The document contains notes for introduction to macroeconomics for year 1 semester 1. The notes were specifically designed keeping in mind the open book nature of the exam, and can be printed out and taken to the exam.
GDP deflator: ( ) $Y
Y
∗100 … measures the general price level of an economy in a given period of time. Assesses
inflation.
CPI: Measure of the general level of prices consumers have to pay (final retail price for a good, which includes tax
duties)… takes a basket of goods and services that represents the typical spending of a household in the economy.
Measure changes in ‘cost of living’ essentially.
PPI: Measure of the price intermediate output is sold (kind of measuring cost-push inflation).
PPP: correction of exchange rate to take into account differences in the general price level across countries.
PPP can be calculated using any price index (e.g. CPI)… best to use countries that have similar basket of goods.
These can be used to calculate the rates of real GDP growth and inflation (where Π and 𝜋 denote the gross and net
inflation rate, respectively).
, nominal GDP net growth = real GDP net growth + net inflation
Three methods to evaluate GDP:
Expenditure
Value added at each intermediate stap of the production process
Income
GDP per capita = y Average disposable income = y d
Income distribution and inequality between top 10% of income earners and bottom 90%:
,
,Lorenz curve market line represents the actual incomes, as produced by market forces, before government intervention
in the form of taxes etc.
, lower the better.
Institutions: the laws and informal rules that regulate social interactions among people and between people and the
biosphere
Private Property: an institution which allows u to enjoy ur possessions however u choose, exclude others from their use,
dispose of them by gift or sale.
Capitalism = Private Property + Markets + Firms
Dominated Technologies: more of both inputs needed to produce the same level output
Isocost lines are constructed to compare the costs of all combinations of inputs. combinations of inputs that give the
same cost (slope = relative price of inputs).
The relative price of labour tells us how much the firm has to reduce coal purchases to maintain the same total costs if
one more labourer had been hired. It is also the slope of the isocost line.
Innovation rent: change in profit is equal to the fall in costs associated with adopting the new tech
Malthusian Model:
, Indifference curves show all combinations of goods that give the same utility. Higher curves correspond to higher utility
levels. They do not cross.
Marginal Rate of Substitution represents the trade-off that a person is willing to make between two goods. It tells us
how many units of one good (final grade) the individual is willing to sacrifice to get one more unit of the other good
(free time) and keep the same level of utility, at any point on the indifference curve. It is the slope of the indifference
curve.
Feasible frontier: Shows the maximum output that can be achieved with a given amount of input.
Marginal Rate of Transformation (MRT): slope of the feasible frontier and represents the opportunity cost of an addition
unit of free time (in terms of foregone grade).
Feasible set: the area under the feasible frontier (including the frontier itself) that shows all the feasible combinations of
free time and final grade. Only combinations on the feasible frontier will be chosen.
When modelling how a consumer makes a choice, given their preferences and constraints, when the things they value
are scarce, there are 2 key ingredients:
Indifference curves (MRS shows the trade-offs the individual is willing to make)
Feasible frontier (MRT shows the trade-offs the individual is constrained to make)
The student achieves the highest utility where the 2 trade-offs just balance – where MRS = MRT (where the 2 curves are
tangent)
A wage rise produces two opposite effects:
1. It raises the income for each level of free time, expanding the feasible set and increasing the level of utility
that can be achieved (income effect):
a. A wage rise means that the wage earner can get more income for every one hour worked (budget
constraint shifts upwards).
b. As a result, they are more willing to sacrifice consumption for extra free time, since they can earn and
thus consume more for a given amount of free time.
c. This happens because their feasible set has expanded.
d. The wage earner responds to additional income by taking more free time as well as increasing
consumption. This is called the income effect.
2. It increases the opportunity cost of free time and makes the budget constraint steeper (substitution effect):
a. A wage rise means that the wage earner loses more income for every one hour NOT worked.
b. As a result, they are less willing to sacrifice consumption for extra free time, since the opportunity cost
of free time is higher.
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