Intro to Macroeconomics

Micro vs. Macro Micro: study individual economic actors (households, firms, gov’t) Macro: study of economic systems Diff of perspective, same basic ideas (with caveats) E.g. the economy is not the same as your family Circular flow: let’s all tighten our belts to save money during these hard times! If we all cut wages, the economy will grow! The world can grow its way out of the recession by increasing net exports!

GDP Gross Domestic Product (measurement of national economic activity): Dollar value (nominal vs. real GDP= nominal/price index) of all final goods and services (vs. intermediate goods) Produced within a country (vs. Gross National Product/GNP) In a calendar year (avoid double counting)

4 Main Types GDP Nominal GDP (prices; how much money from selling donuts?) Real GDP (adjusted for inflation; how many donuts?) GDP per capita: stuff/# people; problem for developing countries w/rapid pop growth Potential/full-employment GDP: if resources fully employed efficiently, what is possible to produce (think production possibilities curve) w/o increasing inflation

Measuring GDP Output-Expenditures Model GDP= C + I + G + (x-m) Consumption (households, 2/3 US economy) Investment (only capital goods, not stocks; most volatile) Government eXports – iMports (domestic production; slightly misleading)

Income Approach GDP= Income generated from production Must equal Output-Expenditure: circular-flow what is spent is earned

Short- and Long-run Short-run: period when input prices (e.g. wages) don’t change in response price changes (inflation) Long-run: sufficiently long period when input prices can change in response to price changes Slight diff. Micro

Aggregate Supply/Demand AD: total quantity of goods and services demanded at different price levels AS: total quantity of goods and services in the economy

Keynesian AS-AD Graph “Mainstream” view: developed in response to Great Depression Q= real GDP Price Level: weighted average of all final g+s in economy 3 ranges: horizontal, intermediate, vertical (at full-capacity/employment level of output) Intersection AS-AD= equilibrium price and output

Price Level Q= real GDP Vertical AS Price Level Vertical At full-capacity/employment, any increase AD lost entirely to inflation (can’t produce more) Intermediate Some increase output “dissipated” as inflation (PL up) Horizontal: Excess capacity increase output w/o increase price Q= real GDP Qf

Price Level Q= real GDP AS AD2= recession AD3= depression AD1= full-employment production Q= real GDP Qr Qf Qd

Ratchet? Prices + wages “downwardly inflexible”: decline AD firms can’t (labor contracts)/ don’t want to (efficiency wages) decrease wages  price level doesn’t fall w/decrease AD Recessions depressions

AS Price Level AD1 AD2 Q= real GDP Qd Qf Qr

Keynesian Assumptions 1) Input prices (wages, rent, etc.) downwardly inflexible (hard to lower wages) 2) Changes in Investment esp. important affecting GDP (“animal spirits”) 3) “In the long-run we’re all dead”: Unemployment equilibrium economy can get stuck in recession/depression w/o external force (G)

Neo-Classical AS-AD Assumes v/ efficient markets (including labor market) Distinction Short-run AS and Long-run AS Long-run AS vertical at full-capacity/employment GDP Long-run equilibrium only at intersection ASsr-AD-ASlr economy will by itself return to ASlr (self-regulating) No long-run trade-off inflation + unemployment: just inflation

Price Level Q= real GDP ASlr ASsr AD AD2 Long-run equilibrium Short-run equilibrium AD Q= real GDP

Business Cycle Cyclical not periodic Regression to the mean Contraction > 2 consecutive quarters (6 months) = recession Deep, long recession = depression Stagflation: stagnation + inflation

Factors Affecting Business Cycle 1) Investment (prob. excess capacity) 2) Availability $ and credit (interest rates) 3) Expectations future economy 4) Capital deepening (increase labor productivity; often result I) 5) External shocks (supply shock)

Indicators Leading: where we’re going (housing starts) Lagging: where we’ve been; confirms change in cycle (unemployment) Coincident: where we are (income)

Limitations of GDP 1) estimate: slow to gather, sampling/surveys 2) Underground/ nonmarket transactions 3) National: hard at local level 4) Changes in quality: can’t track change Apple IIG Alienware 5) Distribution of income/goods 6) Blind: doesn’t differentiate uses of g+s (externalities)  Green GDP: + happiness, sustainability, etc.; - pollution, crime, etc.