.
(Income = Value Added)
Expenditure Approach
GDP = Consumption + Investment + Exports – Imports
Purchase of Final goods by end users are divided into two categories:
Consumption:
A. Personal Consumption Expenditure (durables,
nondurables & services);
B. Government Consumption Expenditure
(nondurables & services);
2. Investment:
A. Gross Fixed Capital Formation (structures &
equipment both public & private)
B. Change in Inventories
1.
Some Asian Expenditure Shares: 2010
People’s Republic of China
1
90
0.9
80
0.8
70
0.7
60
0.6
50
0.5
40
0.4
30
0.3
20
0.2
10
0.1
0
1
0
2
Japan
3
4
5
Republic of Korea
6
7
8
9
-10
Household consumption expenditure
General government final consumption expenditure
Gross fixed capital formation
Changes in inventories
Source: United Nations Main Aggregates Database
10
Reconciliation
Year: 2013
HK$ million
GDP
Private consumption expenditure
Government consumption expenditure
Gross domestic fixed capital formation
Changes in inventories
Absorption
2,125,353
1,404,527
197,951
507,106
-2,296
2,107,288
HK$ million
Exports of goods (f.o.b.)
Exports of services
Imports of goods (f.o.b.)
Imports of services
Net Exports
GDP = Consumption + Investment + Exports – Imports
Exports – Imports = Net Exports <> 0
Hong Kong Census and Statistics
3,816,390
1,063,231
4,394,928
466,628
18,065
Hong Kong Consumer Spending
(by Category) 2011
Food
Durables
Non Durables
Services
13%
12%
53%
22%
Hong Kong Census and Statistics
PCE by Category Hong Kong 2011
Education
2%
Other Services
20%
Food & Non-alcoholic
Beverages
13%
Recreation &
Entertainment
7%
Alcoholic Beverages
1%
Tobacco
1%
Clothing, Footwear & Other
Personal Effects
16%
Rent, Rates, Water &
Housing Maintenance
14%
Transport &
Communications
8%
Medical Care & Health
Expenses
Personal Care
4%
4%
Household Operation
2%
Furniture, Furnishings &
Household Equipment
7%
Fuel & Light
1%
Hong Kong Census and Statistics
GCE by Category 2011
Sales by Non Trading
Govt Dept
10%
Purchases of Goods &
Services
33%
Compensation of
Employees
57%
Hong Kong Census and Statistics
GFCF by Category 2011
Machinery, Equipment and
Computer Software: Public
4%
Building and Construction:
Private
24%
Machinery, Equipment and
Computer Software: :
Private
50%
Building and Construction:
Public
14%
Costs of Ownership
Transfer
8%
Hong Kong Census and Statistics
Production Method
• At the plant level,
Value added = Sales + Change in inventories
- materials, intermediate inputs and energy costs.
• GDP is the sum of VA across establishments.
• The value of a final good is equal to the value
added at each stage of production.
Sector
Source: United Nations Main Aggregates Database
Other Activities (ISIC J-P)
Transport, storage and
communication (ISIC I)
Wholesale, retail trade,
restaurants and hotels (ISIC
G-H)
Construction (ISIC F)
by
Manufacturing (ISIC D)
Added
Mining & Utilities
Value
Agriculture, hunting, forestry,
fishing (ISIC A-B)
HK:
60
50
40
30
20
10
0
2010
1970
Table 035
Economic Activity
Agriculture, fishing, mining and quarrying
HK$ Mn
2011 p
944
Manufacturing
31,095
Electricity, gas and water supply, and waste management
33,336
Construction
64,527
Services
1,771,154
Import/export, wholesale and retail trades
484,338
Import and export trade
N.A.
Wholesale and retail trades
N.A.
Accommodation and food services ^
Transportation, storage, postal and courier services
68,598
119,576
Transportation and storage
N.A.
Postal and courier services
N.A.
Information and communications
63,078
Financing and insurance
314,446
Real estate, professional and business services
213,864
Real estate
N.A.
Professional and business services
N.A.
