Study Unit 3 Flashcards
GDP
US GDP
principle measure of national economic perf
US GDP=total mkt value of all final goods/servc produced w/in U.S. by domestic or foreign sources during a specified pd
Expenditures approach
sum of all expenditures in the economiy GDP= C+I+G+NX C-consumer spending i- Investment spending G-Govt spending NX-Net exports
Consumer Spending
largest component, most important determinant is personal incomes
changes in incomes don’t affect GDP $for$
for every adtl $ consumers receive in income, some spent, other put in savings
Investment Spending
Business investments- create jobs and income (PPE purch); all construction (rent/lease); inventory changes
business invest most volatile b/c reflect optimism about future demand and affected by wide and sudden variations
invest demand is inversely related to real interest rate in mkt. determine to invest or deposit, compare real rate and expected rate; lower interest rate means invest more
Government Spending
total outlays for goods and svcs consumed by govt in providing public svcs and long lived public infrastructure (schools, bridges)
-transfer pmts (SS) not included b/c will be spent on final goods
Net Exports
attempt to capture $ spent on US-made goods and exclusdes American spending on goods and svcs made abroad
NX=Exports (X)- Imports (M)
can be positive or negative
National Income
National income- all income generated by US owned, no matter location (largest component is employee compensation) Salaries/wages Rents Interest Proprietor/ptnrshp income Corp profits
NDP
measures income generated in US regardless of owner
additions to NI
-indirect business taxes (sales, excise)
-net foreign factor income- excess of income generated in US from foreign owned resources over income from other countries from US owned
NDP = GDP- capital consumption allowance (depreciation)
GDP
Add to NDP the allowance for amnt of capital stock consumed/lost in process of income generation
Personal and Disposable income
PI- all income rec’d by indiv; total of NI minus taxes SS, income tax, etc.
DI- income of indiv after taxes; composed of consumption/interest pmt and savings
Limitations of GDP
only includes finished goods, doesn’t include intermediate goods (dbl counting)
increases in GDP don’t consider environmental factors (noise, congestion, pollution)
benefit of economic activity from disasters included; not included is loss
underground econ in 3rd world not included
value of leisure time not included
Nominal vs Real GDP
Nominal- basic GDP calc w/ adding total mkt value of all final goods/svcs in current $ (not good to compare diff yrs of output since price level fluctuates)
Real-facilitate yr to yr comparison, adjust nominal for changes in general price level to report in constant $
Real GDP= Nominal/Price index (in hundredths)
if real GDP rises faster than pop country has rising std of living
Business Cycle
tendency toward instability w/in overall growth of capitalistic economies
peak- @/near full employment; @/near max output for current level of resources/tech
recession- GDP falls, unemployment rises; if severe prices fall and is a depression
trough- econ activity reaches lowest ebb
recovery- output and employment rise, price level rises
Causes of recessions/troughs
consumer confidence declines (pessimistic about future, spend less); unsold inventory builds, businesses decrease production and fire ppl
miscalculation in fiscal or monetary policy by govt
Leading Economic indicators
changes suggest future change in real GDP in same direction
- avg workweek for mfg
- new orders for consumer goods and nondefense capital goods
- bldg permits for houses
- stock prices
- money supply
- spread between ST and LT interest rates
- consumer expectations
Leading Economic indicators
changes suggest future change in real GDP in opposite direction
initial claims for unemployment insurance (more ppl not working = slow business activity) vendor perf (vendors have slack time and carry high level of inventory)
Aggregate demand
schedule reflecting all goods/svcs consumers willing/able to buy at diff price levels
curve reflects relationship between price level and real GDP
downward sloping; no distinction between ST and LT
Aggregate supply
schedule reflecting all goods/svcs able to produce at various price levels
ST-changes in price level makes firs adjust output to earn excess profits; unused capacity available (workers work for hourly wage) represented by leftmost portion of curve; curve rise as inputs added
