Principles of Macroeconomics Summary (complete!) EC1PMA
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Course
Principles of Macroeconomics EC1PMA (EC1PMA)
Institution
Universiteit Utrecht (UU)
Complete summary of the Principles of Macroeconomics EC1PMA course given at Utrecht University from the minor in Economics and the Bachelor of Economics. All articles and chapters in The Core have been processed and clearly explained and displayed.
Major source of unhappiness: unemployment or fear of unemployment.
Reverse causality: does higher unemployment cause more stress, or does more research on
stress cause more unemployment?
Correlation: factors that could provide an explanation for a certain event or observation.
Log series: Instead of having real numbers, use the log of the values on the vertical axis.
Presentation of the ratio scale. Start from the intersect, slope measurements can indicate
the level of growth. Otherwise hard to tell the speed of growth/decline of the economy. A
line tangent to the curve tells the average annual growth rate indicate (un)steady growth.
Economic fluctuations
Business cycles: seen as peaks in graphs with GDP growth in % over time. A second graph
depicting the unemployment rate in % over time can be fitted as well. Not a smooth process.
Recession: two definitions, one says the output of the economy is declining. The other says
that the output level of the economy is lower than its usual level. Recession not over until
output has grown enough to get back to normal. level of judgement.
Interpreting logarithmic scale
Data is a straight line? then the growth rate is constant. (On a ratio scale)
Another method is to convert the data into natural logarithms and then plot it in a scale that
is linear in logs.
Okun’s law
When a country’s output growth is high, unemployment tends to decrease. It can be seen as
a downward slope when the change in unemployment rate is plotted against the real GDP
growth.
- Okun’s coefficient: the change in unemployment in % when output falls by 1%.
E.g. 0,37% more unemployment when output shrinks with 1%.
however, unemployment was higher than predicted. Implying that a country did their
best to protect from job loss.
In a graph, the regression equation is used to calculate the fall in employment with an
according fall in GDP.
Example: Δ𝑢 = 𝛼 + 𝛽(GDP growth)
- U = change in employment
- a = constant
- B = growth coefficient
,GDP = aggregate output. Output of all producers in a country.
National accounts = statistics published by national statistical offices using individual
behaviour info to construct quantitative picture.
Different ways to estimate
1. Spending: all spend by households, firms, government etc.
2. Production: all produced by the industries. complete value added to the economy.
3. Income: entire sum of all received incomes including wages, profits, self-employed
incomes, and taxes received.
Circular flow: GDP can be obtained at the spending, production, or income stage. Circular
flow of capital between, firms and households.
Imports & exports
Disrupt the vision that one’s expenditure is another one’s income. Some money is spent or
received in/from overseas destinations.
Government as producer receives taxes but produced by creating public services and goods
such as healthcare and the servicing of roads.
GDP equation: components
C: consumption includes all goods and services purchased by the households. Durable and
non-durable goods. Intangible goods.
I: Investment is spending by firms on new equipment or commercial activities, residential
and commercial construction. Unsold output that firms produce stocks. Including changes
in stocks is necessity for computing the GDP by output method.
G: Government spending on goods and services. Government transfers are not included,
such as Medicare, social security benefits. Households receive them as income.
X: Exports.
Y: Imports.
X-Y: trade balance. Trade balance is in deficit if the value is negative. Otherwise a trade
surplus.
Y: GDP, aggregate demand for what is produced in a country.
Calculating Change in GDP:
(% change in consumption * share of consumption in GDP)
(% change in investment * share of investment in GDP)
(% change in government spending * share of government spending in GDP)
(% change in net exports * share of net exports in GDP)
________________________________________________________________ +
Percentage change in GDP
Shortcomings GDP as a measure
- No environmental degradation considered.
- Not per capita, growth might not indicate improvements for civilians.
- GDP is a flawed measure of living standards.
,Shock: Finding out you’re out of beer, or in economic terms an unexpected event that
influences the economy.
Household shocks
Self-insurance: households that encounter good times will save, and when luck reverses,
they can spend the extra cash that they held back. They may also borrow in bad times and
pay back in good times.
Co-insurance: households hit by fortune can help struggling households. Done among
neighbours, friends, and families. Has taken the form of paying taxes.
Why?
people prefer a smooth pattern of consumption. Even through shocks people tend to
spend about the same by saving and spending.
households are not solely selfish and tend to help on an altruistic basis.
Economy-wide shock
Co-insurance is less effective when everyone is hit. However, still very helpful for less hit
households to help the ones that are worse off. Usually built on trust, altruism, and norms
like fairness.
Returns to consumption
Consumption has diminishing marginal returns. The returns people feel become smaller
when consumption keeps rising. People rather have an intermediate amount of
consumption rather than a big amount of consumption now and a small amount later.
future buying power can be obtained by borrowing. However, this could reduce or delay
future income as the debt must be paid back. At the same time, consumption remains
constant from the moment of borrowing, during working years the debt is repaid, and
savings accumulate which can be spend in retirement.
Smoothing consumption in case of shock
individual decides whether the shock is temporary or permanent.
permanent shock, consumption jumps to a lower or higher level that reflects the new
long run consumption level, that the individual adopts.
temporary shock, little will change, small fluctuation in income but no effect on lifetime
span.
What prevents individuals from smoothing?
- Difficult to make long term plans, cannot have all information.
- Credit constraints
- Weakness of will, people struggle to carry out the plans they made.
- Limited co-insurance
Credit constraint
People with the highest need to borrow money are most often the ones that are excluded
from such a service.
, Consequences
households that are unable to borrow have a harder time to smooth their consumption.
They cannot borrow and are thus stuck at a lower level of consumption they would
otherwise have escaped if they would have been able to borrow. Instead of borrowing,
having a higher consumption, they got stuck at a lower consumption that only increased
when their income got raised.
households that can borrow, can anticipate on an expected rise in income and are thus
able to jump to a higher consumption level with more ease to smooth out their entire
consumption.
Investment spending: no incentive for smooth spending. Firms invest and generate profits
whenever there is an opportunity. Unlike regular household costs, investment expenditures
can be postponed. investment occurs in waves.
- Investment boom
Investment in tech: possible stock market bubble, over-investment. Beliefs in future high
tech leads to unrealistic expectations.
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