Ch. 23 Section 1 Measuring the Economy

Measuring Growth  When the economy grows, businesses are producing more goods and services and more workers are hired.  Remember, GDP is one measure of the economy’s growth ($ value of all final goods and services produced in a country in a single year.  When prices increase, GDP would go up even if the economy was not growing.

Measuring Growth (cont.)  To avoid this false impression, economists use Real GDP – shows an economy’s production after the distortions of price increases have been removed.

Business Cycle  The economy goes through alternating periods of growth and decline called the business cycle.

Business Cycle (cont.)  There are four phases: 1. Expansion  The economy is improving and business activity increases. Real GDP is going up  Businesses produce more and hire more employees.  Consumers buy more.  Largest recent expansion lasted from March 1991-March 2001 (10 years)

Business Cycle (cont.) 2. Peak  Economic activity (expansion) is at its peak.  Businesses are working at full capacity.  Stores are selling at record amounts.  Peak: Highest point of the Boom cycle.

Business Cycle (cont.) 3. Decline/Contraction  The economy slows down.  Production is cut down.  Workers are laid off.  Keep this in mind, expansions are twice as long as contractions

Business Cycle (cont.) 4. Recession  Lowest period for production; Decline for 6 straight months or more.  Unemployment is high.  People do not buy as much.  Trough: Lowest point of a recession.  Depression: A severe recession.

Unemployment  Another way to measure the economy is to look at employment  Civilian Labor Force – includes all civilians 16 years old and older who are either working or looking for work.  Unemployment rate – the % of people in the civilian labor force who are not working but are looking for jobs

Unemployment (cont.)  Unemployment rate reflects the health of the economy.  Tends to rise sharply during recessions, and then slowly declines  Unemployment affects the income of the economy as a whole and of individuals  Basically, people lose their jobs; cut back on their purchases

Fiscal Policy  To reduce high unemployment, the government uses fiscal policy – the changes to the way it taxes or spends.  Government might cut taxes to give people more money to spend. Hopes that people’s increased purchases will cause businesses to hire more workers to boost production.  Sometimes government increases its own spending for goods and services to convince businesses to hire more workers to boost production.

Fiscal Policy (cont.)  Political differences often prevent the effective use of fiscal policy.  Bickering in Washington D.C. among politicians about which method to use gets in the way of implementation  Economic Automatic Stabilizers help us with this problem

Price Stability  Another indicator of the economy’s performance is inflation – a sustained increase in the general level of prices.  Inflation hurts the economy because it reduces the purchasing power of the people and may alter the economic decisions that people make.  To track inflation, economists use CPI

Price Stability (cont.)  The government samples prices every month for about 400 products commonly used by consumers; these prices make up the consumer price index (CPI); a measure of the price level  The rate of inflation is the change in the average level of prices as measured by the CPI

Price Stability (cont.)  If the price of an item doubles, you would need twice as many dollars to buy the item; the purchasing power of your dollar has fallen Ex. Ice cream cones  Harder on people with fixed incomes  Reduces the value of money in a savings account; money will buy less than before.  Prices act as signals which help us make economic decisions. High inflation distorts this process; we begin to speculate rather than invest thus the economy suffers

Stocks and Stock Markets  Investors will want to buy stock in a company if they think they will make money on it  Profits can be earned in two ways: dividends and capital gains  Dividends – share of a corporation’s profits that are distributed to stockholders  Capital gains – when stock is sold for more than it was originally bought.

Stocks and Stock Markets  Supply and demand determine the price of a company’s stock.  Factors such as changes in sales or profits or news of a technological breakthrough can change demand for a company’s stock and thus its price.

Stock Indexes  Stock indexes are statistical measures that track stock prices over time; this is how you follow the performance of your stock and gives us an idea of the well-being of the whole stock market  The Dow Jones Industrial Average (DJIA) tracks prices of 30 representative stocks.  Standard and Poor’s (S&P 500) tracks the prices of 500 large stocks

Stock Exchanges  Most stocks in the U.S. are traded on the New York Stock Exchange (NYSE) or NASDAQ (usually through a stockbroker)  Computers today allow investors to trade major stocks around the clock from anywhere in the world.  Stock indexes reveal investors’ expectations about the future. If investors expect economic growth, high profits, and low unemployment stock prices begin to rise (“BULL MARKET”)  If pessimistic, stock prices tend to fall (“BEAR MARKET”)