1. END OF YEAR REVIEW FOR THE AP EXAM
AP MACRO MR. LIPMAN
END OF YEAR REVIEW FOR THE AP EXAM

2. UNIT 1: THE BASICS
Economics- The study of scarcity and choice.
Macroeconomics- A focus on the overall ups and downs in the economy

3. The Four Factors of Production
Producing goods and services requires the use of resources.
ALL resources can be classified as one of the following four factors of production:
Land
Labor
Capital
Entrepreneurship 3

4. ALL decisions involve trade-offs.
Trade-offs are all the alternatives that we give up whenever we choose one course of action over others.
(Examples: going to the movies or going to a game)
The most desirable alternative given up as a result of a decision is known as opportunity cost.

5. Key Economic Assumptions
Wants are unlimited, resources are limited (scarcity).
Due to scarcity, choices must be made. Every choice has a cost (a trade-off).
Everyone acts rationally by comparing the marginal costs and marginal benefits of every choice
Ceteris paribus: “other things being equal”

6. In economics the term marginal = additional
“Thinking on the margin”, or MARGINAL ANALYSIS involves making decisions based on the difference of additional benefit vs. the additional cost.
Everyone will continue to do the same thing until the marginal cost outweighs the marginal benefit being gained and then they will stop doing it.

7. When using a PPC always remember that if a point is inside or on the curve it is feasible but if it lies outside the curve then it is not feasible. Being on the curve is most efficient (aka no missed opportunities) 7

8. Gains from Trade
The key to a much better standard of living for everyone is trade.
The reason we have an economy is that there are gains from trade.
Gains from trade arise from specialization.
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9. An individual has a comparative advantage in producing a good or service if the opportunity cost of producing the good is lower for that individual than for other people.
An individual has an absolute advantage in an activity if he or she can do it better than other people. Having an absolute advantage is not the same thing as having a comparative advantage.
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10. As more of a good is produced its opportunity cost typically
rises because all inputs are used up and then less adaptable inputs must be used. 10

11. 5 KEY ELEMENTS TO SUPPLY & DEMAND
THE DEMAND CURVE
THE SUPPLY CURVE
FACTORS THAT CAUSE CURVES TO SHIFT
MARKET EQUILIBRIUM
HOW MARKET EQUILIBRIUM CHANGES WHEN SUPPLY OR DEMAND CURVE “SHIFTS”

12. Demand is the different quantities of goods that consumers are willing and able to buy at different prices.
The law of demand states there is an INVERSE relationship between price and quantity demanded :
AS PRICE GOES UP THE QUANTITY DEMANDED WILL DROP & AS PRICE DROPS DEMAND RISES 12

13. The law of demand has 3 parts
1.The Substitution effect as price of good goes up consumers will purchase a substitute good
2. The Income effect as price drops the purchasing power increases
3. Law of Diminishing Marginal Utility
the more you buy of ANY GOOD the less satisfaction you get from each new unit of that good. 13 13

14. Key Terms
Substitute good is one whose demand goes up when the price of another good goes up (coffee and tea are examples of this)
Compliment goods are ones usually used together and thus if demand for one falls then demand for the other will also fall (cars and gasoline are examples of this)
Most goods are “normal” (demand increases as income rises) but some are “inferior” (demand drops as income rises…for example buses…as income rises people tend to then take taxis)

15. Keys to Graphing Supply & Demand
1. The slope of the curve is always down and to the right
2. A change in demand at the same price requires a SHIFT but a change in demand due to a change in price is show as MOVEMENT along the curve

16. Demand Schedule Price of Cereal $5 10 $4 20 $3 30 $2 50 $1 80 Demand o
Quantity
Demanded $5 10 $4 20 $3 30 $2 50 $1 80
Demand o Q
Quantity of Cereal 16

17. Demand Will Shift because of:
1. Market Size
2. Expectations
3. Related Prices (compliments/substitutes)
4. Income (normal & inferior)
5. Tastes

18. Unit 3 Measuring Economic Performance
GROSS DOMESTIC PRODUCTION (GDP)
UNEMPLOYMENT
INFLATION

19. The most important measure of growth is GDP.
Gross Domestic Product (GDP) is the dollar value of all final goods and services produced within a country’s borders in one year.
Dollar value- GDP is measured in dollars.
Final Goods-GDP does not include the value of intermediate goods. Intermediate goods are goods used in the production of final goods and services.
One Year-GDP measures annual economic performance. 19

20. What is NOT included in GDP?
Intermediate Goods
No Multiple Counting, Only Final Goods
EX: Price of finished car, not the radio, tire, etc.
2. Nonproduction Transactions
Financial Transactions (nothing produced)
Ex: Stocks, bonds, Real estate
Used Goods
Ex: Old cars, used clothes
3. Non-Market (Illegal) Activities
Ex: Illegal drugs, unpaid work 20

21. Circular Flow Diagram: Inflow of money into each market or sector must equal the outflow of money coming from that market or sector 21

22. How can you measure growth from year to year?
% Change
in GDP =
Year 2 - Year 1
Year 1
X 100 22

23. Expenditures Approach-Add up all the spending on final goods and services produced in a given year. GDP = C + I + G + Xn (exports-imports)
C IS CONSUMER SPENDING
I IS INVESTMENT SPENDING
G IS GOVERNMENT PURCHASES OF GOODS AND SERVICES
Xn IS EXPORTS - IMPORTS 23

24. Expenditures Approach
Four components of GDP:
Consumer Spending (C)
Ex: $5 Spent on Pizza
Investments (I) -Businesses putting money back into their own business. (improving plant)
Government Spending
Ex: Bombs or tanks, NOT social security (transfer)
Net Exports -Exports (X) – Imports (M)
Ex: Value of 2 Ford Focuses minus 3 Hondas