Public administration, social and personal services
310,752
Ownership of premises
196,502
GDP at basic prices
1,901,056
Taxes on products
69,656
Statistical discrepancy (%) @
-1.8
GDP at current market prices
1,935,195
Income Approach to Measuring GDP
Value Added distributed as income to Employees,
Owner/Creditors, & Gov’t
1. Compensation of employees (Wages, Benefits)
2. Net operating surplus (Profits, Net Interest, Rental
Income)
3. Taxes on Production
Value Added 2010 1.58 Trillion HK$
Compensation of employees
Gross operating surplus
Taxes on production
Value Added
Compensation of employees
Gross operating surplus
Taxes on production
19
1,606,092
828,139
753,171
24,782
1%
47%
52%
National Income vs. Domestic Income
GNI
Gross National Income
GDI
Gross Domestic Income
= income earned by
= income created within
national residents
domestic borders.
GNI = GDI +NFI
• Net Factor Income [NFI] is income earned on overseas
work or investments minus income generated
domestically but paid to foreigners.
Comparing GDP levels across time
• GDP measures the value of the goods produced by
an economy by using the market price of each
good to assign it a value.
• Problem: Prices of goods in terms of money are
changing overtime making comparisons in overall
value difficult.
• Bias: Money prices are growing over time as
money supply grows.
• Solution: Choose a Base Year’s prices as a fixed
yardstick of value for different goods.
Real GDP: Yt
• GDP aka Nominal GDP aka Current
Dollar GDP is the weighted sum of the
number of goods produced using their
current prices as the weight.
• Real GDP aka Constant Dollar GDP aka
GDP adjusted for inflation is the weighted
sum of the number of goods produces
using the Base Year prices as yardsticks.
Calculating Real GDP
• Divide GDP into k = 1….K categories.
• Survey dollar value of goods produced at time t for
each of k categories vtk  Pt k  qtk
Pt k
k
• Survey average prices of goods of type k relative
PBASE
to a base year.
• Divide value of each good by the relative price
k
Base
k
t
P
Yt   k v 
P
k
t
 k P
k
k
Base t
q
Solved Problem
Real GDP: 2010 (2009 Base Year)
2010
P
q
2009
P
q
Kitkat
8
150
6
135
M&Ms
10
150
4
135
Nominal GDP
Real GDP
8*150+10*150 = 2700 6*135 + 4*135 = 1350
6*150 + 4*150 = 1500 6*135 + 4*135 = 1350
Real GDP vs. Nominal GDP
Hong Kong GDP 1961-2013
2,500,000
Million HK$
2,000,000
1,500,000
1,000,000
500,000
0
GDP At current market prices
GDP In chained (2012) dollars
Source: United Nations Main Aggregates Database
Inflation
Price Indices: Pt
• Two most commonly used price indices are GDP
Deflator and Consumer Price Index (CPI)
• The GDP deflator is the ratio of nominal GDP to Real
GDP (multiplied by 100).
Nominal GDP
P  GDP Deflator 
100
Real GDP
GDP
P
100
Y
Consumer Price Index
• The CPI is the price of a representative market
basket of goods relative to the price of that same
basket during a benchmark/base year (multiplied by
100).
Cost of Market Basket in year t
CPI t 
100
Cost of Market Basket in Base year
Dec, 1980
Sep, 1981
Jun, 1982
Mar, 1983
Dec, 1983
Sep, 1984
Jun, 1985
Mar, 1986
Dec, 1986
Sep, 1987
Jun, 1988
Mar, 1989
Dec, 1989
Sep, 1990
Jun, 1991
Mar, 1992
Dec, 1992
Sep, 1993
Jun, 1994
Mar, 1995
Dec, 1995
Sep, 1996
Jun, 1997
Mar, 1998
Dec, 1998
Sep, 1999
Jun, 2000
Mar, 2001
Dec, 2001
Sep, 2002
Jun, 2003
Mar, 2004
Dec, 2004
Sep, 2005
Jun, 2006
Mar, 2007
Dec, 2007
Sep, 2008
Jun, 2009
Mar, 2010
Dec, 2010
Sep, 2011
Jun, 2012
Mar, 2013
Dec, 2013
Sep, 2014
140
120
100
80
60
40
20
0
Composite Consumer Price Index
GDP: SNA08: Chain Linked (CL): 2012p: Implicit Price Deflator
Hong Kong’s History of Prices
Q: What is Inflation?
