ECON 102 Chap 10-15 Flashcards
Gross Domestic Product
measures two things at once:
- total income of everyone in the economy
- total expenditure on the economies output of goods/services
Inflation
the rate at which prices are rising
Deflation
the rate at wich the prices of things are falling
Unemployment
the % of the labor force that is out of work
Retail Sales
total spending at stores
Macroeconomics
the study of economy-wide phenomena, including inflation, unemployment and economic growth
Microeconomics
the study of how households and firms make decisions, and how they interact in markets
Circular-Flow Diagram
GDP - the total spent by households in the market for G/S
(also) the total wages , rent and profit paid by firms in the market for Factors of Production
GDP (definition)
the market value of all the final goods and services produced w/in a country in a given period of time
The components of GDP
Y (GDP) = C (Consumption) + I (investment) + G (Government Purchases) + NX (Net Exports)
Identity
an equation that must be true because of how the variables in the equation are defined
Consumption
spending by households on g/s, with the exception of purchases of new housing
Investment
spending on capital equipment, inventories, and structures, including household purchases of new housing
- does NOT include financial investment such as stocks/bonds
Government Purchases
spending on g/s by local, state and federal governments
- does NOT include Transfer Payments
Transfer Payments
- when the government pays social security, unemployment, etc. payments
- NOT included in “Government Purchases” of GDP because they are not made in exchange for g/s.
Net Exports
spending on domestically produced goods by foreigners (exports) MINUS spending on foreign goods by domestic residents (imports)
Real GDP
what the value of g/s produced this year would be if we valued these g/s at prices that prevailed in a time period in the past (base year)
- better gauge of “well being” than nominal GDP
Nominal GDP
the total production of g/s valued at current prices
GDP Deflator
a measure of the price level calculated as the ratio of nominal GDP over real GDP X100
=(Nominal GDP / Real GDP) x 100
- takes inflation out of the equation
Inflation Rate
the % change in some measure of price level from one period to the next
Inflation Rate (yr2)= [GDP Def(yr1) - GDP Def(yr2) / GDP Def (yr2)] x 100
Consumer Price Index
the measure of the overall cost of the g/s bought by a typical consumer
How the CPI is Calculated
1 - Fix the Basket - determine what prices are most important to the typical consumer
2 - Find the Prices - find the prices of each g/s, in the basket, at each point in time
3 - Compute the Basket - use the data on prices to calc the cost of the basket of g/s at different times, keeping the quantity of good the same over time
4 - Choose the Base Year and Calc the Index - chose one year as the base year, a bench mark to compare the other years to
CPI = (price of G/S in Basket in current Year / prices of basket in base year) x 100
Compute the Inflation Rate
= [(CPI in yr2 - CPI in yr1) / CPI in yr1] x 100
Substitution Bias
when prices change from one year to another they do not change proportionally, consumers then substitute goods that are relatively less expensive, CPI misses this because of fixed basket.
Problems in measuring Cost of Living
Substitution Bias
Introduction of New Goods
Unmeasured Quality Change
GDP versus CPI
BIG Diff - GDP reflects the prices of all g/s produced domestically vs. CPI reflects the price of all g/s bought by consumers (including imports)
LITTLE Diff - GDP compares the prices of currently produced g/s to the same g/s of the previous year vs CPI compares the price of a fixed basket this year to the same basket in previous years
- the group of g/s used to calc the GDP Deflator changes automatically over time.