LT-vertical line, full employment, change in price=change in wages, no change in real profits
factors shift aggregate supply curve
change in productivity, measured by worker productivity (total real GDP produced during year divided by total # hours worked). more produce in an hour=more productive
Productivity
amnt of capital- more invested in plant & machinery, higher productivity (more automation)
state of tech- more advanced, more productive (shift AS curve right); adtl income from tech shifts AD curve right)
workforce competence-more educated/trained, higher
productivity
Growth
increase in price level depends on degree that AD increases wrt AS; change in price level (inflation) causes worry when economy expands
demand doesn’t change, right shift of AS results in lowering of price level (deflation)
Factors in economic growth
supply- increased productivity, increase in quantity/quality of natural resources
demand-increase in total spending
efficiency- efficient allocation of resources
Demand side policies
actors in free market aren’t only parties to determine AD
- govt can stimulate/suppress
- stimulative- encourage economy
Supply side
policies implemented to increase country’s stock of investment capital; use cap to increase capacity which stimulates AS
Inflation
sustained increase in the general level of prices
reported rate of inflation is avg of increase across all
prices in the economy
rate of inflation=(current yr price index- prior yr price index)/prior yr price index
price index- measure of price of mkt basket of goods/svcs in 1 yr compared w/ price in a base year
money’s purchasing power
how many goods/svcs able to acquire in exchange for` it
CPI
CPI=cost of market basket in current year/cost of mkt basket in base yr
monthly computation by Bureau of Labor Statistics
can lower business’ buying pwr, challenge in maintaining margins
compare amnts in constant $, both deflated using PI, difference divided by prior pd’s amnt
measures change in general price eve by pricing items in a typical urban household shopping list; uses 87 urban areas in US from 23k retail/svcs; rent data from 50k landlords/tenants
Constant dollar calculation
this year=$1080; CPI=115
last year=$950; CPI=107
difference nominal dollars=1080-950=130
constant dollars this year billing=1080/1.15=939.130
constant dollars last year billing=950/1.07=887.85
difference in constant dollars=51.28
nominal billings increases 13.7%
after inflation adjustment increased 5.8% (51.28/887.850)
Nominal vs real income
nominal- $ rec’d as wages, interest, rent, profits
real- purchasing power of income rec’d; relates directly to std of living; shrinks when nominal income doesn’t keep pace w/ inflation
Effects of inflation on financial reporting
inventory (LIFO)
- rapid rising prices, increases COGS, decreases op income, decrease tax liaab
- if use FIFO, COGS=older less costly inventory, boosts op income
depreciation (asset recorded at cost)
-rising prices, amnts reported as depreciation expense are lower than would be if in terms of replacement cost; op income higher in current pd, but replacing assets as retired is more $$$
Demand-pull inflation
demand outpacing the supply of goods
economy can’t keep up with demand, price of existing goods are bid up
when economy approaches full employment and demand continues to increase
“too many $ chasing too few goods”
Cost push inflation
increased per-unit production costs that pass on to consumers via higher prices
increases in RM costs are cause b/c occur as form of supply shock
Deflation
sustained fall in general price level, caused by opposite situations from inflation
fall in demand w/o supply contraction is left shift of AD curve; firms liquidate inventory even if lose $
-price and output fall
increase in output w/o increase in demand is right shift of AS curve
-price falls as output increases
Unemployment
unemployment rate= (# unemployed/size of labor force)*100
exclude those under 16, in jail, homemakers, FT student, retirees, discouraged workers (unemployed, able to work, not actively seeking work)
include those who are willing and able to work and seeking employment
distorted by false claim to seek work, cash basis workers
Frictional unemployment
caused by normal working of labor mkt
include those moving, ceasing work to pursue education/training, between jobs
acknowledges “normal” amnt of unemployment exists at any given time
Structural unemployment
