Notesale: Turn your study into money

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MACROECONOMICS
Chapter 24 – Measuring a nations’ income
•
•

Microeconomics is the study of how individual households and firms make decisions and how they interact with
one another in markets
...


Its goal is to explain the economic changes that affect many households, firms and markets at once
...

•
•
•

Output is valued at market prices
Includes both tangible goods and intangible service
Records only the value of final goods, not intermediate goods
...

–

Consumption goods & capital goods

–

do not undergo any further transformation or changes in the production process

Intermediate Goods: goods and services used up as inputs into the production of final goods and services
...

•

GDP only measure Final Goods as it already includes the value of ALL intermediate goods
...


Measurement of GDP
•

Includes goods and services currently produced, not transactions involving goods produced in the past
...
in a given period of time
...


•

GDP includes all items produced in the economy and sold legally in markets

GDP vs
...


•

GNP is very similar to GDP
...
GNP measures the value of output
produced using resources owned by the citizens of a country, regardless where the production occurs
...


•

GDP and GNP may differ only slightly or very significantly depending upon the importance of international trade
to the country
...


–

It excludes items produced and sold illicitly, such as illegal drugs
...


–

Every dollar of spending by some buyer is a dollar of income for some seller
...


Calculating GDP using expenditure approach
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All the production in the economy is ultimately purchased by spending from households (C), businesses (I),
government (G) or foreigners (EX-IM)
...

–

Final purchases of machinery, equipment and tools

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All building and construction

New housing?
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Expenditure on new housing is classified as investment – it provides services over time into the future, which the
owner could choose to rent out for financial return
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g
...


•

Investment here is different to the everyday usage of the term, which refers to transfer of financial assets from
one person to another
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Spending on investment goods (often called infrastructure) such as highways, buildings and bridges
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Transfer payments (not included) – government payments to individuals, not in exchange or services currently produced,
e
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Pensions, job seekers allowance
Net exports = Exports – Imports
–

Exports
•

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Spending on domestically produced goods by foreigners

Imports
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Spending on foreign goods by domestic residents

IN SUMMARY:
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Consumption (C):
–

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Investment (I):
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The spending by households on goods and services, with the exception of purchases of new housing
...


Government purchases (G):
–
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The spending on goods and services by local, state and federal governments
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Net exports (NX):
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Exports minus imports
...
Nominal GDP
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Nominal GDP values the production of goods and services at current prices (prices during the time of production)
...

–

∑ 𝑃 𝑏𝑎𝑠𝑒

𝑦𝑒𝑎𝑟 ×𝑄 𝑐𝑢𝑟𝑟𝑒𝑛𝑡 𝑦𝑒𝑎𝑟

The GDP deflator
•

The GDP deflator is calculated as follows:

GDP deflator =
•

Nominal GDP
 100
Real GDP

Measures the current level of prices relative to the base year price level
...


It is a quantitative, rather than qualitative, measure of output
...


•

The inflation rate is the percentage change in the price level from the previous period
...

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The Australian Bureau of Statistics reports the CPI each month
...


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When the CPI rises, the typical family has to spend more dollars to maintain the same standard of living
...
Fix the basket: Determine which prices are most
important to the typical consumer
...


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The ABS conduct regular consumer
surveys to determine what & how many
they buy and how much they pay (Qbase
year)
...
Find the prices: Find the prices of each of the
goods and services in the basket for each point in
time (Pt)
...
Calculate the basket’s cost: Use the data on
prices to calculate the cost of the basket of goods and services at different times
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Choose a base year and compute the index:
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Designate one year as the base year, making it the benchmark against which other years are compared
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g
...


CPI t 

cos tofbaskett
100
cos tofbasketbaseyear

5
...

The inflation rate is calculated as follows:
𝑖𝑛𝑓𝑙𝑎𝑡𝑖𝑜𝑛 𝑟𝑎𝑡𝑒 𝑖𝑛 𝑦𝑒𝑎𝑟 2
𝐶𝑃𝐼 𝑖𝑛 𝑦𝑒𝑎𝑟 2 − 𝐶𝑃𝐼 𝑖𝑛 𝑦𝑒𝑎𝑟 1
=
𝐶𝑃𝐼 𝑖𝑛 𝑦𝑒𝑎𝑟 1
×100%

Problems in measuring the cost of living
•

The CPI is an accurate measure of the selected goods that make up the typical bundle, but it is not a perfect
measure of the cost of living
...


–
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The basket does not change to reflect consumer reaction to changes in relative prices
...