$ Figures from Different Times
amount in today $ = amount in other yr $ x (price level today / price level in other year)
Indexation
as in “indexed for inflation” - when some dollar amount is automatically corrected for changes in the price level by law or contract
ex: contract between firms and unions, if CPI goes up so do wages
COLA - cost of living allowance
Nominal Interest Rate
the interest rate that measures the change in dollar amounts (the growth rate of a deposit value)
Real Interest Rate
the interest rate corrected for inflation (the growth of purchase power of a deposit)
Nominal Interest Rate vs. Real Interest Rate
Real Inflation Rate = Nominal Inflation Rate - Inflation Rate
Production Function
Y=A F (L, K, H, N)
Y = the quality of output
L = the quality of labor
K = the quality of physical capital
N = quality of natural resources
F( ) = shows the inputs are combined to produce output
A = a variable that reflects the available production technology
Physical Capital (K)
K in the Production Function
- or just capital
- tools, like a lathe that a wood worker uses
Human Capital (H)
H in the Production Function
- economist term for the knowledge and skills that workers acquire through education, training and experience
Natural Resources (N)
inputs in production that are provided by nature
ex: land, rivers, mineral deposits
Technological Knowledge
the understanding of the best way to produce goods/services
Diminishing Returns
as the stock of capital rises the extra output produced from an additional unit of capital falls
Catch-Up Effect
it si easier for an economy to grow fast if it starts out relatively poorly
Investment from Abroad
Foreign Direct Investment
Foreign Portfolio Investment
Foreign Direct Investment
Ford building a factory in Mexico
Foreign Portfolio Investment
american buying stock in a Mexican company
Brain Drain
when the most educated people of a country leave that country to go to a rich country
Property Rights
- the ability of people to exercise authority over the resources they own
- respect of them is essential for the price system to work
Free Trade
Inward - Oriented Policies
attempt to increase productivity and living standards w/in a country by avoiding interaction with the rest of the world
Free Trade
Outward-Oriented Policies
policies designed to integrate a country into the world economy
Free Trade
Public Good
freely able to be used by anyone in the society
- ideas are for the most part considered public goods
Patent
allows the inventor/developer to be the only one allowed to sell it for a certain time, allowing them to profit therefor encouraging more development
Diluting the Capital Stock
rapid population growth reduces GDP per worker because forces the capital stock to be spread more thinly
- less capital per worker, meaning lower productivity
- especially human capital, means lots of school age children, large burdin on educational system
Financial Systems
consist of the institutions that help to match one persons savings with another persons investment
Financial Markets
institutions through which a person who wants to save can directly supply funds to a person that wants to borrow
Bond
a certificate of indebtedness that specifies the obligations of the borrower to the holder of the bond
Bond - Date of Maturity
the time at which the load will be repaid
Bond - Principle
the amount borrowed
Bond - Term
the length of time until the bond matures
Bond - Perpetuity
a bond that never matures
Bond - Credit Risk
the probability that the borrower will fail to pay some/all of the interest or principle
Bond - Debt Finance
the sale of a bond in order to make money
Bond - Default
when a borrower fails to pay all or some of the principle or interest
Bond - Junk Bonds
bonds issued by financially risky companies
Bond - tax treatment
the way the tax laws treat the interest earned on the bond
- most bond interest is taxable income
Bond - Municipal Bonds
the bond owners are not subject to income tax on the interest income
- issued by state/local government, usually lower interest rate
Stock
represents ownership in a firm and is a claim to the profits that the firm makes
Stock Market - Equity Finance
the selling of stock to raise money
Stock Market - Stock Index
an average of a group of stock prices
- Dow Dones Industrial Average
- Standards and Poors 500 Index
Stock Market - dividend
money from profits that some companies pay out to its stock holders
Stock Market - Retained Earnings
profits not paid out
Stock Market - Dividend Yield
the dividend expressed as a percentage of stock price
Stock Market - corporate earnings
(accounting profit)
the amount of revenue a company receives from the sale of its product minus the costs of production
Stock Market - earnings per share
the companies total earnings divided by the number of shares of stock outstanding
Stock Market - Price / Earnings Ratio
P/E
- price of a corporations stock divided by the amount the corporation earned per share over the last year
Stock Market - buy and hold strategy
when someone buys stock and holds it for a long time no matter the daily fluctuations
Financial Intermediaries
financial institutions through which savers can indirectly provide funds to borrowers
- the institutions stand between the lenders (savers) and the borrowers
Banks
primary job is to take in deposits of people that want to save and use these deposits to make loans to those who need to borrow
- they facilitate purchases of g/s by allowing people to write checks, use debit cards
Medium of Exchange
an item people can easily use to engage in transactions
Mutual Funds
an institution that sells shares to the public then uses these proceeds to buy a section of various types of stocks
- allows people with small amount of money to diversify their holdings
Mutual Funds - portfolio
a selection of various types of stocks
Index Funds
which buy all the stock in a given index
Closed Economy
one that does NOT interact with other economies
- no NX
Y=C+I+G
Open Economy
one that interacts with economies around the world
Y=C+I+G+NX
National Savings (or just savings)
I=Y-C-G
the total left over after paying for consumption and Government Purch.
