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The Macro Goal Variables Measures of Economy’s “Health” Definitions, Realistic Goals, and Recent (US) Performance

Chapter 1 -- The Macro Goal Variables

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Chapter 1 -- The Macro Goal Variables. Measures of Economy’s “Health” Definitions, Realistic Goals, and Recent (US) Performance. #1 -- Real Gross Domestic Product (Real GDP). - PowerPoint PPT Presentation

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Page 1: Chapter 1 --                       The Macro Goal Variables

Chapter 1 -- The Macro Goal Variables

Measures of Economy’s “Health”Definitions, Realistic Goals, and

Recent (US) Performance

Page 2: Chapter 1 --                       The Macro Goal Variables

#1 -- Real Gross Domestic Product (Real GDP)

Real GDP (Y) -- The total production of final goods and services over a period of time, expressed in constant prices of a base year.

Why Real GDP (GDP in constant dollars), instead of Nominal GDP (GDP in current dollars)?

Page 3: Chapter 1 --                       The Macro Goal Variables

Real GDP -- Realistic Goal

Realistic Goal for Real GDP -- to be as high as possible without accelerating inflation (overstimulated economy).

Can state this goal in a more formal way.

Page 4: Chapter 1 --                       The Macro Goal Variables

The Natural Level of Real GDP (Potential Real GDP)

The Natural Level of Real GDP (YN) -- that level of real GDP in which inflation has no tendency to accelerate or decelerate.

Page 5: Chapter 1 --                       The Macro Goal Variables

Comparing Real GDP to the Natural Level of Real GDP

Y < YN -- sluggish economy with decelerating inflation (inflation rate) Y > YN -- economy with accelerating inflation Y = YN -- economy with constant inflation rate

Page 6: Chapter 1 --                       The Macro Goal Variables

Characteristics of YN

UnobservableGrows at 2.5% per year for the USAffected by -- labor productivity -- the price of energy -- the capital stock -- the labor force

Page 7: Chapter 1 --                       The Macro Goal Variables

Getting and Keeping Y at YN: The “Two Cars”If Y = YN, then seek annual real GDP

growth = 2.5%.If Y < YN, then seek annual real GDP

growth > 2.5%, for awhile.If Y > YN, then seek annual real GDP

growth < 2.5%, for awhile.

Special Case -- The Recession

Page 8: Chapter 1 --                       The Macro Goal Variables

Goal Variable #2 -- The Inflation RateInflation Rate -- the growth or

percentage change in the overall price level.

First, measure the price level (P). -- Consumer Price Index (CPI) -- GDP DeflatorInflation Rate = Percentage Change in P

Page 9: Chapter 1 --                       The Macro Goal Variables

Realistic Goal -- Inflation

Ideal Goal: Inflation Rate = 0%.

Realistic Goal (US): |Inflation Rate| < 3%.

Page 10: Chapter 1 --                       The Macro Goal Variables

An Inflation Problem Versus Accelerating InflationInflation Problem -- |Inflation Rate| < 3%.Accelerating Inflation -- Inflation RateConsider -- Inflation Rates of 1981 versus 1985

(Y = YN) 1981 Inflation Rate = 9.0% 1985 Inflation Rate = 2.5%

Page 11: Chapter 1 --                       The Macro Goal Variables

Goal Variable #3 -- The Unemployment Rate (u) u = (# of people unemployed) (total labor force)

Does not measure -- discouraged workers -- part-time versus full-time employment -- people with multiple jobs

Page 12: Chapter 1 --                       The Macro Goal Variables

Types of Unemployment

Frictional Unemployment -- Unemployment due to normal labor market frictions.

Structural Unemployment -- Unemployment due to a mismatch of available workers and jobs.

Cyclical Unemployment -- Unemployment due to a generally slow economy.

Page 13: Chapter 1 --                       The Macro Goal Variables

Realistic Goal -- Unemployment Rate

Realistic Goal -- zero cyclical unemployment

Natural Rate of Unemployment (uN) -- The unemployment rate in which inflation has no tendency to accelerate or decelerate.

Realistic Goal: u = uN

Page 14: Chapter 1 --                       The Macro Goal Variables

Interpretation: u versus uN

u = uN Inflation Rate Unchanged (Desired State of Economy)u > uN Inflation Rate (Sluggish Economy)u < uN Inflation Rate

(Overstimulated Economy)

Page 15: Chapter 1 --                       The Macro Goal Variables

Real GDP and the Unemployment Rate

u = uN Y = YN, (Desired State of Economy)u > uN Y < YN, (Sluggish Economy)u < uN Y > YN, (Overstimulated Economy)

Page 16: Chapter 1 --                       The Macro Goal Variables

Goal Variable #4 -- The Federal Budget

Budget = Tax Revenues - Government Expenditure (over a given period)

Budget = Tax Revenues - (Government purchases of goods and services + Transfer Payments + Interest on the National Debt)

Page 17: Chapter 1 --                       The Macro Goal Variables

Budget Definitions

Budget < 0 -- Budget DeficitBudget > 0 -- Budget SurplusBudget = 0 -- Balanced Budget

Page 18: Chapter 1 --                       The Macro Goal Variables

Realistic Goal -- The Federal Budget

Realistic Goal -- Balanced Budget when Y = YN.

Sluggish economies tend toward deficits.

Hierarchy of economic problems.

Page 19: Chapter 1 --                       The Macro Goal Variables

Goal Variable #5 -- The Balance of Trade

Balance of Trade (BOT) -- approximated by net exports.

BOT = Exports - Imports

BOT < 0 -- Balance of Trade DeficitBOT > 0 -- Balance of Trade SurplusBOT = 0 -- Balanced Trade Position

Page 20: Chapter 1 --                       The Macro Goal Variables

Realistic Goal -- Balance of Trade

Realistic Goal -- BOT close to zero.

Page 21: Chapter 1 --                       The Macro Goal Variables

Diagnosing the “Patient” --

The Current US Economy and Prospects For the Near Future