Macro Session 1

7/27/2019 Macro Session 1

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Macroeconomics & the Global EconomyAce Institute of Management

Session 1

InstructorRijan Dhakal

[email protected]

98510 69004
mailto:[email protected]:[email protected]


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What you studied in Microeconomics..

Basic demand and supply functions of

individuals and markets

Profit maximization of individual firms in

different markets

Consumers and Producers welfare theories

Cost and benefits of firms in different markets. And so on

But NOW .


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Introduction to Macroeconomics

Why does the cost of living keep rising?

Why are millions of people unemployed,even when the economy is booming?

What causes recessions?

Can the government do anything to combat

recessions?

Why does Nepal have such a huge trade deficit?

Why are so many countries poor?

Macroeconomics, the study of the economy as awhole, addresses many topical issues:


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Until 1930, economists didnt feel the

need to study macroeconomics

separately..

but..after 1930..

things changed..

How did the need to studyMacroeconomics arise?


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0

10,000

20,000

30,000

40,000

1900 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000

U.S. Real GDP per capita(2000 dollars)

Great

Depression

long-run upward trend

Great

Depression


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U.S. inflation rate(% per year)

-15

-10

-5

0

5

10

15

20

25

1900 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000

Very low inflation-Deflation


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U.S. unemployment rate(% of labor force)

0

5

10

15

20

25

30

1900 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000

Very high Unemployment


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Introduction to Macroeconomics

Macroeconomics:

Deals with the study of economy as a whole.

Coined by Ragnar Frisch in 1933.

Its goal is to explain the economic changes that affect

many households, firms, and markets simultaneously.

It is related to the study of interdependence betweenvarious sectors of an economy.

It rules out the assumption of ceteris paribus.


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Macroeconomic models : Symbols and EquationsModel is the simplified representation of the

economic world.Macroeconomic models are toy economies to help explain

the relationship between various macroeconomicvariables.

Two important variables in a model:

Exogenous variables and

Endogenous variables.

Exogenous (Independent) variables : that a model

takes as given.

Endogenous (dependent) variables : which the model

tries to explain. (What happens to..??)

HOW DO WE STUDY MACROECONOMICS?


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Assume the following two relationships for CD market:

Qd

= D(P,Y) (i)Qs = S(P,Pm) (ii)

Equation (i)shows that Quantity of the CD demanded is the

function of the Price of the CD and Income level of the

consumer or the aggregate income of the economy.

Equation (i i )shows that Quantity of the CD supplied is the

function of the Price of the CD and Input price of the materials.

The equilibrium in the CD market is given by:

Qd = Qs

THE MODEL OF SUPPLY AND DEMAND


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Price

Demand, Qd

Q*

P

Supply, Qs

Quantity

*



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Price

Demand

Q*

P

Supply

Quantity

*

Exogenous Variables:

Aggregate Income, and

Price of the materials

(taken as given)

Endogenous Variables:Price of the CD, and

Equilibrium quantity of CD

The model explains what happens to Endogenous variables(Price and Equilibrium Quantity of CD sold) when one of the

Exogenous variables (Aggregate Income and Price of the

materials) changes.



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SHIFTS IN DEMAND

P

D

S

Q

D' SHIFTS IN SUPPLY

P

D

S

Q

S'

EXAMPLE: CHANGES IN EXOGENOUS VARIABLES


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General Assumption: Market equilibrium of supply and

demand, (market clearing process).Markets clearing continuously, is unrealistic.

Need prices to adjust instantly to changes in supply and

demand. But, prices and wages often adjust slowly.

Although market clearing models assume that wages

and prices areflexible, in actuality, some wages and

prices are sticky. But they do depict the equilibrium

toward which the economy gravitates.

Short term analysis vs Long term analysis for Price Sticky

vs Price Flexibility

PRICES: FLEXIBLE VS. STICKY


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Three statistics that economists and

policymakers use:

Gross Domestic Product (GDP)is the

monetary value of all final goods and

services produced within an economy in a

given period of time-best single measure of

economic well being of a society

Inflation rate measures changes in level of

prices.

The unemployment rate tells us the

fraction of workers who are unemployed.