Introduction of new goods
–
–

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Fixed basket cannot reflect the introduction of new products timely
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Unmeasured quality changes
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If the quality of a good rises from one year to the next, the value of a dollar rises, even if the price of the
good stays the same
...


The substitution bias, introduction of new goods, and unmeasured quality changes cause the CPI to be an inaccurate
measure for the true cost of living
...

•

The GDP deflator reflects the prices of all goods and
services produced domestically, whereas
...


•

The CPI compares the price of a fixed basket of goods and
services to the price of the basket in the base year (only occasionally does the ABS change the basket)
...


Real and Nominal interest rates
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Interest represents a payment in the future for a transfer of money in the past
...

–

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It is the interest rate that a bank pays
...

–

Real interest rate = Nominal interest rate – Inflation

–

= 15 per cent − 10 per cent = 5 per cent

Chapter 28 –The natural rate of Unemployment
Identifying unemployment:
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Categories of unemployment
–
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The long-run problem: Natural rate of unemployment

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The natural rate of unemployment is, unemployment that does not go away on its own even in the long
run
...


It is the amount of unemployment that the economy normally experiences
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It is associated with short-term ups and downs of the business cycle
How is unemployment measured?
•

Unemployment is measured by the Australian Bureau of Statistics (ABS)
...


–
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Labour Force Survey: The ABS surveys 0
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Only adults (aged 15 years and older) are included
...


•

A person is considered employed if he or she has spent at least one hour of the previous week working at a paid
job or family business
...


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A person who fits neither of these categories, such as a full-time student, homemaker, retiree, discouraged
worker, is not in the labour force
...

The ABS defines the labour force = No
...
of unemployed
...


•

The labour force participation rate is the percentage of the adult population that is in the labour force
...

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Discouraged workers, people who would like to work but have given up looking for jobs after unsuccessful
search, don’t show up in unemployment statistics (but are separately identified in the ABS and not in the labour
force statistics)
...


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Most unemployment observed at any given time is long term
...


Types of Unemployment
Structural unemployment is the unemployment that results because the number of jobs available in some labour
markets is insufficient to provide a job for everyone who wants one
...
It takes time for workers to search for the jobs that best suit their tastes and skills
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Structural unemployment occurs when the quantity of labour supplied exceeds the quantity demanded
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Why is there structural unemployment?
•
•
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minimum-wage laws
efficiency wages
union

Minimum wage

When the minimum-wage is set above the level that
balances S and D, it creates unemployment
...
It is only among these workers that
minimum wage laws explain the existence of
unemployment
...


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The theory of efficiency wages states that, firms operate more efficiently if wages are above the equilibrium
level
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Worker quality: Higher wages attract a better pool of workers to apply for jobs

Frictional unemployment: Job search
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Job search
–
–

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The process by which workers find appropriate jobs given their tastes and skills
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This unemployment is different from the other type of unemployment
...


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It is caused by the time spent searching for the 'right' job
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Changes in the composition of demand among industries or regions are called sectoral shifts
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Examples:

•

Suppose the world price of radios falls substantially,

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The demand for the radio manufacturers will decrease,

•

The demand for labor in these manufacturers will fall short,

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The workers in radio manufacturing industry have to find jobs in other sector – sectoral shifts

Public policy and job search
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Government programs can affect the time it takes unemployed workers to find new jobs
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Public training programs aim to ease the transition of workers from declining to growing industries and to help
disadvantaged groups escape poverty
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Offers workers partial protection against income loss
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It may improve the chances of workers being matched with the right jobs
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It reduces the search efforts of the unemployed
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The unemployment rate is an imperfect measure of joblessness
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Why our economy always has some unemployment? Time to search job, Minimum-wage laws & efficiency
wages
...

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more about the value of money than about the value of goods
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People hold money because it is the medium of exchange
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Through instruments such as open-market operations (OMO), the RBA controls the quantity of money
supplied by the banking system
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• People have more money
...
These loans
allow other people to buy goods and
services
...


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Demand for goods and service > supply for goods and service
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The growth in the
quantity of money is the primary cause of inflation
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Inflation is an economy-wide phenomenon that concerns the value of the economy’s medium of exchange
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Hyperinflation: refers to extraordinarily high rates of inflation such as Germany experienced in the
1920s
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Menu costs
o
o

During inflationary times, it is necessary to update price lists and other posted prices more frequently
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o
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Menu costs are the costs of adjusting prices
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Relative-price variability
o
o

Some products’ prices rise fast, others rise slow
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o
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Inflation distorts relative prices
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Tax distortions
o
o

The income tax system treats the nominal interest earned on savings as income, even though part of the
nominal interest rate merely compensates for inflation
...


