Macro Summary Notes Macroeconomics Canada in the Global Environment Michael Parkin Robin Bade PDF

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Macroeconomics: Canada in the Global Environment, Michael Parkin and Robin Bade...

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GDP- market value of the final goods and services produced within a country in a given time period -has four parts -1. Market value -2. Final goods and services -3. Produced within a country -4. In a given time period Market value -to measure total production we must add together the production of x and y - x=10 cents per piece - therefore 50x= 5$ -y= 20 cents per piece -100y= 20$ -using market value add x+y -5+20= 25 -25$ is market value of numbered x and y Final goods and services - to calculate GDP value the final goods and services produced - final good is an item that is bought by its final user during a specified time period - intermediate goods or services is an item produced by one firm bought by another, and used as a component of a final good/service Produced within a country - only goods and services produced within a country count as part of that country’s GDP In a given time period - GDP not only measures value of total production but also total income and total expenditure - The equality between total production and total income is important because it shows standard of living GDP and the circular flow of expenditure and Income - Economy consists of households, firms, governments, and the rest of the world - Households sell and firms buy the services of labor, capital and land in factor markets - Firms pay income to households: wages for labor services, interest for use of capital and rent for land. A fourth factor of production, entrepreneurship receives profit - Firms sell and households buy consumer goods and services in the goods markets

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Consumption expenditure is total payment for consumer goods and services Firms buy and sell new capital equipment in the goods market and put unsold output into inventory Purchase of new plant, equipment and buildings and the additions to inventories are investment Governments buy goods and services from firms and their expenditure on goods and services is called government expenditure Governments finance their expenditure with taxes and pay financial transfers to households such as unemployment benefits and pay subsidies to firms These financial transfers are not part of the circular flow of expenditure and income Firms in Canada sell goods and services to the rest of the world –exports— and buy goods and services from the rest of the world –imports— The value of exports (X) minus the value of imports (M) is called net exports if net exports are positive the net flow of goods and services is from Canadian firms to the rest of the world if net exports are negative the net flow of goods and services is from the rest of the world to Canadian firms GDP can be measured in two ways: by the total expenditure on goods and services or by the total income earned producing goods and services Total expenditure—aggregate expenditure— Aggregate expenditure equals consumption expenditure plus net exports Aggregate income is equal to total amount paid for the services of the factors of production used to produce final goods and services—wages, interest, rent and profit. Y= C+I+G+X-M C= Consumption expenditure I= investment G= Government expenditure X= exports M= imports Circular flow model is the foundation on which the national economic accounts are built

Why is domestic product “gross”? - gross means before subtracting the depreciation of capital is net which means after subtracting the depreciation of capital - depreciation is the decrease in the value of a firms capital that results from and tear - total amount spent both buying new capital and replacing depreciated capital is called gross investment - amount by which the value of net capital increases is called net investment - net investment equals gross investment minus depreciation - gross investment is one of the expenditures included in the expenditure approach to measure GDP - gross profit – firms profit- before subtracting depreciation Measuring Canada’s GDP • two approaches • expenditure • income Expenditure Approach

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measures GDP as sum of consumption expenditure (C), Investment (I), government expenditure on goods and services (G) and net exports of goods and services (X-M) personal expenditures on consumer goods and services are the expenditures by Canadian households on goods and services produced in Canada and in the world. Include goods such as pop and books and services Do not include purchase of new homes (investment) Business investment is expenditure on capital equipment and buildings by firms and the additions to business inventories—includes expenditures on new homes by house holds Government expenditures on goods and services is the expenditure by all levels of government – does not include transfer payments such as unemployment benefits because it is not a good or service Net exports of goods and services are the value of exports minus the value of imports GDP=C+I+G+(X-M)

Income Approach - Measures GDP by summing the incomes that firms pay households for the factors of production they hire - Two broad categories are: - 1. Wages, salaries and other labor income - 2. Other factor incomes - payment for labor services is the sum of net wages plus benefits such as pension contributions - other factors include interest, rent and profit and include some labor income from self employment - the sume of all factor incomes is NET DOMESTIC income at FACTOR cost - two adjustments must be made to GDP - 1. Indirect taxes less subsidies are added to get from factor cost to market prices - 2. Depreciation is added to get from net domestic income to gross domestic income Nominal GDP and Real GDP - real GDP is the value of final goods and services produced in a given year when valued at the value of a reference base year - currently the reference year is 2002 and we describe real GDP in 2002 dollars - Nominal GDP is value of goods and services produced during a given year valued at the prices that prevailed in that same year - Nominal GDP= more precise name for GDP

