Unit 02: Economic Indicators and the Business Cycle

Question 1

02.01 Circular Flow

What are the 4 components of the Circular Flow Diagram?

Answer 1

Government: any lawmaking body (collect taxes and provides services)

Households: individuals in a house

Businesses: company earns income from the sale of goods and services

Rest of the World: interaction of three groups in foreign market

Question 2

02.01 Circular Flow

What are the 3 markets in the Circular Flow Diagram?

Answer 2

Product Market: buying and selling of finished goods and serives

Factor Market: exchange of factors of production resources necessary create good service (land, labor, capital)

Financial Market: stock market and banking services

Question 3

Draw the Circular Flow Diagrams?

Answer 3

Question 4

02.02 Gross Domestic Product

Define GDP:

Answer 4

GDP: total dollar value of all final goods and servies produced in a nation during a period

Add up all expenditure (consumption, investment, government spending, and net exports) = GDP

“Final”

goods sold to consumers (not producers)

goods sold to businesses → intermediate goods

All goods in economy (foreign and domestic)

Question 5

02.02 Gross Domestic Product

Define Gross Nation Product (GNP):

Answer 5

Gross Nation Product (GNP): all final goods produced nation’s citizens no matter their country

Question 6

02.02 Gross Domestic Product

How does GDP relate to inflation?

Answer 6

GDP: not adjusted for inflation and reflect final value of all groups in current year prices

Question 7

02.02 Gross Domestic Product

How is GDP per capita determined?

Answer 7

Real GPD ÷ number of people living in nation

used compare the wealth of nations & standard of living

Question 8

02.02 Gross Domestic Product

What is the difference between real and nominal?

Answer 8

Real is adjusted for inflation.

Nominal is stated in current prices.

Real = nominal - inflation

Question 9

02.02 Gross Domestic Product

What are the 4 categories of GPD?

Answer 9

1. Consumer Spending (C)
2. Investment Spending (I or Ig)
3. Government Spending (G)
4. Net Exports (X-M)

Question 10

02.02 Gross Domestic Product

What is Consumer Spending?

Answer 10

(Largest) consumer spending

• cars, college education, gas

Question 11

02.02 Gross Domestic Product

What is Investment Spending?

Answer 11

Spending to increase productivity or output

• market value products are built but not sold (Business inventories)

(1) Products sold: GPD ± Inventory Value + selling price)

If:

1. total output exceeds sales → investment spending builds up
2. produces more than sell → unsold inventories increase GDP

predece decrease in producion (cut back production until inventories sold)

3. sell more than produce in a time period → inventories drawn back down and GDP decreases

(2) Degree of Excess Capacit

refers to how much existing factory space is available

1. Increase: more empty factory space & decrease investment spending
2. Decrease: less empty factor & increase investmen spending

Financial investments are not real capital and thus do not help GDP grow.

Question 12

02.02 Gross Domestic Product

What is Government Spending?

Answer 12

Spending by government

infrastructure and national defense

Question 13

02.02 Gross Domestic Product

What is Net Exports?

Answer 13

Exports (X) - Imports (M)

• export: sells to another country
• import: buy from another country

Question 14

02.02 Gross Domestic Product

How can the Expenditure Approach be used to Calculate GDP?

Answer 14

tabulate GDP using all expenditure

(C + Ig + G + (X-M) )

Question 15

02.02 Gross Domestic Product

How can the Income Approach be used to Calculate GDP?

Answer 15

tabulate GDP from earnings and incomes (rent, profit, wages, rent)

recieved through economy and adjusting for bussiness deduction and foreign incomes

• indirect business taxes: non-profit based taxes paid by corporations

National Income: (W + P + I + R + depreciation + indirect business taxes ─ subsidies + net income of foreigners

Personal Income: money household makes before subtraction od income tax

Disposable Income: money households acutally makes after taxes

Question 16

02.02 Gross Domestic Product

How can the value-added approach be used to calculate GDP?

Answer 16

Sums up individual dollar-value added from each stage of production

Question 17

02.02 Gross Domestic Product

What are the 7 items not calculated in the GDP?