composition of workforce doesn’t match need; result of changes in consumer demand/tech
-computer changes skills and eliminated jobs
available jobs aren’t in location where unemployed workers live
Cyclical unemployment
related to level of economy’s output; occurs in recessions (deficient-demand unemployment)
-consumer spending slow, firms decrease production and fire workers
“Full” Employment
natural rate of unemp has frictional and structural unemply combined
econ at full employment when all unemployed fall into these 2 categories; rate varies over time as demographic and institutional changes occur in economy
Effects of unemployment
lost value to the economy
goods not produced, svcs not provides never regained
-loss is GDP gap
social costs
- loss of skill
- personal/family stress
- violence/crime
- social upheaval
Phillips curve
theoretical relationship bet inflation and employment
based on historical and inverse relationship bet rate of unemp and rate of inflation
applicable in ST only
LT, inflationary policies won’t decrease unemp
Fiscal policy
govt as major player in marketplace, takes in revenues (taxes) and makes purchases (budget)
discretionary- spending under ctrl of indiv w/in govt (weapons contracts)
nondiscretionay- enacted in law; outlays (SS) must be made regardless of funding source bc Congress made them legal reqs; no indiv or group can choose to withhold or increase
Tools of fiscal policy
tax policy govt spending (hwy maintenance, military buildup) transfer pmts (welfare, food stamps, unemp comp)
Multiplier effect
each dollar spent by consumer becomes another consumer’s income, etc.
increased consumption for every adtl dollar consumers receive in income is called the marginal propensity to consume (MPC); remainder that was not spent put into spending
$ ricochets, has cumulative effect greater than single amnt
Multiplier= 1/(1-MPC)
i.e. increase in expenditure of x boosts GDP by the multiplier times x
Keynesian theory
expansionary fiscal policy during recession (stimulate AD) and contractionary during boom
expansionary policies
cut taxes, more $ for consumers
govt increase spending, increase demand for goods/svcs from private sector
transfer pmt increased, more $ for consumers
Inflationary gap
amnt by which economy’s aggregate expenditures @ full employment GDP exceed those necessary to achieve full employment GDP
if exist govt istitutes contractionary policies
contractionary policies
increase taxes, less disposable income
cut govt spending, decrease demand for goods/svcs from private sector
transfer pmt decreased
3 uses of money
medium exchange- $ is common language for valuation, if no $ would barter which is inefficient
unit of account- basis for bookkeeping, ease of comparison
store of value- value unit of $ determined by quanity of goods/svc it can be exchanged for; barter inefficient b/c if perishable could be worthless
real vs nominal interest rate
real= nominal rate- rate of inflation lender expects over loan life
nominal=stated rate of loan (real interest rate + expected inflation)
M1 vs M2
M1-only most liquid forms of $
M2-includes M1 and less liquid $
Fractional reserve banking
prohibits banks from lending out a $ rec’d on deposit
required reserve ratio is of each dollar deposited bank is req’d to either keep on on hand in vault or deposit with the Red Reserve Bank in its district
bare minimum is the req’d reserves
amnt customer deposits > req’d reserves is excess reserves; banks make loans from excess reserves
required reserves
provide fed w/ another tool for controlling money supply
amnt of $ banks can create is approximated using monetary multiplier
MM=1/req reserve ratio
Fed’s 3 tools of monetary policy
open market operations (most valuable)
req’d reserve ratio
d/c rate
Open market operations
treasury securities traded on open mkt, fed can purchase from or sell to commercial banks
-purchase to loosen $ supply (Fed fund rates fall)
-sell to tighten $ supply (Fed fund rates rise)
Fed funds rate- rate banks charge for overnight loans
-banks w/ excess reserves can lend on ST basis to banks in risk of being below req’d reserve ratio
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Required reserve ratio
requiring banks to retain funds affects profits
lowers reserve to loosen $ supply
-banks retain less $, can lend more
raises reserve to tighten $ supply
Discount rate
reflects changes Fed wishes to make
decrease $ supply, fed increases rate (less banks borrow)
increase $ supply, Fed decreases rate