Uses and Limitations of real GDP - Economist use estimates of real GDP for two main purposes - To compare standard of living over time - To compare standard of living across countries Standard of living over time - Real GDP per person is real GDP divided by the population - Real GDP per person tells us the value of goods and services that the average person can enjoy - By using real GDP we remove any influence that rising prices and a rising cost of living might have had on our comparison A handy way of comparing real GDP per person over time is to express it as a ratio of some reference year Two features of our expanding living standard are - The growth of potential GDP per person - Fluctuations of real GDP around potential GDP - Value of real GDP when all economy’s labour capital land and entrepreneurial ability are fully employed is called potential GDP Lucas Wedge - Dollar value of the accumulated gap between what real GDP per person would have been if the 1960’s growth rate had persisted and what real GDP per person turned out to be Real GDP fluctuations - A business cycle is a periodic but irregular up and down movement of total production and other measures of economic activity - Every cycle has two phases 1. Expansion 2. Recession - And two turning points 1. Peak 2. Trough - Expansion: period during which real GDP increases- from a trough to a peak - Recession: period during which real GDP decreases—its growth rate is negative for atleast two successive quarters Two problems arise using real GDP to compare standard of living 1. real GDP of one country must be converted into the same currency units as the real GDP of the other 2. the goods and services in both countries must be valued at the same price Using the exchange rate to compare GDP in one country with GDP in another country is problematic because prices of particular

products in one country may be much less or much more than in the other US and China provide a striking example

Real GDP measures the value of goods and services that are bought in markets Some of the factors that influence the standard of living and that are not part of GDP are - household production - underground economic activity - health and life expectancy - leisure time - environmental quality - political freedom and social justice Stats Canada uses a measure of real GDP called chained dollar real GDP Three steps are needed to calculate this measure 1. value production in the prices of adjacent years 2. find the average of two percentage changes 3. link (chain) to the reference year

Link (Chain) to the Base Year To find real GDP in 2013 in base-year prices (2002), we need to know the 1. Real GDP in 2002 2. Average growth rate each year from 2002 to 2013. Starting with real GDP in 2002 of $100 million and the growth rates shown in the figure, real GDP in each year since 2002 is calculated as follows:

Real GDP in 2003 is 7 percent higher than the $100 million in 2002, which is $107 million.

Ch.21

Introduction to unemployment Why is unemployment a problem? -

Unemployment has two main consequences Loss of production and income Loss of human capital

Loss of income is devastating for those who must bear it -employment benefits create a safety net, although they do not fully replace lost wages -not everyone is entitled to those benefits Prolonged unemployment: permanently damages a person’s job prospects by destroying their human capital Population divided into two main categories 1. People who fall under the working age pop- these are people who are over the age of 15 and under the age of 65 2. People who are not able to work- these are people who are either too young, or too old

The working- age population--- divided into two groups 1. People in the labor force 2. People not in the labor force The labor force is the sun of the employed and unemployed workers Who is considered to be unemployed? 1. must be without work, but has made specific efforts to find a job within previous four weeks 2. must be waiting to be called back to a job from which they have been laid off 3. must be waiting to start a new job in next 30 days

The four labor market indicators The unemployment Rate - percentage of the labor force that is unemployed -calculation ( # of ppl employed/ labor force)x100 The higher the unemployment rate, the lower the economy is - the highest rates occur during a recession The lower the employment rate, the better the economy is -the lowest rates occur during a boom in the economy The involuntary Part-time rate -The involuntary part time rate is the percentage of the labor force who work part time but want full time jobs -calculation: (# of involuntary part time workers/labor force)x100 The labor force participation rate - labor force participation rate is the percentage of the working-age population who are members of the labor force - calculation: (labor force/working age pop)x100 The employment to population ratio -percentage of the working-age population who have jobs -calculation: (employment/working age population)x100 Purpose of the unemployment rate - to measure the under-utilization of labor resources - imperfect measure because: excludes some forms of not properly utilized labor, some unemployment is unavoidable or natural Under- utilized labor -there are two types of under-utilized labor that are excluded from the official unemployment measure -marginally attached workers -part-time workers who want full time jobs Marginally attached worker: person who is neither working nor looking for work but has indicated that they want work and is available to work. These types of workers have looked for work sometime in the recent past A discouraged worker is a marginally attached worker who has stopped looking for a job because of repeated failure to find one - the number of marginally attached and discouraged workers is very small

Part time workers who would like full time jobs and cannot find them are referred to as involuntary part time workers. They are considered partly unemployed Natural Unemployment -Arises from job search activity -there is always going to be someone without a job who is looking for one -therefore there will always be unemployment -CHURNING ECONOMY: always someone looking for a job The Churning economy - some of the change in the churning economy comes from the transitions that people make through stages in life -going from school to workforce -unhappy with current job and looking to move up -retiring Sources of unemployment - many reasons why people become unemployed - if they lose jobs and search - if they leave jobs and search - enter/reenter labor force to search for a job Unemployment ends for a person when - they are hired or recalled - they withdraw from the labor force Frictional, Structural, and Cyclical changes in unemployment 3 types of unemployment: frictional structural cyclical Frictional unemployment - is unemployment that arises from normal market turnover - creation and destruction of jobs requires that unemployed workers search for new jobs - increases in the number of people entering and reentering the labor force and increases in unemployment compensation raise the frictional unemployment level Structural and Cyclical unemployment - is unemployment created by changes in technology and foreign competition that change the skills needs to perform jobs or the location of jobs - lasts longer than frictional unemployment - Cyclical Unemployment: is the fluctuating unemployment that occurs over the business cycle