Answer 17

[1] Purely financial transactions

1. stock purchases
2. Public transfer payments
3. Private transfer payments
4. FInancial gains from sales of assets that are purely financial (selling house and making a profit)

[2] Intermediate goods used in production process and counted when final goods are sold

[3] Secondhand sales

[4] Nonmarket & other household production activities

• stay at home mother
• fix own car

[5] Leisure Activities

[6] Underground economy

[7] Costs of pollution

Question 18

02.02 Gross Domestic Product

What are the 5 other ways (excluding GDP) to determine National Income?

Answer 18

Gross National Product (GNP):

• value of all goups produced by nation’s citizens (in and out country)

National Income (NI):

• all money payments (wages, profit interst, rent) earned by households
• Should be equivalent to GDP

Net Domestic Product (NDP):

• GDP - consumption of fixed captial (depreciation)
• must account for depreciations

Personal Income (PI):

• directly and indirectly earned by households
• not count Social Security and corporate tax
• count unemployment and welfare

Disposable Personal Income (DI):

• what households have to spend
• PI - personal income tax

Question 19

What are the 7 indicators of Standard of Living?

Answer 19

1. GDP per capita
2. Rate of inflation
3. Rate of population growth
4. Change in the distribution of income
5. Change in leisure time enjoyed by the typical worker
6. Change in the impact of externalities not included in the GDP calculation
7. Change in product quality

Question 20

02.03 The Business Cycle Inflation and price Indices

What is a business cycle?

Answer 20

• portrays highs and lows of economy (as people buy and cell goods)
• may be several years or weeks
• average growth rate: 2.5-3.5% per year → secular growth trend
• small changes: “random fluctuations”

Question 21

02.03 The Business Cycle Inflation and price Indices

What does the beginning of the cycle represent?

Answer 21

“happy medium”

1. not too rapid growth or too slow
2. economy stable

Question 22

02.03 The Business Cycle Inflation and price Indices

hat does the expanding economy represent? How can that lead to a decrease?

Answer 22

Expanding = some inflation (generally 3-5%)

Rises too quickly: followed by decreased in planned inventories (businesses sel current inventories)

Expansion Period characteristics:

1. consumer spending
2. unemployment

Peak: economy reached maximum growth

Reduction:

1. prices are too high → less spenditure
2. unplanned inventories increase too much: slow down production and redundancies

Question 23

02.03 The Business Cycle Inflation and price Indices

What does the contraction (ressession) mean?

Answer 23

Real GPD decreases

Worsens: people do not have jobs, no purchases

Trought: bottom of cycle

Reason Grow Again:

1. renewed consumer confidence
2. outside invtervention

Question 24

What are the 4 types of Inflation?

Answer 24

1. Cost Push

price rise, since cost of production increased

2. Wage Push

prices increase, workers receive more wages for same amount of work

3. Demand Pull

prices go up, increase in consumer demand for goods

1. increased income
2. growing population
3. changes preferences
4. Profit Push

owners of business raises prices → want more profit

Question 25

Define **Stagflation**?

Answer 25

* economy suffer _high infation_ and _high unemployment_ same time (*greater 5%)* Caused: 1. supply moves left 2. prices rise and employers lay off workers (decrease quantity demanded)

Question 26

How can inflation be helpful?

Answer 26

Inflation: **value of money decrease** Help: _Buy more than able to buy in the future_

Question 27

How does GDP relate to inflation?

Answer 27

**Inflation** can be defined as a sustained increase in the price level over time. 1. Whenever _actual GDP is greater than potential GDP_, inflation exists in the economy. 2. This is sometimes called an inflationary GDP gap.

Question 28

What measurement method is used to measure inflation?

Answer 28

The Index!

Question 29

# 02.04 Infation and Price Indices What are the three ways to measure inflation?

Answer 29

1. **Consumer Price Index (CPI)** 2. **Producer Price Index (PPI)** 3. **GDP Deflator**

Question 30

# 02.04 Infation and Price Indices What is the Consumer Price Index (CPI)?

Answer 30

*Measures change in prices of goods and services* compares cost standard basket of goods from year to year

Question 31

# 02.04 Infation and Price Indices Define Producer Price Index (PPI):

Answer 31

* Measures the change in price of producing goods year to year* * leading indicator → as producers pay more, consumers will as well

