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Summary Macroeconomics
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Second part of Krugman Economics
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Macroeconomics SummaryLecture 1: Ch. 21
Macroeconomics focuses on the behavior of the economy as a whole.
- Microeconomics focuses on how decisions are made by individuals and the
consequences of those decisions
- Macroeconomics examines the overall behavior of the economy, how the actions of
all individual firms in the economy interact to produce a particular level of economic
performance
Thousands of individual actions compound upon one another to produce an outcome that is
not the sum of all individual actions Paradox of thrift
- When families prepare for the possibility of economic depression, they cut spending.
This reduces economic output as consumption decreases, so businesses cut spending
and therefore wages/workers, making everyone worse off.
- When families prepare for the possibility of economic good times, they spend more.
This stimulates the economy, leading to more hiring, expanding the economy
o Preparing for hard time by saving more ends up harming everyone
o Profligate behavior leads to good times for all
The combined effect of individual decisions can have results that are very different from
what anyone individually intended. Greater than the sum of all its actions
Macroeconomists are concerned with policy, and how the government can improve
macroeconomic performance.
- Started in the 1930s during the great depression
o Before it was a self-regulating economy, meaning problems such as
unemployment would be resolved without government intervention
Invisible hand
- Keynes argued a depressed economy is the result of inadequate spending.
o Proposed monetary and fiscal policy
o The idea that managing the economy is a government responsibility
Monetary policy: uses the changes in quantity of money to alter interest rates and affect
overall spending
Fiscal policy: uses changes in taxes and government spending to affect overall spending
Business Cycles
- Recessions are periods of economic downturn, when output and employment are
falling for 2 or more consecutive quarters
o Lowest point is called a business cycle trough
- Expansions are periods of economic upturn, when output and employment are rising
for 2 or more consecutive quarters
o Highest point is called a business cycle peak
Business cycles are the short-run alternation between recessions and expansions
, - The most important impact of a recession is its effect on the ability of workers to find
and hold jobs
o Unemployment rate
- Modern macroeconomics argue that policies should be used to mitigate or “smooth
out” the effects of the business cycle, specifically recessions
Long Run Economic Growth
People nowadays are able to afford many other things in comparison to earlier time, this is a
result of long-rung economic growth (think washing machines in 1905, or flying in the
1970s)
The sustained rise in the quantity of goods and services the economy produces
o Part of long-run economic growth is accounted for the growing population
and workforce
Inflation and Deflation
- Inflation refers to a rise in the overall level of prices
o Discourages people to holding onto cash, as it loses value over time
- Deflation refers to a fall in the overall level of prices
o Encourages people to hold on to cash as it will gain value over time
Price stability where the overall level of prices is not changing, or changing slowly. This is
a desirable goal for macroeconomists.
International Imbalances
Open economy: trades goods and services with other countries
- Trade between economies has not always been balanced, as sometimes they buy
(import) more goods than they sell (export)
o When the value of goods and services bought from foreigners is more than
the value sold to them, the country is running a trade deficit
o When the value of goods and services bought from foreigners is less than the
value sold to them, the country is running a trade surplus
- These are macroeconomic phenomena, there is no simple relationship between
economic performance and the countries accounts
o Deficits and surpluses are determined by savings and investment spending
,Lecture 2: GDP and CPI Ch.22
- National accounts keep track of the flows of money between different sectors of the
economy
o Accounts include spending, sales, investments, government purchases and
others.
Not all income earned by households is spent, some turns into taxes via income tax or VAT
while another part is usually saved or invested, which goes into the financial markets.
- Government transfers are payments by the government to individuals for nothing in
return (social security benefits)
- Disposable income is whatever is left after paying taxes and receiving government
transfers (= salary – taxes + government transfers)
- Private savings = disposable income – consumer spending
- Financial markets refer to banking, stock and bond markets, where private savings
and foreign lending turns into investment spending, government borrowing or
foreign borrowing
Spending does not only mean consumption, it also includes investment by firms,
government purchases, exports and imports (GDP= C + I + G + (X-I))
Inventories are stocks of goods and raw materials that firms hold to facilitate operations
- Finished product to ship to stores
- Raw materials to produce
Investment spending refers to spending on productive physical capital, like machinery or
buildings
- Inventories are included in investment spending because they affect the ability of a
firm to make future sales, just like technology
, GDP and Final/Intermediate goods
- A consumer buying a car is an example of a purchase of a final good, however a
purchase of steel by the producer for the production of that car is an example of a
purchase of an intermediate good. goods that are inputs for production
- GDP is the total value of all final goods and services during a year (three ways to
calculate)
o Aggregate spending adds up the total expenditure in an economy. (GDP=
C+I+G+X-I)
o Income approach adds all the income earned within the borders of a country
in a year, including wages, rents, interest, and dividends.
o Value added approach adds up the value of all the final goods and services
produces. It takes the value of sales and subtracts the cost of intermediate
goods
- Not included in GDP: used goods, inputs, financial assets (stocks, bonds)
- GDP is a good measure for the size of the economy while comparing it to past years
and other countries, however it does not take into account changes in price levels,
therefore Real GDP
Aggregate output is the total quantity of final goods and services the economy produces,
not the total value, but the total output
- Real GDP is the total value of final goods and services calculated as if prices had
stayed constant at the level of some given base year.
o Chained dollars refers to the method of calculating changes in real GDP using
the average between growth rate calculated with an early base year and
growth rate calculated using a late base year
- Nominal GDP is the GDP in current prices
- GDP per capita is GDP divided over the size of the population, equal to the average
GDP per person
o Helps comparison between countries as it takes away the population factor
o However it does not mean good living standards, as society has to make good
use of the increased potential to improve living standards
Price indexes
- Price indexes measure the cost of purchasing a given market basket in a given year,
where that cost is normalized so that its equal to 100 in a base year
- Aggregate price level is a measure of the overall level of prices in the economy
- Market basket is a hypothetical set of consumer purchases of basic goods and
services
- CPI - Consumer price index measures the cost of the market basket of a typical
American family
o Includes medicine, housing, food, transportation, education and others
- Consumer prices are the basis for measuring inflation, the inflation rate is the
percentage change per year in a price index, usually CPI
There are other measures to track prices, such as PPI or the wholesale price index.
- Measures the cost of a typical basket of goods purchased by producers
o Includes steel, coal, electricity and others
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