Ch.2
- 1. ECON 105A-1 Aggregate Output, Unemployment, and Inflation Rate 2.1 Aggregate Output • Aggregate economic activity is measured by national income and product accounts. • GDP (Gross Domestic Product) is a representative measure of aggregate output. There are three different ways to measure it. Definition #1: GDP is the value of the final goods and services produced in the economy during a given period Steel company (firm 1) Car company (firm 2) Revenues $100 Revenues $200 Expenses (wages) $80 Expenses (wages and steel purchases) $170 Profit $20 Profit $30 GDP = ?
- 2. ECON 105A-2 Definition #2: GDP is the sum of value added in the economy during a given period, where value added by a firm = value of its production – value of intermediate goods used GDP = ? Definition #3: GDP is the sum of incomes in the economy during a given period GDP = ? • Nominal GDP and Real GDP 1) Nominal GDP (NGDP): the sum of the quantities of final goods produced times their current prices 𝑁𝐺𝐷𝑃 $𝑌 ∑ 𝑃 𝑄
- 3. ECON 105A-3 2) Real GDP (RGDP): the sum of the quantities of final goods times constant (fixed) prices 𝑅𝐺𝐷𝑃 𝑌 ∑ 𝑃 𝑄 where 𝑃 price level of base year 3) Understanding the difference between NGDP and RGDP
- 4. ECON 105A-4 • U.S. GDP, 1960-2014 • From 1960-2014, NGDP increased by a factor of 32, while RGDP increased by a factor of about 5. Why there is a considerable gap between NGDP and RGDP?
- 5. ECON 105A-5 • GDP: Level vs. Growth rate 1) RGDP per capita measures the average standard of living of the country: RGDP per capita RGDP Total Population 2) In order to assess the performance of the economy from year to year, economists look at the rate of growth of RGDP (also called GDP growth) that is defined as GDP growth 𝑌 𝑌 𝑌 3) Expansion: periods of (+) GDP growth Recession: periods of (-) GDP growth
- 6. ECON 105A-6 • U.S. RGDP Growth Rate (chained 2005 dollars; inflation-adjusted) from 1934 to 2012 • What does a negative growth indicate?
- 7. ECON 105A-7 2.2 The Other Major Macroeconomic Variables 1. The Unemployment Rate • Labor force (L) = Employment (N) + Unemployment (U) - Unemployment is the number of people who do not have a job but are looking for one. • Definition of unemployment rate (u): 𝑢 𝑈 𝐿 100 • People without jobs who give up looking for a work are known as discouraged workers and counted as not in the labor force. • Typically, a higher unemployment rate is associated with a lower participation rate, where Participation rate Labor force Population of working age
- 8. ECON 105A-8 • U.S. Unemployment Rate, 1960-2014 • Why do we care about unemployment? 1) Direct effects on the welfare of the unemployed 2) A signal that the economy may not be using some of its resources efficiently
- 9. ECON 105A-9 2. The Inflation Rate • Definition: a sustained rise in the aggregate price level P Inflation rate 𝑃 𝑃 𝑃 100 Inflation rate > 0 ⇒ ‘inflation’; Inflation rate < 0 ⇒ ‘deflation’ • How do we measure the price level 𝑃 ? - Either by the GDP deflator or by the Consumer Price Index (CPI) - GDP deflator measures the average price of domestic output, while CPI measures the average price of consumption for both home and foreign goods. - Although the two inflation rates differ by less than 1% in most years, typical households care more about changes in the CPI rather than changes in the GDP deflator.
- 10. ECON 105A-10 • U.S. Inflation Rate, 1960-2014 using the CPI and the GDP deflator
- 11. ECON 105A-11 • Why do we care about inflation? 1) Inflation game ⇒ Inflation affects income distribution! 2) Inflation creates distortions: i) Investment uncertainty ii) Taxation 2.3 The Short Run, the Medium Run, the Long Run • The level of aggregate output in an economy is determined by: - what we demand in the short run, say, a few years, - the level of technology, the capital stock, and the labor force in the medium run, say, a decade or so, - factors such as the education system, R&D, the saving rate, and the role of the government in the long run, say, a half century or longer.