Econ Exam 1

Macroeconomics/Economics is the study of

Choice

Scarcity does not equal shortage however...

scarcity requires choice

4 categories of recources

land labor capital human capital

Land

anything that comes from earth (raw recourses, nature)

Labor

workers/employees

Capital

human made recources used to produce other goods and services

Human Capital

a measure of worker skills (entrepreneurial ability)

Choice requires...

a trade off, because of scarcity, producing more of one g&s means producing less than another.

Opportunity Cost

the highest valued alternative given up in oder to engage in an activity (lowest opp. cost = competitive advantage)

Production Possibility Frontier (PPF)

a curve showing the different combinations of two goods showing the different combinations of two goods or services that can be produces in our economy at full employment with given resource and tech levels.

Comparative Advantage

able to produce a good at a lower opp. cost than another

Economic Model

a simplified version of reality used to analyze real world scenarios

Market

a group of buyers and sellers of a g&s and the institutions and arrangements by which they come together to trade

3 assumptions about people

1. people are rational (rational individuals weighing the benefits and costs of each action and choose an actions only if perceived benefits>costs) 2. people respond to incentives 3. optimal decisions are made at the margin (decisions are typically made in a 2 step process (yes/no) (how much))

Marginal Benefit

the additional benefit of enjoying in another unit of activity

Marginal Cost

the additional cost of engaging in another activity

3 Key economic questions

1. what g&s will be produces? (consumers signal desires w/ purchases and firms respond to earn profit) 2. How will g&s be produced? (firms calculate most cost efficient combination of inputs/recources to produce) 3. Who will receive the g&s produced? (type of economic system government determines)

3 players in economics

consumers firms government

Economic Systems

a set of institutional arrangements and coordinating mechanisms to provide g&s Determined by: -who owns the recources -the role of government in the economy -method used to coordinate activity

Centrally planned Economy

an economy where the government decides how recources will be allocated. (communism, gov own resources) (gov determines allocations and production methods ex: Cuba and N Korea)

Mixed Economy

an economy where decisions are the result of interactions between buyers and sellers but where the gov plays a roll in allocation of recources. (Private property, freedom of enterprise, social safety nets and gov ownership of save recources)

Market Economy

decisions of households and firms interacting in markets allocate recources (laissez-faire capitalism, govs only role is national defense)

An economic system tries to balance....

Equity and Efficiency (mixed economy attempts to balance these two)

Equity

The "Fair" distribution of economic benefits inequality can be equitable if those with more $$ contribute more

Efficiency

using economic recources optimally

Markets achieve productive efficiency by...

rewarding low cost productions and allocative efficiency by rewarding firms with profits

Gross Domestic Product (GDP)

-The market value of all final g&s produced within a country in a given time period aka national income account -measured in $ produced on our soul, must be observed and sold in the market

1. GDP is the market value 2. of all 3. final 4. intermediate g&s 5. goods and services 6. produced 7. within a country 8. in a given time period

1. measured in $ only way to combine the diverse number of g&s 2. comprehensive - includes all g/s that are sold in markets but will miss g&s not traded in open markets (black markets, under the table) 3. value of intermediate goods is not included in any final g&s cost 4. a g&s that is an input into another g&s - such as tires on a truck or gas in an airplane (no double count) 5. measures both 6. GDP only considered goods produced in the current period. Resold/used items do not count. 7. GDP is defined geographically ad it counts all domestic production regardless of citizenship 8. GDP calculated over time quarterly, manually etc

Consumption

spending by households on g&s with the exception of new home purchases (70% of US GDP) -Nondurable goods-those that are destroyed or damaged with use -Durable goods-not destroyed through age (cars, appliances, furniture) -Services-medical care, gyms, legal, hair stylists

Investment

spending on goods that will be used to produce more g&s such as capital equipment, inventories, structures and HH and firms purchase of new homes

4 categories within Investment

1. Business Fixed Investments-spending by firms on new factories, machinery, buildings, and equipment 2. All construction including residential-building of new schools, roads, infrastructure 3. Changes in Business Inventories-inventories are goods that have been produced but not yet sold 4. money spent on research and development-for creation of new art, music, film etc

Investments link to capital!

investments help us grow or Capital Stock but investment rates must be greater than the depreciation rate for the stock to grow

Government

spending on g&s by local, state, or federal governments. Not included are transfer payments (unemployment, social security: we count the money when the consumer spends the check)

Net Exports

count all g&s we produces but did not buy ourselves, sold to foreigners

Net Imports

subtract out all g&s we did not produce but we bought

Using GDP to compare well being...

to compare across countries or within a country over time population must be considered. GDP per capita is GDP divided by the population

Generally as GDP per capita increases....

people are better off, and have a better quality of life

Shortcomings of GDP as a measure of production

1) does not count House Hold production 2) does not count the underground economy

Shortcomings of GDP as a measure of production

1) measures the size of the pie, not how its divided per capita 2) GDP is not adjusted for crime or social problems 3) GDP is not adjusted for pollution or the negative effects of production 4) value of leisure in not included

GDP can increase for two reasons

1) the economy is producing more g&s (good for economic growth) 2) g&s are being bought at higher prices (not so good = inflation)

