1. Global Economic Environment of the Firm Professor John Coleman Duke University Fuqua School of Business Rethinking the Boundaries of Business School October 2009 MGRECON301

2. Course Motivation Why are some countries poor and others rich? Why do countries undergo financial crises? Why should a business manager understand his/her global economic environment?

3. Sustained Growth and Country-Level Income Inequality is a Modern Phenomenon World-Wide Per-Capita GDP

4. Most of the World is Poor

5. The 21 st Century may be the Century of Convergence 2007 population 6.7 billion - World 1.3 billion - China 1.1 billion - India China and India represent 36 percent of the world’s population

6. Many Poor Countries are Still Being Left Behind

7. Financial Crises in the 90’s Mexico Thailand Russia Argentina

8. Dow Jones Industrial Average U.S. Financial Crisis in 2008 The Treasury secretary, Henry M. Paulson Jr., and the Federal Reserve chairman, Ben S. Bernanke, testifying on Capitol Hill regarding the $700 billion bailout of financial firms. Year The U.S. financial crises has spread around the world: contagion.

9. Macroeconomics and the Firm Financial Crises

10. Corporate Profits are Very Pro-Cyclical

11. U.S. Real GDP Note the Great Moderation beginning in the mid 1980s.

12. Oil Price Real Nominal

13. Outsourcing and Wages Around the World

16. U.S. Current Account

17. Monetary Policy

18. The Federal Funds Rate and the Taylor Rule

19. Monetary Policy During the 2008/09 Financial Crises

20. Inflation around the World Developed Countries: Inflation(year-over-year) (1/01/1990 - 09/24/2008) Frequency: Quarterly Magnitude: Percent World: Inflation(year-over-year) (1/01/1990 - 09/24/2008) Frequency: Quarterly Magnitude: Percent World Developed Countries Source: Cleveland Federal Reserve Bank

22. Yen has moved from 350 to about 100, why? Exchange Rates

23. The slope of the yield curve predicts recessions (5-year Treasury bond - 3-month Treasury bill) -7 -5 -3 1 3 5 7 9 196919711973197519771979198119831985198719891991199319951997199920012003 Annual GDP Growth or Yield Curve % Real annual GDP growth Yield spread Recession Correct Recession Correct 2 Recessions Correct Recession Correct Yield curve accurate in recent forecast The Yield Spread and Economic Growth

24. U.S.Treasury Yield Curve October 13, 2009

25. National Income and Product Accounts (NIPA) Accounting system by which we organize our thinking to measure economic activity for a country.

26. Gross Domestic Product (GDP) Market value of final goods and services newly produced within a nation during a fixed period of time –Market value –Newly produced final goods and services Per capita GDP is an economy’s GDP divided by its population

27. The Income Expenditure Identity Y=C+I+G+NX –Y=GDP (Income) –C=consumption –I=investment –G=government purchases –NX=net exports What is produced is spent somewhere.

28. The Income Expenditure Identity Expenditures in 1996 Billions of dollars Percent of GDP Personal Consumption Expenditures (C)5151 68.0 Gross private domestic investment (I) 1117 14.7 Government purchases of goods and services (G)1406 18.6 Net exports (NX) -99 -1.3 Exports 855 11.3 Imports 954 12.6 Total (equals GDP) (Y) 7576 100.0

29. GDP is same as National Income GDP = National Income + Indirect taxes +Depreciation - NFP The income approach says that what is produced is income to someone

30. National Income Income in 1996Billions of dollarsPercent of GDP Compensation of employees 444958.7 Proprietors' income 5186.8 Rental income of persons 1271.7 Corporate profits 6548.6 Net interest 4035.3 Total (equals National Income) 615181.2

31. National Saving S=Y+NFP-(C+G)

32. Current Account This implies S=(C+I+G+NX)+NFP- C - G S=I+(NX+NFP) CA = current account balance S=I+CA CA=0 if closed economy (Cuba)

33. Budget Deficit S g = (T-TR-INT)-G T = Tax Receipts TR = Transfers to private sector INT = interest on national debt G = Government purchases S g =Budget surplus if positive. If negative, then a budget deficit

34. Some Fundamental Prices

35. The General Price Level Y = nominal GDP Y = P * y P = GDP deflator or simply market price y = real GDP or quantity of goods produced

36. The General Price Level Price growth = inflation: Real GDP growth:

37. Consumer Price Inflation

38. Interest Rates The (short-term) interest rate is the risk-free rate of return that can be earned in the market. R ≡ Dollar interest rate Invest $1 today at the rate R Receive $(1+R) in one year. How much would you pay to receive $1 in one year?

39. Real and Nominal Interest Rates The real interest rate, r, is the rate of return in units of goods. r = R -  (Ex post) real interest rate is nominal interest rate minus inflation.

40. Expected Inflation and Interest Rates The inflation rate is typically not known Expected (ex ante) real interest rate = nominal interest rate - expected inflation r e = R -  e The expected real interest rate is the nominal interest rate less expected inflation – the Fisher equation

41. Inflation and Nominal Interest Rate in the United States R Inflation Nominal Interest Rate

42. Bond Price and Interest Rate How much would you pay to receive $1 in one year? If you paid Q, then your return would be (1-Q)/Q The return on the bond and the interest rate must be the same: Q = 1/(1+R) Bond prices and interest rates move in opposite directions

43. Glossary of Terms GDPGross Domestic Product (also Y) NFPNet Factor Payments GNPGross National Product = GDP + NFP CNational Consumption INational Investment GGovernment Expenditure XExports MImports NXNet exports = X - M SNational Saving = S pvt + S govt TTotal taxes TRTransfer payments INTInterest payments  Inflation P t General price level at time t RNominal interest rate rReal interest rate