B5: Economic Concepts Flashcards
Economics
a science that studies human behavior as the relationship b/w ends and scarce means that have alternative uses
- economics is about people and the choices they make
Business Cycles
the rise and fall of economic activity relative to its LT growth trend
- although economy tends to grow over time, growth is not stable
- economic activity is characterized by fluctuations and these fluctuations are known as business cycles
- vary in duration and severity
- analysis of business cycle is part of macroeconomics
Macroeconomics
study of economy as a whole
- examines determinants of national income, unemployment, inflation, and how monetary and fiscal policies affect economic activity
Gross Domestic Product (GDP)
GDP is the total market value of all final goods and services produced w/i the borders of a nation in a particular period
- the term “final goods and services” excludes used goods that have been resold
- GDP is the nation’s output of goods and services
- includes output of foreign-owned factories in the US but excludes output of US owned factories abroad
Nominal GDP
measures value of all final goods and services at historical cost
- not adjusted for inflation
- current prices
Real GDP
measures value of all final goods and services in constant prices
- adjusted for inflation/change in price level
- most commonly used measure of economic activity and national output
% change in real GDP = (CY real GDP/past year real GDP)-1
Price Index (GDP deflator)
used to calculated real GDP
real GDP = (nominal GDP / GDP deflator) * 100
Real GDP Per Capita
= real GDP / population
- used to compare standards of living
- also used to measure economic growth
- economic growth is the increase in real GDP per capita over time
Composition of Business Cycles
- Expansionary Phase
- characterized by rising economic activity (real GDP) and growth above its LT growth trend
- firms’ profit increases as demand increases
- unemployment decreases
- prices increase - Peak
- high point of economic activity
- end of expansionary phase and beg. of contractionary phase
- firms likely to face capacity constraints and input shortages, leading to higher costs and overall prices - Contractionary Phase
- falling economic activity following a peak (GDP decreasing)
- profits decreasing, unemployment increasing - Trough
- low point of economic activity
- profits at a low, unemployment at a high - Recovery Phase
- economic activity begins to increase and return to its LT growth trend
- profits begin to stabilize
overall LT trend is upwards
Recession and Depression
Recession: two consecutive quarters of falling national output
- contractionary phase
- GDP decreases, profits decrease, unemployment increases
Depression
- very severe recession
- long period of stagnation in business activity and high unemployment rates
Economic Indicators
statistics that historically have been highly correlated w economic activity
- gathered by The Conference Board
Leading Indicators
- tend to predict economic activity
Lagging Indicators
- tend to follow economic activity
- used to confirm or dispute previous forecasts and the effectiveness of policy directives
Coincidence Indicators
- change at approximately the same time as the economy
- provide info about current state of the economy
examples B5-6
Reasons for Fluctuations (Business Cycles)
gr agreed that business cycles result from shifts in aggregate demand and/or aggregate supply
- AD and AS curves can be used to illustrate the relationship b/w country’s output (real GDP) (x-axis) and price level (GDP deflator) (y-axis)
Aggregate Demand (AD) Curve
Reasons for Fluctuations (Business Cycles)
- illustrates max qty of goods and services that households, firms, and the government is willing/able to purchase at a given price level
- total demand in the economy as a whole
- downward sloping
Aggregate Supply (AS) Curve
Reasons for Fluctuations (Business Cycles)
max qty of goods and services producers are willing and able to produce at any given price level
- total supply in economy as a whole
- upward sloping
Short-Run AS Curve (SRAS)
- upward sloping, illustrating that as price levels rise, firms are willing to produce more
Long-Run AS Curve (LRAS)
- vertical (Y*)
- in the LR, if all resources are fully utilized, then output is determined solely by factors of production not by price
- corresponds to potential output level in the economy
- Y* = GDP at the potential (equilibrium) level of output