IMPORTANT STATISTICS FOR MACROECONOMISTS


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Two waysof viewing GDP

Total income of everyone in the economy

Total expenditureon the economys

output of goods and services

Households Firms

Income $

Labor

Goods/ Services

Expenditure $

For the economy as a whole, income must equal expenditure.

GDP measures theflowof dollars in the economy.

Gross Domestic Product (GDP)


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If:

$0.50 $1.00

GDP = (Price ofapples Quantity ofapples)+ (Price oforanges Quantity oforanges)

= ($0.50 4) + ($1.003)GDP = $5.00


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Governmentpurchases of goods

and services

Y = C + I + G + NX

Total demandfor domestic

output (GDP)

Consumption

spending by

households

Investmentspending by

businesses and

households

Net exports

or net foreign

demand

This is the called the national income accounts identity.


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Calculating GDPComponents of U.S. GDP, 2004: The Expenditure Approach

BILLIONS OF

DOLLARS

PERCENTAGE

OF GDP

Person al consum pt ion expendi tures (C) 8,214.3 70.0

Durable goods 987.8 8.4

Nondurable goods 2,368.3 20.2

Services 4,858.2 41.4

Gross p r ivate dom est ic investment ( l) 1,928.1 16.4

Nonresidential 1,198.8 10.2

Residential 673.8 5.7Change in business inventories 55.4 0.5

Government consum pt ion and gross

investm ent (G)

2,215.9 18.9

Federal 827.6 7.1

State and local 1,388.3 11.8

Net exports (EX

IM)-624.0

-5.3

Exports (EX) 1,173.8 10.0

Imports (IM) 1,797.8 15.3

Gross domest ic prod uct (GDP) 11,734.3 100.0Note: Numbers may not add exactly because of rounding.

Source: U.S. Department of Commerce, Bureau of Economic Analysis.


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Practice Problem-1.1

Consumption : 8746.2

Income earned by the national abroad : 587.8Gross Investment : 2103.1

Income earned by foreigners at home : 287

Capital consumption : 86.6

Indirect Business Tax : 700Government Purchase : 2363.4

Net Export : - 726.9

Undistributed corporate profit : 350

Personal tax payment : 1650

Calculate GDP from the above data

Answer: 12485.8


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Measuring GDP from Income side

Sum of income of all factors of production gives theGDP from income side (Gross Domestic Income)

GDI or GDP (I) = Compensation of employees

+ Proprietors Income

+ Rental Income

+ Corporate Profit

+ Net Interest


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Practice Problem-2

Compensation of the employees : 5299.8

Personal Income Taxes : 1152.0Corporate Profits : 856.0

Indirect Business Taxes : 657.5

Corporate Tax payment : 485.7

Proprietors Income : 663.5

Net Interest : 507.0

Rental Income : 143.4

Personal Saving : 147.6

NFI : 1818.5

Capital Consumption : 1161.0

Calculate GDP(income approach) from the above data

Answer: 7469.7


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1) Used goods

2) Intermediate goods (use value added method)

3) Treatment of inventory

4) Housing services and other imputations


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Measuring GDP by the Value Added Method

FIRM VALUE OF PRODUCT VALUE ADDED

Cotton Farmer Value of raw cotton = $1.00 Value added by cotton farmer = $1.00

Textile Mill Value of raw cotton woven

into cotton fabric = $3.00

Value added by cotton textile

mill = ($3.00 $1.00)

= $2.00

Shirt Company Value of cotton fabric made

into a shirt = $15.00

Value added by shirt manufacturer

= ($15.00$3.00)

= $12.00

L.L. Bean Value of shirt for sale on L.L.

Beans Web site = $35.00

Value added by L.L. Bean =

($35.00 $15.00)

= $20.00

Total Value Added = $35.00


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Other Exclusions from Expenditures

Avoid neither good nor a service

Does not reflect production such as bonds/ stocks

Avoid expenditure by governments for which it does notreceive a good or service in return

Transfer payments such as Social security, unemploymentcompensation etc.

All expenditures on goods/services sold illegally


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Thank You

Documents

Macro Session 1