Question 32

# 02.04 Infation and Price Indices What is the GDP Deflator?

Answer 32

Good indicator of inflation: **looks change in average price level for all groups and services** (*not include imports*) * indicate inflation changes in consumer spending or introduction of new goods and services automatically reflected GPD: ***RGDP = Nominal GDP ÷ GDP Deflator \* 100***

Question 33

# 02.04 Infation and Price Indices What is a *basket of goods*?

Answer 33

Explain how the changing prices of goods pay out in the final inflation figure

Question 34

# 02.04 Infation and Price Indices How do economists calculate the value of a basket of goods?

Answer 34

1. one years chosen as baseline for price index = 100 2. new basket: *divide old base by new base \* 100* ## Footnote *The index is then calculated by dividing the price of the basket of goods and services in a given year (t) by the price of the same basket in the base year (b). This ratio is then multiplied by 100, which results in the Consumer Price Index.*

Question 35

# 02.04 Infation and Price Indices How does nominal and real income relate to inflation?

Answer 35

_Nominal Income_: **amount of income you have in current dollars** Inflation decreases the value of nominal income Real Income: adjusted for inflation *use CPI to adjust nominal income*

Question 36

# 02.04 Infation and Price Indices If you received a raise in your nominal income from $20,000 to $25,000 and the CPI rose from 100 to 125, your real income (and therefore purchasing power) did not change. How do we know your real income did not change?

Answer 36

***Nominal Income / (CPI/100) = Real Income*** $20,000 / (100/100) = $20,000 / 1.00 = $20,000 $25,000 / (125/100) = $25,000 / 1.25 = $20,000

Question 37

# 02.04 Infation and Price Indices Formula to determine the New CPI?

Answer 37

{ CPI Later Year / CPI Earlier Year } x 100

Question 38

# 02.04 Infation and Price Indices Wwhat is the formula for how much inflation has increased?

Answer 38

[ { CPI Later Year - CPI Earlier Year} ÷ CPI Earlier Year ] x 100

Question 39

# 02.04 Infation and Price Indices Formula for Real Income

Answer 39

real = nominal - inflation.

Question 40

# 02.04 Infation and Price Indices Formula to find the difference between real measures and nominal measures:

Answer 40

Real Measure = Nominal Measure ÷ [Price Index/100]

Question 41

# 02.04 Infation and Price Indices What are cost of living adjustments?

Answer 41

Receive money government/employer = cost of living adjustments (COLA) * based on CPI * relfect goods and services purchased by average consumer * limited size - not keep up with inflation

Question 42

# 02.04 Infation and Price Indices What is Doubling Prices?

Answer 42

Economists determine how long it will take for prices to double: ***Rule of 70*** divide 70 by interest rate = determine years

Question 43

Who are helped by unanticipated inflation: lenders or borrowers?

Answer 43

**Borrowers**: since the value of money decrease, they can pay back debts at a lower value than they lended it at.

Question 44

# 02.05 Unemployment When in the business cycle is unemployment prevelent?

Answer 44

Economy is in contraction phase opperating inside PPF

Question 45

# 02.05 Unemployment What constitutes and the work force?

Answer 45

**Work Force:** 1. 16+ (working and searching) 2. part-time workers

Question 46

# 02.05 Unemployment Why is the unemployment reate not accurate?

Answer 46

dishonest people claim to be searching for work and claiming unemployment benefits

Question 47

# 02.05 Unemployment Formula for Unemployment:

Answer 47

Number of unemployed people ÷ number people in the labor force

Question 48

# 02.05 Unemployment What are the 4 types of unemployment?

Answer 48

1. Frictional Unemployment (voluntary) 2. Seasonal Unempoyment (voluntary) 3. Structural Unemployment (Involuntary) 4. Cyclical Unemployed (Involuntary)

Question 49

# 02.05 Unemployment What is Frictional Unemployment?

Answer 49

*(Voluntary)* **people voluntarily moving one job to another** 1. unhappy current job or seeking better 2. entering workforce for the first time 3. duration: usually short

Question 50

# 02.05 Unemployment Define Seasonal Unemployment:

Answer 50

*(Voluntary*) People find work that is only available during certain times of year 1. lifeguard 2. ski instructor

Question 51

# 02.05 Unemployment Define structural unemployment:

Answer 51

*(Involuntary*) **Loss of industry jobs that may cause the following:** 1. technology replace workers 2. international trade and import competition 3. out-sourcing or relocation 4. changing minimum wage or union wage 5. government policy

Question 52

# 02.05 Unemployment What is Cyclical Unemployment?

Answer 52

(*Involuntary*) **Caused by a decrease in total spending in economy** Producers and businesses do not need as much workers because there is a slowdown in economy 1. _Increase_: contractionary phase 2. _Decrease_: expansionary phase

Question 53

# 02.05 Unemployment What do different levels of unemployment indicate? when is it healthy and when does it indicate that there is a recesion?

