Jan 8 Flashcards
some key macroeconomic variables
national income
unemployment
productivity
inflation
interest rates
exchange rates
net exports
long run trends aka
economic growth
short term fluctuations aka
business cycles
government policy is relevant for both
long run trends and short term fluctuations
2 streams of macroeconomic research
- EXPLICITLY based on micro foundations
- IMPLICITLY based on micro foundations
production of output generates what?
income
aggregation of income leads to…
- nominal national income
- real national income
nominal national income
measured in current dollars
real national income
measured in constant (base-period) dollars
reflects quantity changes - ie. relative to prices in 2000
real GDP
measures the TOTAL OUTPUT produced by the nation’s economy ANNUALLY
real GDP fluctuates around…
a rising trend
long-run trend: economic growth
short-run trend: business cycle
graph of GDP long-run trend versus short-run trend
long-run trend: goes steadily upwards
short-run trend: lots of ups and downs
the business cycle
composed of:
- trough (lowest point)
- recession (trending downwards)
- recovery
- peak
potential output
what the economy COULD PRODUCE if ALL RESOURCES were employed at their NORMAL LEVELS of utilization
potential output aka
full employment output
output gap
difference between POTENTIAL output and ACTUAL output
Y < Y* = recessionary gap
Y > Y* = inflationary gap
recessionary gap is when…
Y < Y*
actual output is less than potential output
inflationary gap is when…
Y > Y*
potential output is less than actual output
we’re producing more than potential
means high demand for workers, competition in labour market, higher wages and prices
potential and actual GDP both display…
an upward trend
GDP: output gap
output gap measures the DIFFERENCE between an economy’s potential output and it’s actual output
expressed as a PERCENTAGE of potential output
it fluctuates a lot - inflationary and recessionary gaps
what has happened to actual and potential GDP since 1985?
it has almost doubled
output gap in the 3rd quarter of 2024
between -0.75% and -1.75%
the long-run trend in real per capita national income is an important determinant of…
improvements in a society’s overall STANDARDS OF LIVING
economic growth makes people materially better off on average
in the short run, when Y < Y*…
there’s a RECESSIONARY GAP
- unemployment & suffering
- lost output & economic waste
in the short run, when Y > Y*…
there’s an INFLATIONARY GAP
risk of HIGH INFLATION RATES
employment
number of workers (15+) holding jobs
unemplyment
number not employed but actively seeking work
labour force
employed + unemployed
unemployment rate
percentage of unemployed in the labour force
unemployment rate equation
number of people unemployed / number of people in the labour force x 100
even when Y = Y*, some __________ exists
unemployment
- frictional unemployment (natural turnover)
- structural unemployment (mismatch between jobs and workers)
there’s cyclical unemployment when…
Y < Y*
when Y = Y*, the unemployment rate is called…
the natural rate of unemployment
NAIRU
current natural rate of unemployment
below 7%
since 1976, what has happened to the labour force and employment rates?
they’ve grown with only a few interruptions
employment has grown roughly in line with the growth in…
the labour force
the data also show that short-term fluctuations in unemployment rate have been substantial
unemployment rate in 2019 versus 1982 versus Covid
2019: 5.7%
1982: 12%
Covid: 13.7%
social significance: unemployment
- loss of income
- loss of output
- associated with crime, mental illness, social unrest
productivity definition
measure of output per unit of input
often measured as GDP per worker or GDP per hour worked
2 measures of productivity
- GDP per worker
- GDP per hour worked
largest determinant of long-run material living standards
increases in productivity
price level
average level of all prices in the economy
inflation
rate at which the price level is CHANGING
if inflation is POSITIVE, price level is increasing (costs more and more to buy the same basket of goods)
CPI
consumer price index
based on the price of a typical “consumption basket” relative to a base year
CPI equation
don’t forget to memorize
CPI = (cost of basket in current year / cost of basket in base year) x 100
why does inflation matter?
