The Macro Goal Variables
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Transcript The Macro Goal Variables
Chapter 11 – Introduction to
Macroeconomics
This chapter starts our coverage
of Macroeconomics, the study of
how the economy works as a
whole.
The chapter defines the key
variables to measure the “health”
of an economy, and briefly
discusses how the variables are
measured and interpreted.
Microeconomics Versus
Macroeconomics
Microeconomics -- the “web of
connections” of all the individual
interdependent markets that make
up an economy.
Macroeconomics – putting the
microscope away and looking at
the overall economy as its own
entity, imperfections and all.
The Macro Goal Variables
Measures of Economy’s “Health”
Definitions and Realistic Goals
(US, for the most part).
Goal #1 – Sufficient
Production or Output
Measured by Real Gross Domestic
Product (Real GDP).
Real GDP (Y) -- The total production or
output of final goods and services over
a period of time, expressed in constant
prices of a base year.
Real Versus Nominal GDP
Nominal GDP (unadjusted GDP) -Total production at current prices.
Real GDP (GDP adjusted for
changes in prices) -- Total
production at constant prices of a
base year.
Why is Production or
Output Important?
Real GDP – the sum total of
production of final goods and
services across all markets of the
economy, it measures total
production or output.
By definition, Real GDP identically
measures total income to all the
factors derived from production
and sales.
Real GDP -- Realistic Goal
Realistic Goal for Real GDP -- to
be as high as possible without
accelerating inflation
(overstimulated economy).
The Full Sustainable Level
of Real GDP (Potential GDP)
The Full Sustainable Level
of Real GDP (YF) – the maximum
level of Real GDP the economy can
produce without bringing on
accelerating inflation or
overstimulation.
Characterizing the
Economy: Y versus YF
Y < YF -- sluggish economy
Y > YF -- economy with
accelerating inflation
Y = YF -- economy with constant
inflation rate (desired
state)
Characteristics of YF
Unobservable.
Has grown at 2.5% per year for the
US historically since World War II.
Maybe for the US, it has grown 3%
per year in most recent decade.
Growth rate is not the same for all
countries (Europe, Canada is less).
Recession -- A Special Case
Recession -- The situation where
the level of real GDP decreases, or
exhibits negative growth, for at
least two consecutive quarters.
Clearly, in a recession, Y < YF.
Goal Variable #2 -- Inflation
Measured by the Inflation Rate -the growth or percentage change
in the overall price level.
First, measure the price level (P):
Consumer Price Index (CPI).
Inflation Rate = Percentage
Change in P.
Why is Inflation a Problem?
Inflation erodes the purchasing power
of money, causes distortions in
decisions.
-- Why hold money?
-- Why lend money?
Inflation can erode people’s standard
of living, put pressure on labor
markets.
-- Fixed incomes.
-- Workers with insufficient raises.
Realistic Goal -- Inflation
Ideal Goal: Inflation Rate = 0%.
Realistic Goal (US):
|Inflation Rate| < 3%.
The Consumer
Price Index (CPI)
Key measure of the price level (P).
Computed based upon a Market
Basket: comprehensive set of
goods and services purchased by
consumers.
Fixed Weight Index
Computing a CPI
Example -- Compute the CPI for 2008
with 1992 as the base year.
CPI2008 =
(Cost of 1992 Market Basket
Purchased in 2008)
(Cost of Actual Consumer
Purchases in 1992)
Computing The Inflation
Rate (Given the CPI)
Example -- Compute the Inflation Rate
for 2008, given that the CPI for 2007
and 2008 have been calculated.
Inflation =
Rate2008
CPI2008 – CPI2007 x 100%
CPI2007
Biases in the CPI
(as a Fixed Weight Index)
Entry Bias -- goods leaving and
entering the market basket.
Quality Bias -- different quality of the
same goods over time.
Outlet Bias -- retail vs outlet prices?
Commodity Substitution Bias -changing quantities over time due to
demand response to goods that have
become relatively expensive.
The GDP Deflator
An alternative measure of the price
level (P).
Market Basket: comprehensive set of
goods and services purchased by all
spenders in the economy (consumers,
businesses, government, and
foreigners on US exports and imports).
Chain Weighted Index – alleviates
some of the biases of the CPI due to
being a fixed weight index.
Converting
Nominal GDP to Real GDP
Example -- find Real GDP2008
Real GDP2008 = Nominal GDP2008
P2008
Real GDP for other years is computed the
same way.
Real GDP Growth = Percentage Change in
Real GDP.
Goal Variable #3 -Unemployment
Measured by the Unemployment Rate (u).
u = (# of people unemployed) x 100%
(labor force)
Unemployed -- those people out of work
and seeking work.
Labor Force -- people employed +
people unemployed
What the Unemployment
Rate Does Not Measure
discouraged workers, those who
drop out of the labor force
part-time versus full-time
employment
compensation of those working
people with multiple jobs
Realistic Goal -Unemployment Rate
Realistic Goal -- as low as possible
without inflation accelerating
(overstimulated economy).
Natural Rate of Unemployment (uN) -The lowest unemployment rate the
economy can achieve without
accelerating inflation.
Realistic Goal: u = uN
Interpretation: u versus uN
u = uN Desired State of
Economy
u > uN Sluggish Economy
u < uN Accelerating Inflation
(Overstimulated Economy)
Types of Unemployment
Total Unemployment = Frictional +
Structural + Demand-Deficient
Frictional Unemployment -Unemployment due to time
involved to matching unemployed
and appropriate jobs.
Structural and DemandDeficient Unemployment
Structural Unemployment -Unemployment due to a mismatch
of available workers and jobs.
Demand-Deficient Unemployment
-- Unemployment due to a
generally sluggish economy.
There are not enough jobs for
everyone who wants one.
The Natural Rate of
Unemployment Revisited
Natural Rate of Unemployment (uN) -The unemployment rate in which
inflation has no tendency to accelerate
or decelerate.
Another Interpretation -- uN is the
unemployment rate with zero demanddeficient unemployment.
Economy at uN: “full employment”.
Where is uN for the US?
Historically, uN = 5.5%
Is uN now maybe 5%?
Most other countries: uN is higher
than US measure.
Real GDP and the
Unemployment Rate
u = uN Y = YF,
(Desired State of Economy)
u > uN Y < YF,
(Sluggish Economy)
u < uN Y > YF,
(Accelerating Inflation)
Unemployment -- Not an
Independent Problem
Real GDP Growth
Employment Growth u
Real GDP and unemployment -not independent problems.
Focus on getting one of them to
the desired goal, and the other one
will automatically follow (although
not a perfect correlation).