Answer 53

Natural Rate: 3-5% in US * generally frictional or structural x \> 5%: recession

Question 54

How can a GDP gap be created from unemployment?

Answer 54

Created unemployment is greater thanthe natural rate of unemployment * *Actual GPD \< Potential GPD*

Question 55

# 02.06 Module Two Exam Samir decided to work an extra week at Physics R Us where he earns $20 per hour rather than go with his family on a Caribbean cruise. The opportunity cost of his decision was 1. the wage he earned at work during that week 2. the time he might have spent cruising the Caribbean. 3. the wage less the value of the time he might have spent cruising the Caribbean. 4. the wage plus the value of the time he might have spent cruising the Caribbean. 5. his job at Physics R Us.

Answer 55

**2.** the time he might have spent cruising the Caribbean

Question 56

# 02.06 Module Two Exam In the circular flow diagram 1. households provide consumer spending to the financial markets. 2. firms provide savings to the financial markets. 3. firms provide investment spending in the financial markets. 4. governments borrow money from financial markets. 5. governments spend money in the financial markets.

Answer 56

**4.** governments borrow money from financial markets

Question 57

# 02.06 Module Two Exam Which of the following is true of the factor market? I. Households are buyers. II. Households are sellers. III. Firms are buyers. IV. Firms are sellers. 1. I only. 2. II only. 3. III only. 4. I and IV only. 5. II and III only.

Answer 57

**5.** II and III only

Question 58

# 02.06 Module Two Exam GDP would include all of the following except 1. income earned for engineering services. 2. income earned by an airline pilot. 3. tips earned but not reported by a waitress at an upscale restaurant. 4. the purchase of a new automobile by a school. 5. the purchase of a new home by a retired couple.

Answer 58

**3.** tips earned but not reported by a waitress at an upscale restaurant

Question 59

# 02.06 Module Two Exam The income that households have after taxes is called 1. national income. 2. profitable income. 3. retained earnings. 4. rental income. 5. disposable income.

Answer 59

**5.** disposable income

Question 60

# 02.06 Module Two Exam If an American woman purchases a pair of shoes in a local shoe store made by an American owned company located in Italy, what would happen to Consumption and GDP as a result? 1. Consumption / GDP 2. No change / Increase 3. Increase / No Change 4. Increase / Increase 5. Decrease / No change 6. No change / Decrease

Answer 60

4. Increase / Increase

Question 61

# 02.06 Module Two Exam Which of the following is true regarding nominal and real GDP? I. Real GDP is stated in current prices. II. Nominal GDP is stated in current prices. III. Real GDP is adjusted for inflation. 1. I only. 2. II only. 3. I and III only. 4. II and III only. 5. I, II, and III.

Answer 61

**4.** II and III only

Question 62

# 02.06 Module Two Exam GDP underestimates a nation's production of goods and services when you 1. change the oil in your car. 2. buy the oil for your car. 3. pay a mechanic to change your oil. 4. have a mechanic rotate the tires on your car. 5. order tires from an Internet site.

Answer 62

**1.** change the oil in your car

Question 63

# 02.06 Module Two Exam As opposed to GDP, GNP is a measure of all 1. goods and services produced in an economy. 2. final goods and services produced in an economy. 3. goods and services produced by a nation's citizens. 4. final goods and services produced by a nation's citizens living abroad. 5. final goods and services produced by a nation's citizens.

Answer 63

**5.** final goods and services produced by a nation's citizens

Question 64

# 02.06 Module Two Exam Assume that business production aimed at consumers increased by $22 billion last year while sales for those same businesses increased by $18 billion. As a result of these changes, GDP would 1. increase by $4 billion while business inventories increased by $18 billion. 2. increase by $18 billion while business inventories increased by $18 billion. 3. increase by $18 billion while business inventories increased by $4 billion. 4. increase by $22 billion and business inventories increased by $18 billion. 5. increase by $22 billion and business inventories increased by $4 billion.