A: The Growth Rate of Price Level
Pt  Pt 1
 t %  Inflation Rate 
x100%
Pt 1
•What is the CPI inflation rate in Candyland in
2010 using 2009 as the base year?
• Inflation: prices are growing
• Disinflation: inflation is slowing down but still positive
• Deflation: inflation is negative and prices are actually
dropping.
Hong Kong CPI
Inflation
14
Disinflation
12
10
8
Deflation
4
2
20
08
20
06
20
04
20
02
20
00
19
98
19
96
19
94
19
92
19
90
19
88
-4
19
86
-2
19
84
0
19
82
%
6
-6
http://www.imfstatistics.org/imf/
Adjusting for Inflation
•
•
•
•
•
We can use price indices to “adjust for
inflation” - converting values measured in
money into values measured in terms
purchasing power of some reference year, r.
Measured in $, observed at time t: Nt
Price level at time t: Pt
Price level in reference year: Pr
Measure adjusted for inflation – N r$
t
N
r$
t
Pr
 Nt 
Pt
Housing Price: Hong Kong Island
• Class E Housing is $215,963 per m2 in June 2015. In June,
1982, the same cost $15,078. The Hong Kong CPI
(2010=100) was 32.3 in June 1982 and 123.1 in June 2015.
• Calculate:
N
r$
t
CPI r
123.1
 Nt 
 $15, 078 
 $57, 464.45
CPI t
32.3
• In purchasing power terms, luxury housing in 2015 is almost 4
times as expensive as in 1982!
Link
Hong Kong Department of Census and Statistics.
Quantity Theory
• Simplest monetary theory is the Quantity Theory of
Money.
• Purchasing power of money is equal to the quantity of money (Mt)
times the speed of circulation (V, # of transactions)
• Purchasing power means # of goods (Yt) multiplied by price per
good (Pt)
Pt * Yt =
Moneyt * Velocity
MONEY SUPPLY THE STOCK OF THE MEDIUM OF EXCHANGE.
Types of Financial Assets
M1
Currency in Hands of the Public [C] + Demand
Deposits [D]
M2
M1 + Savings Deposits + “Small” Time Deposits +
[Liquid Money Market Instruments inc/ “Small” NCD’s]
M3
M2 + LTD [“Large” Time Deposits and NCD’s]
Monetary Aggregates in HK
8,000,000
7,000,000
5,000,000
4,000,000
3,000,000
2,000,000
1,000,000
M1
M2
HKMA Monthly Statistical Bulletin
M3
Jan-09
Jan-07
Jan-05
Jan-03
Jan-01
Jan-99
Jan-97
Jan-95
Jan-93
Jan-91
Jan-89
Jan-87
0
Jan-85
HK$ Million
6,000,000
Rule of Thumb
• Rule of Thumb The growth rate of product is
approximately equal to the sum of the growth rates of the
elements of a product.
Z t  X t  Yt  g  g  g
Z
t
X
t
Y
t
Z t  Z t 1
g 
Z t 1
Z
t
Money and Inflation
• Assuming stable velocity
g  g  t
M
t
Y
t
t  g
P
t
• Inflation occurs when money growth speeds ahead of
output growth. The unbounded creation of fiat money
leads to inflation which ultimately will make the money
worthless.