25. Real vs. Nominal GDP
Nominal GDP is GDP measured in current prices. It does not account for inflation from year to year.
Real GDP is GDP expressed in constant, or unchanging, dollars.
Real GDP adjusts for inflation.
REAL GDP IS THE BEST MEASURE OF ECONOMIC GROWTH! 25

26. #1. Frictional Unemployment
3 Types of Unemployment
#1. Frictional Unemployment
“Temporarily unemployed” or being between jobs.
Individuals with transferable skills
Seasonal Unemployment
Examples: College Grads, Santa Claus Workers 26 26

27. #2. Structural Unemployment
Workers DO NOT have transferable skills and these jobs will never come back.
Technological Unemployment
Workers must learn new skills to get a job.
Examples:
VCR repairmen
Carriage makers
Automobile Workers replaced by robots 27 27

28. #3 Cyclical Unemployment
Unemployment that results from economic downturns (recessions).
As demand for goods and services falls, demand for labor falls and workers are fired.
Examples:
Steel workers laid off during recessions.
Restaurant owners fire waiters after months of poor sales due to recession. 28 28

29. The Natural Rate of Unemployment
2 of 3 types of unemployment are unavoidable:
Frictional unemployment
Structural unemployment
They are natural rate of unemployment (NRU).
We are at full employment if we have only the natural rate of unemployment.
This is the normal amount of unemployment that we SHOULD have.
The number of jobs seekers equals the number of jobs vacancies. 29 29

30. Full employment means NO Cyclical unemployment!
Economists generally agree that an unemployment rate of around 4 to 6 % is full employment.
4-6% Unemployment = NRU
Okun’s Law: When unemployment rises 1 percent above the natural rate, GDP falls by about 2 percent 30 30

31. What’s wrong with the unemployment rate?
Can hide actual unemployment rate
Discouraged job seekers-
Some people are no longer looking for a job because they have given up.
Part-Time Workers-
Someone who wants more shifts but can’t get them is still considered employed.
Race/Age Inequalities-
Hispanics – 11% for Sept. 2011
But teenage rate is 27%
African American- 16% for Sept. 2011
But teenage rate is 45%
Illegal Labor-
Many people work under the table. 31 31

32. Three Causes of Inflation
1. Printing too much Money
2.Demand-Pull Inflation
3. Cost-Push Inflation

33. Inflation is a general rising level of prices
It reduces the “purchasing power” of money
Examples:
It takes $2 to buy today what $1 bought in 1982
When inflation occurs, each dollar of income will buy fewer goods than before.

35. 2. DEMAND-PULL INFLATION
“Too many dollars chasing too few goods”
DEMAND PULLS UP PRICES!!!
Demand increases but supply stays the same. The result is a shortage driving prices up.

36. Higher production costs increase prices
3. COST-PUSH INFLATION
Higher production costs increase prices
A negative supply shock increases the costs of production and forces producers to increase their prices.
Examples:
Hurricane Katrina destroyed oil refineries and caused gas prices to go up. Companies that use gas then increased their prices.

37. Measuring Inflation Inflation Rate Percentage =‘s
Price Yr 2 - Price Yr 1 x 100
Price Yr 1
The process of bringing the inflation rate down is known as Disinflation and it is difficult to do because you must temporarily slow growth or even depress the economy.

38. Key Inflation Terms Shoe-leather costs Menu Costs
Increased transaction costs of shopping around
Menu Costs
$ it costs to change prices
Unit of Accounts Costs
inflation makes $ less reliable as a unit of measurement

39. 2.Owners increase prices to pay for raises
The Wage-Price Spiral
A Perpetual Process:
1.Workers demand raises
2.Owners increase prices to pay for raises
3. High prices cause workers to demand higher raises
4. Owners increase prices to pay for higher raises
5. High prices cause workers to demand higher raises
6. Owners increase prices to pay for higher raises

40. Cost-of-Living-Adjustment (COLA)
Hurt by Inflation Helped by Inflation
Lenders-People who lend money (at fixed interest rates)
People with fixed incomes
Savers
Borrowers-People who borrow money
A business where the price of the product increases faster than the price of resources
Cost-of-Living-Adjustment (COLA)
Some works have salaries that mirror inflation.
They negotiated wages that rise with inflation

41. Nominal Interest Rates-
What are interest rates? Why do lenders charge them?
Real Interest Rates-
The percentage increase in purchasing power that a borrower pays to the lender. (adjusted for inflation)
Real = nominal interest rate - expected inflation
Nominal Interest Rates-
the percentage increase in money that the borrower pays back to the lender not adjusting for inflation.

42. The most commonly used method to determine inflation for consumers is the Consumer Price Index
Here is how it works:
The base year is given an index of 100
To compare, each year is given an index # as well =
Price of market
basket in base year
x 100
CPI
Price of market basket

43. Problems with using CPI as a Measurement
Substitution Bias- As prices increase for the fixed market basket, consumers buy less of these products and more substitutes that may not be part of the market basket. (Result: CPI may be higher than what consumers are really paying)
New Products- The CPI market basket may not include the newest consumer products. (Result: CPI measures prices but not the increase in choices)
Product Quality- The CPI ignores both improvements and decline in product quality. (Result: CPI may suggest that prices stay the same though economic well being has improved significantly)

44. CPI vs. GDP Deflator
The GDP deflator measures the price of all goods produced, whereas the CPI measures prices of only the goods and services bought by consumers.
An increase in the price of goods bought by firms or the government will show up in the GDP deflator but not in the CPI.
The GDP deflator includes only those goods and services produced domestically. =
Real GDP
x 100
GDP
Deflator
Nominal GDP