Natural Unemployment - unemployment rate at full employment is called the natural unemployment rate - full employment occurs when there is no cyclical unemployment, or when all unemployment is frictional and structural

Real GDP and Unemployment over the cycle Potential GDP is the quantity of real GDP at full employment. -potential GDP corresponds to the capacity of the economy to produce output on a sustained basis Real GDP minus potential GDP is the output gap - over the business cycle, the output gap fluctuates and the unemployment rate fluctuates around the natural unemployment rate Price Level and Inflation - price level is the average level of prices and the value of money - inflation rate is the annual percentage change in the price level It is important to measure the price level in order to -measure the inflation rate -distinguish between real and nominal values of economic variables Why inflation is a problem - extremely unpredictable - unpredictable inflation is a problem because it - redistributes income and wealth - diverts resources from production A high inflation rate is a problem because it diverts resources from productive activities to inflating forecasting -from a social perspective, this waste of resources is also a cost of inflation -very worst- inflation can become hyperinflation -workers are paid 2x aday -because value of $ loses its value so quick The consumer price index - CPI measures the average of the prices paid by urban consumers for a fixed basket of consumer goods and services - CPI is defined equal to 100 for the reference base period How to construct CPI - three stages to constructing CPI

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1. Selecting the basket 2. Conducting the monthly price survey 3. Calculate the CPI using the info gathered

CPI basket - this is based on consumer expenditure survey which is infrequently undertaken

Calculating the CPI - find the cost of the CPI basket at the base-period prices - find the cost of the CPI basket at the current period prices - calculate CPI for current period How to calculate the CPI CPI= (Cost of basket at current prices/ cost of basket at base-period prices)x100 Measuring inflation rate - major purpose of CPI is to measure inflation rate - inflation rate is the percentage change in the price level from one year to the next - inflation formula is: - inflation rate- [(CPI this year- CPI last year]x100 - price level affects the rate of change for the inflation rate - inflation rate is high when the price level is rapidly rising - inflation rate is low when the price level is rising slowly Biased CPI - CPI might overstate the true inflation for 4 main reasons - New goods bias—new goods that were not available in the base year appear and they are more expensive than the goods they replace- upward bias into the CPI - Quality change bias—part of rise in the price is payment for improved quality and is not inflation – CPI counts all price rises as inflation even though that is not the true reason for the price change - Commodity sub bias—market basket of goods using in calculating CPI is fixed and does not take into account consumers substitutions away from goods whose relative prices increase - Outlet sub bias—people switch to cheaper resources Consequences of the Bias - the bias in the CPI - distorts private contracts - increases government outlays - biases estimates of real earnings

Alternative Price Indexes - there are alternative measures of the price level - GDP deflator -- (nominal GDP/real GDP)x100 – broader measure of the price level of the CPI because it includes all items included in GDP - Chained price index for consumption Chained Price index of consumption THE CPIC-= (nominal consumption expenditure/real consumption expenditure)x100 Core Inflation Rate - CPI inflation rate excluding the volatile elements of food and fuel - Attempts to reveal the underlying inflation change - Volatile elements may make the CPI inflate greatly even when the non volatile goods have actually not increased much in price Real Variable in Macroeconomics - we can use the GDP deflator to delate nominal variables to find their real values - does not apply to the real interest rate - real wage rate= (nominal wage rate/GDP deflator)x100

Ch. 22 Basics of Economic Growth Business cycle refers to the fluctuations of GDP over time Economic growth is the sustained expansion of production possibilities measured as the increase in real GDP over a given period -does not refer to temp expansion of production possibilities(econ boom) -refers to the sustained expansion of production possibilities Applying the rule of 70 - A variable that grows at 7 percent a year doubles in 10 yrs - A variable that grows at 2 percent a year doubles in 35 yrs - A variable that grows at 1 percent a year doubles in 70 years

Calculating Growth Rates -

economic growth rate is the annual percentage change of real GDP tells us how rapidly the total economy is expanding growth rates do not shed much light on what the standards of living are in a given country standard of living depends on real GDP per person real GDP per person is the real GDP / population real GDP per person only grows if real GDP grows faster than the pop does

Magic of Sustained Growth - rules of 70 states that the number of years it takes for the level of a variable to double is approximately 70 divided by the annual percentage growth rate of the variable

How potential GDP grows - economic growth occurs when real GDP increases - a one shot increase in real GDP or a recovery from recession is not economic growth - economic growth is the sustained, year on year increase in potential GDP - must distinguish difference between fluctuations and sustained growth

How potential GDP is determined - potential GDP is the quantity of real GDP produce when the quantity of labor employed is the full employment quantity - to determine potential GDP, use model with two components - 1. Aggregate production function - 2. Aggregate labor market

Aggregate Production Function - tells us how real GDP changes as the quantity of labor changes when all other influences on production remain the same - an increase in labor increases the real GDP Aggregate Labor Market - real wage rate is the money wage divided by the price level - demand for labor shows the quantity of labor demanded and the real wage rate - supply for labor shows the quantity of labor supplied and the real wage rate - labor market is in equilibrium at the real w...