Unit 2 - Economic Indicators and the Business Cycle Flashcards
WHAT IS GDP?
GDP stands for Gross Domestic Product.
GDP is the dollar value of all final (not intermediate) goods and services produced within a country in one year.
GDP as a total flow of income and expenditure can be represented by the Circular Flow diagram.
WHAT ARE THE THREE WAYS TO MEASURE GDP?
There are two ways to measure GDP are:
The Expenditures Approach
The Income Approach
Both should result in the same final number - they are just different ways of looking at it.
EXPLAIN THE EXPENDITURES APPROACH TO CALCULATING GDP
In the expenditures approach, the total expenditure (spending) on final goods are looked at.
There are four kinds of spending that can occur:
Consumer Spending
Investment Spending (by businesses)
Government Spending
Exports - Imports (Other countries)
GDP = C + I + G + (X-M)
EXPLAIN THE INCOME APPROACH TO CALCULATING GDP
In the income approach, the income earned on all purchases of final goods is looked at.
There are four kinds of things it looks at:
Wages
Rent
Interest
Profit
The equation for that is:
Income = R + W + ir+ PR
(AKA Factor Payments)
WHAT ARE THINGS THAT ARE NOT COUNTED OR EXCLUDED IN TOTAL GDP?
Intermediate Goods
Non-Production Transactions such as financial transactions or real estate or used goods where things change hands but nothing was PRODUCED.
Non-Market and Illegal Activities such as things made at home or traded under the table.
EXPLAIN THE CIRCULAR FLOW MATRIX DIAGRAM
Factor services flow from individuals who own the factors (including their own labour) through factor markets to firms that use them to make goods and services. These goods and services then flow through goods markets to those who consume them. Money payments flow from firms to individuals through factor markets. These payments become the income of individuals. When they spend this income buying goods and services, money flows through goods markets back to producers.
WHAT ARE THE LIMITATIONS OF GDP?
Think “PIES”
Population: Countries may produce the same-sized pie, but may have to share it with more people depending upon their population size, which is why economics use GDP PER CAPITA to give a basic measure of standard of living, not just GDP as a whole.
Inequality: Even two countries with an identical GDP per capital, this doesn’t mean that they have an identical standard of living. Because the pie may not be getting shared in identical slices due to income inequality within the country.
Environment: A factory that billows pollution or cleaning up oil spills, etc. actually increases GDP! It doesn’t factor in the environmental costs of production, because those benefits and costs are subjective and hard to value.
Shadow Economy: GDP only counts things that happen within the “official” economy, which means that anything unofficial - things sold under the table, things done for love, bartering, drugs and illegal items, etc. - is left out.
WHAT ARE THE THREE TYPES OF UNEMPLOYMENT?
The three types of unemployment are:
FRICTIONAL: Workers temporarily transitioning between jobs
STRUCTURAL: Workers who have insufficient skills and so employers no longer demand them. This includes TECHNOLOGICAL unemployment (your job is obsolete).
CYCLICAL: Unemployment that is the result of a recession or drop in the business cycle.
EXPLAIN THE CONCEPT OF THE CONSUMER PRICE INDEX (CPI) AND HOW TO CALCULATE IT.
The CPI measures the change in the prices paid by consumers for a market basket of goods and services, and is the most commonly used measurement of inflation for consumers.
A market basket is a fixed list of common purchased items used to track inflation.
The formula to calculate CPI is:
CPI = Price of the market basket in the year you are looking for / Price of the market basket in a base year x 100
This is an easy way to see percentage changes SINCE THE BASE YEAR. (It does not indicate percentage changes between figures except the base year.)
WHAT IS THE DIFFERENCE BETWEEN NOMINAL AND REAL GDP?
NOMINAL GDP refers to the GDP in TODAY’s dollars (NOT adjusted for inflation).
Real GDP is the GDP adjusted for inflation (using base year prices).
Nominal GDP increases faster because it reflects GDP increases PLUS inflation increasing the price levels.
EXPLAIN THE CONCEPT OF THE GDP DEFLATOR AND HOW TO CALCULATE IT.
The GDP DEFLATOR is a broad measure of price levels in the economy (the index number shows how prices have changed since a base year).
The formula for calculating the GDP deflator is:
NOMINAL GDP / REAL GDP x100
The GDP Deflator for the base year is always 100, so for example if the GDP Deflator is 105, this indicates that that PRICES have increased 5% since the base year (not the previous year, the BASE YEAR).