- we value money not for itself, but for what we can purchase with it
- purchasing power
- effects of inflation: reduces purchasing power, reduces the real value of sums fixed in nominal terms
purchasing power
amount of goods/services a unit of money can buy
if households & firms fully anticipate inflation over the coming year…
they will be able to ADJUST many NOMINAL PRICES and WAGES to maintain their real values
unanticipated inflation generally leads to…
more CHANGES in the real value of prices and wages
in reality, inflation is rarely fully…
anticipated or unanticipated
as a result, some adjustments in wages and prices are made
but not all the adjustments that would be required to leave the economy’s allocation of resources unaffected
price level and inflation rate, 1960-2020
trend in PRICE LEVEL has been upward over the past half-century
rate of INFLATION has varied from almost 0 to more than 12% since 1960
shot up during COVID, but now being brought down
interest rate
the price of credit
the flow of credit = crucial to firms and households in a modern economy
2 types of interest rates
- nominal interest rate
- real interest rate
nominal interest rate
rate expressed in MONEY TERMS
real interest rate
rate expressed in terms of PURCHASING POWER
what interest rate does the burden of borrowing depend on?
the real interest rate
understanding nominal and real interest rates: friend lends you $100 today, and a year later you pay her $108
$100: repayment of the loan (principal)
$8: payment of the interest
NOMINAL INTEREST RATE: 8% per year
- if the price level remains constant: friend can buy 8% more
^ real rate of interest is 8% - if the price level increases by 8%: friend can buy the same as before
^ real rate of interest is 0%
prime interest rate
interest rate that banks charge to their best business customers
bank rate interest rate
interest rate that the Bank of Canada charges on short-term loans to commercial banks
we speak of interest rates as a whole, even though there are many types, because…
they all fluctuate together
if one type goes up, the others do too
by manipulating the bank interest rate…
the central bank changes the rate that commercial banks pay them when they borrow
this automatically changes all the other interests rates (ie. people’s car, house etc rates)
what do govs do to interest rates when inflation is high?
they increase the interest rates
leads to less spending, less consumption, less need to produce, higher unemployment, prices increase less quickly
^ this all slows inflation
once inflation nears 2%, start to reduce interest rates
exchange rate
the number of Canadian dollars required to purchase one unit of foreign currency
depreciation of the Canadian dollar
means that it’s worth less on the foreign exchange market
rise in the exchange rate
what 2 groups of things have important effects on the Cad exchange rate?
- domestic policy
- external events
what determines the exchange rate?
it isn’t fixed
demand/the market determines it
ie. foreign govs/people want to buy Cad goods, if our exports are higher then increase in demand for Cad dollars
the more we export, the stronger demand to Cad dollars
who aren’t happy when Cad dollar is strong?
exporters
harder to sell their goods in international market when Cad dollar is strong
4 factors affecting the CAD exchange rate
- MONETARY POLICY: higher interest rates attract foreign capital (appreciation)
- FISCAL POLICY: deficits may weaken the dollar, economic growth can strengthen it
- INFLATION: high inflation reduces demand for CAD (depreciation)
- TRADE BALANCE: surpluses strengthen CAD, deficits weaken it
Cad-US exchange rate over past 5 decades
has been quite volatile
net exports
the difference between exports and imports
net exports stay pretty steady, only mildly fluctuate
fell in 2020 (because both imports and exports decreased)
3 points on long-term economic growth
- long-term trends of rising total output and output per person have led to higher living standards
- long-term growth is crucial for improving living standards across generations
- debate exists on extent to which government policy can influence economy’s long-run growth rate
3 points on short-term fluctuations
- short-term fluctuations lead economists to study business cycles
- debate exists on effectiveness of monetary and fiscal policy in influencing these fluctuations
- some economists argue that, despite policy power, governments should avoid frequent “fine-tuning” of the economy through spending and taxing changes