Nominal GDP

the value of all final g/s evaluated at current year prices

Real GDP

the value of all final g/s evaluated at base-year prices (adjusted for inflation) -only reflects changes in quantity not price

Price level

a measure of the average price of g/s in the economy

Quintile

1/5th (20%) portion of a whole -to measure inequality we use quartiles to build a lorenz curve

Lorenz Curve

shows the cumulative percent of total income plotted against the cumulative percent of the population -bows away from the line of equality as the inequality rises

Income

a flow variable - money received, especially on a regular basis, for work or through investments

Wealth

a stock variable - the quantity or store of money, valuable possessions, property and other assets

Poverty Line

the minimum income necessary for adequate participation in economic life

Poverty Rate

(H/N) H: number of people with incomes lower than the poverty line N: total number of people

Relative poverty vs Absolute Poverty

poverty relative to the local standards vs standards regardless of setting

Gini coefficient measure inequality

0=equal 1=perfectly inequality

Poverty gap

measures the intensity of poverty

for each person to earn potentially a greater slice of the GDP pie...

GDP growth needs to be > than the population

Convergence Theory

international differences in real GDP per capita tend to narrow over time

Determinants of long run growth Labor Productivity

Labor productivity: the quantity of g/s that can be produced, if we can increase labor productivity we increase g/s it will then increase living standards) -domestic savings rate -infrastructure and public goods -political stability -foreign investment -education

How to increase labor productivity

1. increases in capital per worker 2. increases in human capital 3. technology change

The rule of 70

a quick formula to approximate the time to double for any compounding variable

Business Cycle

short run changes in GDP from our potential

Potential Real GDP

the leal of GDP attained when all firm are producing at capacity

Capacity

output attainable with full employment and regular work week

4 phases of a business cycle

Expansion: production, employment, and income rise. slope of current GDP Peak: where the expansion phase ends Recession: production, employment and income are falling Trough: when the recession phase ends

Unemployment is measured by...

the Bureau of Labor Statistics (BLS) -bases on a survey

CPS

current population survey that surveys 60K civilian non-institutionalized households a month

employed

includes workers paid as employees, work in their own business, or unpaid in family business

unemployed

individuals who are not currently employed but who were abled bodied and tried to find employment in the past 4 weeks

not in the labor force

all other individuals, full time students, homemakers, stay at home care, retired, disabled

discouraged workers

people who want employment and are available but have not applied in the last month and feel that there are no options available

marginally attached

people who want a job but havn't looked due to constraint sick, child care, transportation

problems with measuring unemployment

false reporting issues

length of unemployment

the longer workers are searching, the more financial trouble we see, harder time to find a job as skills degrade

Frictional Unemployment

short term unemployment arises from the time it takes for workers and firms to match -workers are still applicable an there are jobs hiring for them it just takes time to match

Structural Unemployment

unemployment that arises from a persistent mismatch between skills and characteristics of the workers and the requirements of the job

Cyclical Unemployment

associated with a recession, caused by a business cycle recession - skills still applicable, firms who use skills still exist but no one is hiring because there are no customers

Unemployment can never be 0

there will always be come frictional unemployment (free market) and save structural unemployment with changing times and tech

Natural Rate of unemployment

the normal rate of unemployment consistent of frictional plus structural

GDP and unemployment relationship...

unemployment means we have unused labor and human capital recources

Okens Law

relates current GDP to potential GDP and unemployment for every 1% of cyclical unemployment there will be a 2% GDP gap

Inflation Rate

the % increase in price level from 1 year to the next

Deflation Rate

the % decrease in price level from 1 year to the next

3 key ways to measure price levels in the US

1. GDP deflator 2. Producer Price index 3. Consumer price index -a mathematical average, used to evaluate trends, with a base of 100 for set value of prices

GDP deflator

broadest measure of g/s prices available a bit to broad to speak on day to day consumer habits

PPI

average of prices reduces by producers of g/s at all stages in the production process -tends to track changes in intermediate good prices -moves before CPI, or consumer prices rise

CPI

consumer price index: an average of the prices of g/s purchases by a typical urban family of 4 -survey urban not rural -to compare $ over time we must put it in the same years value or find the equivalent purchasing power

Real income

as prices rise your purchase power falls AKA your real income (income adjusted for inflation) -we need nominal wages to rise with inflation for your purchasing power stays the same

Cost of living Adjustment

COLA a % increase in nominal wages to offset rising costs of loving and to keep employees real wage consistent

demand-pull inflation

occurs when total spending exceeds the economy's ability to provide output at existing price levels - most common during the expansion phase of business cycles

cost-push inflation

occur when prices rise because per-unit production costs have increased - most common when there is a negative shock supply

supply shock

a sudden and steep change in the availability/cost of key recources used in most production (labor/gas/oil)

core inflation

CPI or PPI calculated w/out food/fuel (most volatile)

Hyper inflation

inflation that increases at least at 50% a month or 100% a year

stagflation

experiencing inflation in a recession - tends to be cost-puch inflation during a recession

Nominal Interest rate (rn)

the stated interest rate on the loan you are contractually bound to pay

Real interest rate (rr)

the nominal interest rate minus the inflation rate