EXPLAIN THE VARIOUS STAGES OF THE BUSINESS CYCLE
The Business Cycle demonstrates the way in which Real GDP fluctuates over time.
There is a PEAK in which the economy is speeding up and doing well, which puts upward pressure on everything where inflation occurs.
This then leads to a RECESSION, which is defined as two consecutive quarters of negative economic growth. This produces unemployment, and leads into a TROUGH.
There is then a RECOVERY.
WHY IS THE STUDY OF MACROECONOMICS IMPORTANT AND WHAT ARE ITS USES?
Macroeconomics was created to:
1) Measure the health of the whole economy
2) Guide government policies to fix problems
WHAT ARE THE THREE MAJOR ECONOMIC GOALS OF ALL COUNTRIES?
For all three countries, their three major goals are:
1) To promote economic growth
2) The limit unemployment
3) To keep prices stable (and limit inflation)
EXPLAIN THE CONCEPT OF UNEMPLOYMENT AND THE UNEMPLOYMENT RATE
Unemployment refers to workers that are actively looking for a job but aren’t working.
The UNEMPLOYMENT RATE is the percentage of people IN THE LABOUR FORCE who want a job but aren’t working.
EXPLAIN THE CONCEPT OF THE UNEMPLOYMENT RATE AND HOW TO CALCULATE IT
The UNEMPLOYMENT RATE is the percentage of people IN THE LABOUR FORCE who want a job but aren’t working.
The formula to calculate the unemployment rate is:
UNEMPLOYED / # IN LABOUR FORCE x 100
WHO IS INCLUDED IN THE LABOUR FORCE?
To be considered in the labour force, someone must be:
- Above 16 years old
- Able and willing to work
- Not institutionalized (in a hospital or jail)
- Not in the military
- Not in school full time
- Not retired
EXPLAIN THE CONCEPT OF THE NATURAL RATE OF UNEMPLOYMENT.
Frictional and structural unemployment are unavoidable and always occur in an economy. They are included in the natural rate of unemployment (NRU).
This is what is meant by FULL EMPLOYMENT.j
CYCLICAL UNEMPLOYMENT can be calculated as the unemployment rate minus the natural rate of unemployment.
Full Employment Output (Y) refers to the real GDP created when there is NO CYCLICAL UNEMPLOYMENT.
WHAT IS THE DIFFERENCE BETWEEN INFLATION, DEFLATION, AND DISINFLATION?
INFLATION is the rising general level of prices, and reduces the purchasing power of money. In general, inflation is not desired because it causes banks not to lend and causes less investment and less growth over time.
DEFLATION is a negative inflation rate or a decrease in general prices, which is also bad because it results in the hoarding of financial assets, decreasing consumer spending and GDP.
DISINFLATION is when prices increase at slower rates.
WHAT IS THE DIFFERENCE BETWEEN NOMINAL AND REAL WAGES
NOMINAL WAGES are wages measured by dollars rather than purchasing power.
REAL WAGES are wages adjusted for inflation.
WHAT IS THE IMPACT OF INFLATION ON INDIVIDUALS OR BUSINESSES?
Any unanticipated inflation hurts lenders, and hurts people with fixed incomes, and those who have saved money.
Inflation helps borrowers, and businesses where the price of the product increases faster than the price of resources.
HOW IS INFLATION MEASURED?
The government tracks the prices of specific “market baskets that include the same goods and services.
There are two ways to look at inflation over time:
THE INFLATION RATE: The percent change in prices from year to year
PRICE INDICES: Index numbers assigned to each year that show how prices have changed relative to a specific base year.
WHAT ARE THE 3 CAUSES OF INFLATION
1) The government prints too much money (the Quantity Theory)
2) Demand-Pull Inflation (when people want to buy more things - an overheated economy with excessive spending but the same amount of goods)
3) Cost-Push Inflation (when higher productions costs increase prices - a negative supply shock increases the costs of production and forces producers to increase prices)
EXPLAIN THE CONCEPT OF THE QUANTITY THEORY OF MONEY EQUATION
M x V = P x Y
Money Supply x Velocity = Price Level x Quantity of Output
P x Y is the Nominal GDP
WHY ARE DISCOURAGED WORKERS NOT INCLUDED IN THE UNEMPLOYMENT RATE?
The unemployment rate includes workers with jobs or actively looking for work. Individuals that are not looking for work are not part of the labor force.