Answer 64

**5.** increase by $22 billion and business inventories increased by $4 billion

Question 65

# 02.06 Module Two Exam If nominal GDP was $2,000 billion in 2010 and the CPI was 250, then real GDP would have been approximately 1. $8 billion. 2. $80 billion. 3. $800 billion. 4. $5,000 billion. 5. $500 trillion.

Answer 65

**3.** $800 billion

Question 66

# 02.06 Module Two Exam If real GDP was $900 billion and the CPI was 150, then nominal GDP was approximately 1. 1350. 2. 600. 3. 60. 4. 6. 5. 1.67.

Answer 66

**1.** 1350

Question 67

# 02.06 Module Two Exam The real interest rate can be found by 1. adding the nominal interest rate and the inflation rate. 2. subtracting the inflation rate from the nominal interest rate. 3. multiplying the nominal interest rate times the inflation rate. 4. dividing the nominal interest rate by the inflation rate. 5. subtracting the nominal interest rate from the inflation rate and then dividing by the nominal interest rate.

Answer 67

**2.** subtracting the inflation rate from the nominal interest rate.

Question 68

# 02.06 Module Two Exam If the CPI equals 110 in 2009 and 105 in 2010, then 1. the rate of inflation is exactly 5%. 2. the average quality of goods and services has increased. 3. the average quality of goods and services has decreased. 4. the average price of goods and services has increased. 5. the average price of goods and services has decreased.

Answer 68

**5.** the average price of goods and services has decreased

Question 69

# 02.06 Module Two Exam If the market basket of goods cost the average consumer $1,200 in 2000 and it cost them $1,560 in 2005, then the price index increased by approximately 1. 10%. 2. 23%. 3. 30%. 4. 40%. 5. 77%.

Answer 69

**3.** 30%.

Question 70

# 02.06 Module Two Exam Price Comparisons of Products 2009/2010 Limousine: $180/ $216 Prom Dress: $270/ $324 Assume that the CPI for 2009 was 100 and the CPI for 2010 was 120. According to the table above, all of the following are true except 1. the nominal price of a limousine rental rose from 2009 to 2010. 2. the nominal price of a prom dress rose from 2009 to 2010. 3. the real price of a limousine rose from 2009-2010. 4. the real price of a prom dress did not change. 5. the real price of a limousine rental did not change.

Answer 70

**3.** the real price of a limousine rose from 2009-2010

Question 71

# 02.06 Module Two Exam **CPI Data** Year→Index 2006→100 2007→110 2008→120 2009→125 2010→140 According to the table above, if a movie cost $8 in 2006, how much did it cost in 2010? 1. $8.80 2. $9.60 3. $10.00 4. $11.20 5. $15.60

Answer 71

**4.** $11.20

Question 72

# 02.06 Module Two Exam CPI Data Year→Index 2006→100 2007→110 2008→120 2009→125 2010→140 According to the table above, what was the inflation rate between 2007 and 2008? 1. 8% 2. 9% 3. 10% 4. 11% 5. 20%

Answer 72

**2.** 9%

Question 73

# 02.06 Module Two Exam The unemployment rate published by the government is the percentage of the 1. population that is not working. 2. population that is collecting unemployment. 3. population that is unemployed. 4. labor force with part-time jobs. 5. labor force that is unemployed.

Answer 73

**5.** labor force that is unemployed

Question 74

# 02.06 Module Two Exam If the working age population was 280 million of the 350 million people living in the United States and the labor force was 250 million with an unemployment rate of 6%, the number of employed workers would be 1. 15 million workers. 2. 16.8 million workers. 3. 233.2 million workers. 4. 235 million workers. 5. 263.2 million workers.

Answer 74

**4.** 235 million workers

Question 75

# 02.06 Module Two Exam When inflation is increasing in the economy, what phase of the business cycle is active? 1. Trough 2. Expansion 3. Contraction 4. Peak 5. Slump

Answer 75

**2.** Expansion

Question 76

# 02.06 Module Two Exam Judy lost her job at the Worldwide Cable Company because customers switched to Skynet Satellite and Judy is not skilled in working with satellite television services. This is an example of 1. a discouraged worker. 2. frictional unemployment. 3. structural unemployment. 4. cyclical unemployment. 5. an employed individual.

