Equations, Macro Flashcards
AD
AD = C + I + G + (X - M)
How to calculate nominal GDP (the three methods: output, income, expenditure)
The three methods of calculating nominal GDP—output, income, and expenditure—work because they represent the same economic activity from different perspectives. They should all give the same GDP value in theory, as every output produced generates income for factors of production and is ultimately purchased as expenditure.
1. Output Method (Final Value of Goods and Services Produced in a Year)
This measures GDP by summing the monetary value of all final goods and services produced in the economy within a given year. Intermediate goods are excluded to avoid double counting. This method works because GDP represents the total economic output of a country, and counting only final goods ensures that the full value of production is captured without inflating the figure.
2. Income Method (Sum of All Factor Incomes in the Economy)
This calculates GDP by adding up all factor incomes earned in producing goods and services, including wages, rent, interest, and profits. This method works because the value of output is distributed as income to the factors of production, meaning that the total income generated in an economy should be equal to the value of the output it produces.
3. Expenditure Method (Total Spending on Goods and Services, AD = C + I + G + (X - M))
This measures GDP by summing total spending on goods and services, known as aggregate demand (AD), which consists of consumption (C), investment (I), government spending (G), and net exports (X - M). This method works because every pound spent by one party is income for another, ensuring that total expenditure in the economy should equal total income and total output.
These three methods all work because they represent the same transactions from different angles: output generates income, which is spent on goods and services, closing the economic cycle.
Real GDP
Nominal/price index *100
GDP Deflator
The GDP deflator is an index that measures the change in prices of all goods and services included in GDP over time. It is used to convert nominal GDP into real GDP, allowing economists to account for inflation.
It is calculated as:
Nominal GDP/Real GDP * 100
Unlike the CPI, which tracks a fixed basket of consumer goods, the GDP deflator includes all domestically produced goods and services, making it a broader measure of inflation.
GNI
= GDP + Net Factor Income
Net factor income = any income earned by domestic factors of production abroad - income earned by foreign factors of production domestically
Green GDP
GDP - environmental costs
Circular flow of income
Injections = Investment (I) + Government (G) + Exports (X)
Leakages = Savings (S) + Taxes (T) + Imports (M)
If equal, they are in equilibrium
if injections are greater than leakages then there is growth
Multiplier
1/1-mpc
Or
1/mpw
Budget Deficit/Surplus
Surplus if: Government spending > Tax revenue
(In a year)
Deficit if: Government spending < Tax revenue
(In a year)
Unemployment Rate
Unemployed/labour force * 100
Weighted Price Index (CPI)
1) Convert prices to index form
2) Multiply each price by its weight (relative consumption quantity)
3) Add up weighted prices
4) Divide by total weight
Real Interest rate
Nominal Interest rate - Inflation Rate
Average Rate of Tax
Tax Paid/Income * 100
Marginal rate of tax
change in tax paid / change in income *100
Absolute poverty (2024)
Less than $2.15/day
Relative Povery
< 60% of median income
What can be concluded from a current account Deficit/surplus
If there is a current account deficit, then the financial + capital account must be in an equal surplus, and vice versa.
This is because from an accounting perspective, the current account, capital account, and financial account must always sum to zero when you include all international transactions
Marshall-Lerner condition
PED of exports + PED of imports > 1
The Marshall-Lerner Condition states that a depreciation (or devaluation) of a currency will improve the trade balance only if the sum of the price elasticities of demand for exports and imports is greater than 1
its essentially the same as idea as in microeconomics where if you have elastic demand than you increase your revenue (net exports) by lowering the price (weaker currency)
This concept explains the J curve because the price elasticity of demand is much more elastic in the long run
Terms of Trade
Index of export prices/Index of import prices * 100
interpreting HDI scores
0.8 and above - very high
0.7-0.79 - high
0.55-0.69 - medium
< 0.55 - low
*some added evaluation gold - education is included in the HDI however in the UK and US especially there are a greater amount of people with degrees working low-skill jobs
Bond Yield
Coupon/Market Price * 100
Money Multiplier
The money multiplier is a concept that explains how an initial deposit in a banking system can lead to a larger increase in the total money supply. The formula 1/r is used to calculate the money multiplier, where r is the reserve ratio (the fraction of deposits that banks are required to keep as reserves).
The reserve ratio (r) is the percentage of deposits that banks must hold in reserve and not lend out. For example, if the reserve ratio is 20% (or 0.2), banks are required to keep 20% of deposits as reserves and can lend out 80% of the deposits. The money multiplier tells us how much the money supply will increase based on an initial deposit and the reserve ratio.
Using the formula Money Multiplier = 1/r, if the reserve ratio (r) is 0.2, then the money multiplier is calculated as 1/0.2 = 5. This means that every initial deposit of $1 can lead to up to $5 in the total money supply, assuming banks lend out the maximum amount and those loans are redeposited and lent out again.
The process works as follows: when a customer deposits money in a bank, the bank keeps a fraction (r) as reserves and lends out the rest. The money that’s lent out gets spent and redeposited in the banking system, and this cycle continues, with each cycle increasing the money supply. The total money created in the economy is a multiple of the original deposit, and the multiplier effect depends on the reserve ratio.
For example, if the reserve ratio is 10% (0.1), the money multiplier is calculated as 1/0.1 = 10. This means that if a bank receives an initial deposit of $100, the total increase in the money supply could be up to $1,000 (10 times the original deposit), assuming banks lend out the maximum amount allowed and borrowers redeposit all their loans.
The money multiplier is important because it helps explain how central bank actions (like changing reserve requirements) or public behavior (such as changes in deposit rates) can affect the total money supply and, by extension, the economy. A lower reserve ratio means banks can lend out more, increasing the money supply, while a higher reserve ratio means they must keep more in reserves, limiting lending and slowing money supply growth.
Important note: an increase in the money supply doesn’t mean that there is more total money in circulation - no money is created in this process. Rather, similar to the multiplier effect, the same money is spent multiple times.
Fisher Equation
MV = PQ
Liquidity ratio
Current assets/current liabilities * 100
Capital Ratio
Capital/loans * 100
Consumption function
C = a + mpc*Y
Consumption = level of autonomous spending + marginal propensity to consumer * income
Harrod-Domar model
The Harrod-Domar model is an economic theory that explains the relationship between investment, savings, and economic growth. It suggests that economic growth depends on the level of investment and the amount of savings in an economy. The model is often used to explain how developing countries can achieve sustained growth.
G = I / (s - v)
Where:
• G is the growth rate of the economy,
• I is the level of investment,
• s is the savings rate (the fraction of income saved),
• v is the capital-output ratio (how much capital is needed to produce one unit of output).
In this model, for an economy to grow, investment must exceed the amount needed just to replace depreciated capital. The savings rate plays a critical role because higher savings lead to more investment, which boosts economic growth. However, if the capital-output ratio is too high (meaning a lot of capital is needed to generate output), growth may be slower.
The model assumes that:
1. There is a direct relationship between savings, investment, and growth.
2. Investment directly leads to increased output through the expansion of capital.
3. There are no external shocks or changes in other factors like technology or labor.
While the Harrod-Domar model is useful for understanding the mechanics of growth in simple terms, it has limitations. It doesn’t account for technological progress or human capital and assumes that the relationship between savings and investment is linear, which may not always hold in reality.