Money Growth & Inflation: 1975-1994
Inflation & Money OECD Countries
0.2
0.18
Average Inflation Rate
0.16
0.14
0.12
0.1
0.08
0.06
0.04
0.02
0
0
0.02
0.04
0.06
0.08
0.1
0.12
Average Money Growth
0.14
0.16
0.18
ADJUSTING INTEREST
RATES FOR INFLATION
Interest Rates
• Hong Kong HKMA
• HIBOR
• Exchange Fund Bill &
Note Yields
• Best Lending Rate
• Government Bond Rates
• USD FRED
• LIBOR
• T-Bills
• Prime
• Treasury Constant
Maturity
• Corporate Bonds
Adjusting Interest Rates for Inflation
• Nominal rate represents how much money you
will receive after 1 year for giving up 1 dollar
of money today
• Real rate represents how many goods you can
buy if you give up the opportunity to buy 1
good today.
• Nominal interest rate is money interest rate.
Real interest rate is goods interest rate.
Real Interest Rate
• The real interest rate on the loan is defined as the
future goods received relative to current goods
foregone
$1  i
$1  i
Pt+1
1
1  rt 

$1
Pt+1
Pt
Pt
1  it
1  rt 
 rt  it   t 1
1   t 1
1/1991
6/1991
11/1991
4/1992
9/1992
2/1993
7/1993
12/1993
5/1994
10/1994
3/1995
8/1995
1/1996
6/1996
11/1996
4/1997
9/1997
2/1998
7/1998
12/1998
5/1999
10/1999
3/2000
8/2000
1/2001
6/2001
11/2001
4/2002
9/2002
2/2003
7/2003
12/2003
5/2004
10/2004
3/2005
8/2005
1/2006
6/2006
11/2006
4/2007
9/2007
2/2008
7/2008
12/2008
5/2009
10/2009
3/2010
8/2010
1/2011
6/2011
11/2011
%
Looking Backward
HK Interest Rates
20
15
10
5
0
-5
-10
Ex Post Real 12 Month HIBOR (CPI Adjusted)
12 Month HIBOR
HKMA, Hong Kong Department of Census and Statistics.
Looking Forward
• Borrowing and lending decisions must be
based on forecast of future inflation: Ex Ante
Real Rate
IMF World Economic Outlook
Forecast
Forecasts
• Ibond Yields
• Consensus Forecasts
• Central Bank Forecasts
6
5
Hong Kong SAR
4
%
Korea
3
Singapore
2
Taiwan Province of
China
1
0
2010
2011
2012
2013
2014
Ex Ante Rate and the Fisher Effect
• Savings and investment decisions must be
made before future inflation is known so they
must be made on the basis of an ex ante
(predicted) real interest rate.
• Fisher Hypothesis: Ex ante real interest rate is
determined by forces in the financial market.
Money interest rate is just the real ex ante rate
plus the market’s consensus forecast of
inflation.
it  rt EA   tFORECAST
1
Great Inflation of the 1970’s
US Inflation Rates & Interest Rates
18.00
16.00
14.00
%
12.00
10.00
Interest Rates
Inflation
8.00
6.00
4.00
2.00
Source: St. Louis Federal Reserve Fred Data
Mar-03
Mar-00
Mar-97
Mar-94
Mar-91
Mar-88
Mar-85
Mar-82
Mar-79
Mar-76
Mar-73
Mar-70
Mar-67
Mar-64
Mar-61
Mar-58
Mar-55
0.00
Great Inflation Download
Fisher Effect:
OECD Economies Great Inflation of 1970’s
20
18
Interest Rates-1984
16
14
12
10
8
6
4
2
0
0
2
4
6
8
10
12
Average Inflation 1970-1984
14
16
18
Midterm Exam
• Friday, November 27th, 2015; 10:00-10:30 am
• Class begins at 9:30 as usual. Break for test at 10.
Resume class at 10:40.
• Bring writing materials, calculator and handwritten notes
on one side of one A4 page.
• Coverage: Modules 1-4. Only material covered in class.
• Format: Multiple choice, short answer, calculation,
graphing. See practice mid-term.
Learning Outcomes
Students should be able to:
• Explain the different methods of calculating GDP
• Calculate simple real aggregates like real GDP.
• Use price indices to calculate inflation rates.
• Adjust nominal series for inflation.
• Use the Quantity Theory to explain inflation
• Define and calculate real ex post and ex ante real interest rates.