i.e. S=I
T =
the amount that the gov collects from households in taxes MINUS the amount it pays back to households in transfer payments
S (private savings and national savings)
S= Private Savings(Y-T-C) + Public Savings(T-G)
Private Savings
= Y-T-C
Public Savings
= T-G
Investment
refers to the purchase of new capital such as equipment or buildings
- remember stock market is considered savings
- buying a house is not included
Loanable Funds
refers to all income that people have chosen to save and lend out
Supply of Loanable Funds
comes from people that have extra income and want to save and lend it out
Savings = source of Loanable Funds
Demand of Loanable Funds
comes from households and firms who wish to borrow to make investments
Investments = source of Loanable Funds demand
- Quantity of LF DEMANDED goes DOWN when INTEREST Rate goes UP
- Quantity of LF SUPPLIED goes UP when INTEREST Rate goes UP
- dependent upon REAL Interest Rate
Investment Tax Credit
gives a tax advantage to any firm building a new factory or buying new pieces of equipment
- passage of this would cause demand for Loanable Funds to Rise i.e. the Interest Rate woud rise…
Crowding Out
a fall in investment because of a rise in Government borrowing
- S curve shifts left due to less public savings and lower supply of LF due to budget deficit
- the S curve move causes a rise in interest rates, investment is discouraged because of higher rates
Present Value
(of any future dollar amount)
- the amount of $ today that would be required, at current interest rates, to produce a future sum of money, in “n” years
Present Value = Future value / (1+ r)^n
Future Value
how much a sum of today $ will be worth in “n” years
Future value = Present Value x (1+ r)^n
Risk Averse
most people, they dislike bad things more then they like good things
Utility (managing risk)
person’s SUBJECTIVE measure of well being or satisfaction (depending upon wealth
Insurance
a person facing risk pays a fee to an insurance company which in return agrees to accept all/part of the risk
Standard Deviation
means the volatility of a variable - how much is the variable likely to fluctuate
- increasing the number of stocks decreases but does not eliminate the amount of risk in a portfolio
Adverse Selection
risky people are more likely to buy insurance
Moral Hazard
people with Insurance are more likely to take risks
Firm-Specific Risk
the uncertainty associated witha specific company
- eliminated by diversification
Market Risk
the risk associated with the entire economy as a whole, can not be eliminated with diversification
Fundamental Analysis
refers to the detailed analysis of a company to estimate its value
Value of a Share
Present Value of any dividend + Present value of the money you get when you sell the stock
Efficient Market Hypothesis
states that equilibrium sets the price of a stock at its value
Informational Efficiency
the stock market reflects all available information about the value of an asset
- stock markets change when information changes
Random Walk
one implication of efficient market hypothesis
- says stock prices are impossible to predict from available info
Bubbles
occur when speculators buy overvalued assets expecting prices to rise further
Rule of 70 (72, 75)
70/Interest Rate = the number of years it will take a sum to double
- interest rate in decimal form
Employed
- those people that work as paid employees
- workers in their own businesses
- unpaid workers in a family business
- full time and part time
- people temp not at work due to illness, vacation or weather etc.
Unemployed
those who are not employed but are able to work and have tried to find employment in the last 4 weeks
- also those waiting to be recalled to a job they were laid off from
Not in the Labor Force
- those who fit neither of the first two categories
- ex: full-time student, home maker
Labor Force
the sum of the Employed and the Unemployed
Unemployment Rate
% of the Labor force that is in the Unemployed category
UR = # of Unemployed / Labor Force x 100
Labor-Force Participation Rate
% of total Adult population that is part of the Labor Force
LFPR = Labor Force / Adult Pop. x 100
Natural rate of Unemployment
the normal rate of Unemployment around which the unemployment rate fluctuates
Cyclical Unemployment
the deviation of unemployment from its natural cycle
Discouraged Workers
individuale that have tried to find a job but have given up after an unsuccessful search
- they do not show up in labor statistics even though they are really workers without jobs
Frictional Unemployment
unemployment that results from the process of matching workers and jobs- thought to explain the relatively short spells of unemployment
Structural Unemployment
when the quantity of labor supplied (workers) exceeds the labor demanded (jobs)
- thought to explain longer spells of unemployment
- happens when wages are set above equilibrium
Three Reason for above Equilibrium Wage
minimum wage
labor unions
efficiency wages
Household Survey
60,000 households
- used to calc the unemployment rate
Establishment Survey
160,000 businesses with 40mill+ employees
- used to calc the amount of jobs the economy has gained or lost
Sectoral Shifts
changes in the composition of demand among industries or regions
Unemployment Insurance
government program that increases the amount of frictional unemployment (without meaning to)
Minimum Wage Laws
increase unemployment because it forces wages above the point that balances supply and demand
It raises the amount of lobor supplied (workers) and reduces labor demanded (jobs)
Union
a worker association that bargins with employers over wages, benefits and working conditions
Collective Bargaining
the process by which unions and firms agree on the terms of employment
Strike
an organized withdrawal of the labor from the firm
Theory of Efficiency Wages
theory that firms operate more efficiently if wages are above the equilibrium level
4 Types of Efficiency Wage Theory
Workers Health
Workers Turnover
Worker Quality
Workers Effort
Worker Health
better paid workers eat better are more healthy and more productive
Worker Turnover
- firms can reduce turnover by paying higher wages
- saves the firm from having to hire and train new workers
- low turnover = lower production cost
Worker Quality
when firms offer higher wages the will attract a higher quality pool of applicants
Worker Effort
high wages make workers more egar to keep their jobs therefore they want to put forth their best effort