Shoe leather costs
o

Cost of converting between cash and other assets during high inflation
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o

The actual cost of reducing your money holdings is the time and convenience you must sacrifice to keep
less money on hand than you would if there is no inflation
...


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The nominal interest rate is the interest rate usually reported and not corrected for inflation
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The real interest rate is the nominal interest rate that is corrected for the effects of inflation
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dollars at different times to have different real values
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Unexpected inflation redistributes wealth among the population in a way that has nothing to do with either
merit or need
...


Chapter 33 – AD and AS curve
Short-run economic fluctuations
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Economic activity fluctuates from year to year
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On average over the past 50 years, production of the Australian economy has grown by about 2 per cent
per year
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A recession is a period of declining real incomes and rising unemployment
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Three key facts about economic fluctuations
1
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Fluctuations in the economy are often called the business cycle
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Most macroeconomic quantities fluctuate together
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Although many macroeconomic variables fluctuate together, they fluctuate by different amounts
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As output falls, unemployment rises
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During times of recession, unemployment rises substantially
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(non-price factors)
In the short run
o Production level is influenced by price
▪ How the short run differs from the long run:
▪ Most economists believe that classical theory describes the world in the long run but not in the
short run
...

▪ The assumption of monetary neutrality is not appropriate when studying year-to-year changes
in the economy
...


AD-AS model
•

The aggregate-demand curve (AD curve)shows the quantity of goods and services that households, firms and
the government want to buy at each price level
...


•

Economists use the model of aggregate demand and aggregate supply to explain short-run fluctuations in
economic activity around its long-run trend
...

This increase in consumer spending means larger quantities of goods and services are demanded
...

This increase in investment spending means a larger quantity of goods and services demanded
...


o

Price level and net exports (NX): the exchange-rate effect
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Decrease in domestic price will reduce the price in other countries, hence increasing export
...
S
...
S
...

–
–

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If a dollar buys more foreign currency, there is an appreciation of the dollar
USD appreciates: (SGD 1
...
5 /USD)

Depreciation refers to a decrease in the value of a currency as measured by the amount of foreign currency it
can buy
...
3 /USD  SGD 1 /USD

Why the AD curve might shift
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Many factors affect the quantity of goods and services demanded at any given price level
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Shifts arising from:
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investment

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government purchases

–
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consumption

net exports

Reason : AD= C+I+G+NX

Aggregate Supply
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The long-run aggregate-supply curve:
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In the long run, an economy’s production of goods and services depends on its supplies of labour, capital
and natural resources and on the available technology used to turn these factors of production into
goods and services
...


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The long-run AS curve is vertical at the output level when unemployment is at natural rate
...


•
The shifts may be categorized according to the
various factors in the classical model that affect
output
...

Why is it upward sloping?
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Always start from firm’s profit
...

o
Wages do not adjust immediately to a fall in the
price level
...

o
This induces firms to reduce the quantity of
goods and services supplied
...


–

An unexpected fall in the price level leaves some firms with higher-than-desired prices
...


3- The new classical misperceptions theory
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Decrease in the overall price level temporarily mislead suppliers about what is happening in the markets
in which they sell their output
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These misperceptions induce suppliers to decrease the quantity of goods and services supplied

Shifts if SRAS
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Shifts arise due to:
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Labour: An increase in minimum wage raises natural rate of unemployment rate

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capital

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natural resources

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technology

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expected price level

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An increase in the expected price level reduces the quantity of goods and services supplied and shifts the shortrun aggregate supply curve to the left
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– In the long run, shifts in AD affect the overall price level but do
not affect output
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Unemployment rises
...


Effects of shifts in SRAS:
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Stagflation

– Adverse shifts in aggregate supply cause stagflation — a
period of recession and inflation
...


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Policy responses to recession

– Policymakers may respond to a recession in one of the
following ways:

•

Take action to increase aggregate demand by using monetary and fiscal policy
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Chapter 29 – The monetary system
The meaning of money:
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Money is the set of assets in an economy that people regularly use to buy goods and services from other people
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•
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A medium of exchange is an item that buyers give to sellers when they want to purchase goods
and services
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unit of account
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A unit of account is the yardstick people use to post prices and record debts
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Types of money
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Commodity money takes the form of a commodity with intrinsic value
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Fiat money is used as money because of government decree
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Examples: coins, currency, cheque deposits

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