Answer 76

**3.** structural unemployment

Question 77

# 02.06 Module Two Exam Chris quit his job at Furniture Country because he felt he could find a better paying job at Wood World. This is an example of 1. frictional unemployment. 2. structural unemployment. 3. cyclical unemployment. 4. a discouraged worker. 5. an employed individual.

Answer 77

**1.** frictional unemployment

Question 78

# 02.06 Module Two Exam Carl is unemployed because he was laid off from his construction job when the housing market crashed. This is an example of 1. frictional unemployment. 2. structural unemployment. 3. cyclical unemployment. 4. an individual who is not unemployed. 5. an employed individual.

Answer 78

**3.** cyclical unemployment

Question 79

# 02.06 Module Two Exam The type of unemployment most often associated with a recession is 1. the natural rate of unemployment. 2. frictional unemployment. 3. structural unemployment. 4. cyclical unemployment. 5. none of the above; inflation is associated with a recession.

Answer 79

**4.** cyclical unemployment

Question 80

Latisha likes apple juice and orange juice equally well, however she normally drinks orange juice with her breakfast each day. Apple juice is packaged in bottles and orange juice is packaged in cartons. There is a freeze that destroys half of the orange crop this season. Explain the impact of the freeze on the markets for orange juice, apple juice, bottles, and cartons. For each market, make sure you include the following in your answer: * Supply or Demand Shift * Equilibrium Price and Quantity Change * The reason for the change

Answer 80

**The market for Orange Juices**: 1. _Supply or Demand Shift_: One of the shifters of supply is resource cost and availability. Since the supply curve for oranges moves to the left and oranges are a resource in the production of orange juice, the supply curve for orange juice will also move to the left as well. 2. _Equilibrium Price and Quantity Change_: Since Latisha's demand for orange juice did not change, but the supply did move left, the equilibrium will move to the left as well. The equilibrium of the market has less orange juice on the market and a price increase. Since the price increased, and the Law of Demand states an inverse relationship between quantity demanded and price, the quantity demanded of orange juice will decrease. 3. _Reason for change_: One of the (if not the main) products in orange juice is oranges, meaning that when the supply decreased by half due to the freeze, the supply for oranges moved left. The shift leftwards meant fewer oranges available, and those available are more expensive; therefore, the supply curve for orange juice will move leftwards correspondingly. **The market for Apple Juice**: 1. _Supply or Demand Shift_: The demand curve for apple juice will shift to the right whilst the supply remains the same. 2. _Equilibrium Price and Quantity Change_: Since the demand curve shifted to the right, the equilibrium will move to the right as well. The quantity supplied on the market will increase, which corresponds to an increase in price as well. 3. _The reason for the change_: There is no indication that the freeze affected the production or distribution of apples; hence, the supply curve does not move. However, since apple and orange juices are substitutes and orange juice became more expensive (since its supply curve moved left), the demand curve for apple juice will move right. **The market for Bottles**: 1. _Supply or Demand Shift_: The bottles' demand curve will shift to the right, corresponding with the rightwards shift of the demand curve for the apple juice. 2. _Equilibrium Price and Quantity Change_: Since the demand graph shifted rightwards (or outwards), the quantity and the price of the bottles on the market will increase. 3. _The reason for the change_: Since bottles are parts of the production of apple juice, the bottles are complements to the apple juice, because the demand for apple juice increased, the amount of apple juice produced also increased, which means that the producers require more containers to hold the apple juice; hence, the demand curve for bottles shifts to the right. **The market for Cartons**: 1. _Supply or Demand Shift_: The demand curve for cartons will shift to the left, corresponding with the decrease in orange juice production. 2. _Equilibrium Price and Quantity Change_: The demand curve shifted inwards, resulting in a decrease in the number of cartons on the market and a decrease in cartons' price. 3. _The reason for the change_: Even though the carton market was not directly affected by the freeze, since one of their main buyers was affected by the freeze, the demand will shift to the left. The decrease in oranges on the market resulted in a reduced output of orange juice. Since the juice was stored in cartons, the cartons' demand from the orange juice company will decrease, corresponding to the lower output levels.