Potential Level of Output (potential GDP)
Reasons for Fluctuations (Business Cycles)
the level of real GDP (national output) that the economy would produce if its resources (capital and labor) were fully employed
- when real GDP is below: recession
- when real GDP is above: expansion
AD, AS, and Economic Fluctuations
Reasons for Fluctuations (Business Cycles)
business cycles are result of shifts in AD or SRAS
- shifts in LRAS are associated w LR growth and do not affect business cycles
Reduction in Demand (from individuals, businesses, or govs)
- GDP ^, profits v, unemployment ^, prices v
- contraction or recession
Increase in Demand (from ind., businesses, or govs)
- GDP v, profits ^, unemployment v, prices ^
- recovery or expansion
Reduction of Supply (from firms)
- GDP v, profits v, unemployment ^, prices ^
- contraction or recession
Increase in Supply (from firms)
- GDP ^, profits ^, unemployment v, prices v
- expansionary
Factors that Shift AD
Reasons for Fluctuations (Business Cycles)
“TWICE G”: Taxes, Wealth, Interest rates, Consumer confidence, Exchange rates, Government spending
Changes in Wealth
- increase: AD ^ (GDP ^, profit ^, unemp v, prices ^)
- decrease: AD v (GDP v, profit v, unemp ^, prices v)
Changes in Real Interest Rates
- increase: AD v
- decrease: AD ^
Changes in Expectations about Economic Outlook (consumer confidence)
- confident: AD ^
- uncertain: AD v
Changes in Exchange Rates
- appreciated: AD v
- depreciated: AD ^
Changes in Government Spending (fiscal policy)
- increase: AD ^
- decrease: AD v
Changes in Consumer Taxes (fiscal policy)
- increase: AD v
- decrease: AD ^
governments can affect AD through fiscal policy that affects changes in gov. spending and consumer taxes
Multiplier Effect
Reasons for Fluctuations (Business Cycles)
an increase in consumer, firm, or gov spending produces a multiplied increase in the lvl of economic activity
- results from marginal propensity to consume (MPC)
- MPC is change in consumption due to a $1 increase in income
- bc ppl tend to save part of their income, MPC is gr < 1
multiplier = 1 / (1-MPC)
or = 1 / MPS
- MPS is marginal propensity to save = 1-MPC
Factors that Shift SRAS
Reasons for Fluctuations (Business Cycles)
Changes in Input (Resource) Prices
- increase: SRAS v (GDP v, unemployment ^, prices ^)
- decrease: SRAS ^ (GDP ^, unemp v, prices v)
Supply Shocks
- supplies are plentiful: SRAS ^ (GDP ^, unemp v, prices v)
- supplies are curtailed: SRAS v (GDP v, unemp ^, prices ^)
Economic Measures
most common: real GDP, unemployment rate, inflation rate, and interest rates
- these economic measures tend to move together
National Income Accounting System
National Income and Product Accounting (NIPA) system developed by US Dept of Commerce to monitor the health and performance of the economy
- 2 methods for measuring GDP
- combined economic output of 4 sectors is called GDP: households/consumers, businesses, governments, and the foreign sector
- expenditures should equal income, that’s why they’re the 2 ways to measure GDP
2 Methods of Measuring GDP
- Expenditure Approach: sum of “GICE”
- Government purchases
- gross private domestic Investment (business)
- personal Consumption expenditures
- net Exports (exports - imports) - Income Approach: sum of “I PIRATED”
- Income of proprietors
- Profits of corporations
- Interest (net)
- Rental income
- Adj. for net foreign income and misc. items
- Taxes (income of gov)
- Employee compensation (wages)
- Depreciation (aka capital consumption allowance)
Other Measures of National Income
Net Domestic Product (NDP)
- GDP minus depreciation (the capital consumption allowance)
Gross National Product (GNP)
- market value of final goods and services produced by residents of a country in a given time period
- diff from GDP bc includes production by US firms overseas and excludes production in US by foreign firms
Net National Product (NNP)
- GNP minus economic depreciation
National Income (NI) - NNP less indirect business taxes
Personal Income (PI) - income received by households and noncorporate businesses
Disposable Income (DI)
- personal income less personal taxes
- amt of income households have to either spend or save
The Unemployment Rate
ratio of # of ppl classified as unemployed to the total labor force
- the total labor force: all non-institutionalized individuals 16+ who are working or actively looking for work
unemployment rate = (# of unemployed / total labor force) * 100