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FIN 30220: Macroeconomic Analysis. Introduction to The US Economy. How do we measure a country’s size? Total production would be a good start…but. Choose the “American” Product. Where do BMWs come from?. Germany. China. USA. Canada. Egypt. South Africa. India. Japan. Mexico.

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fin 30220 macroeconomic analysis

FIN 30220: Macroeconomic Analysis

Introduction to The US Economy

slide2

How do we measure a country’s size? Total production would be a good start…but

Choose the “American” Product

slide3

Where do BMWs come from?

Germany

China

USA

Canada

Egypt

South Africa

India

Japan

Mexico

slide4

Where does your IPhone come from?

Imports of the iPhone in 2009 contributed $1.9 billion to the U.S. trade deficit with China.

slide5

Two measures of a country’s production

Gross Domestic Product represents the total currentmarket value of all goods and services produced within a country over the course of some time period

Gross National Product represents the total currentmarket value of all goods and services produced by a country’s citizens over the course of some time period

VS

slide6

The Bureau of Economic Analysis (BEA) reports Gross Domestic Product (GDP) for the United States on a quarterly basis:

For the second quarter of 2014, GDP in the United States was (on an annualized basis) was...

$17,311,300,000,000.00

Gross National product

$17,532,300,000,000.00

* Source: www.bea.gov

slide7

Why East Timor’s GNP is almost six times as high as its GDP

Gross Domestic Product: $1.3B

Gross National Product: $7.54B (+580%)

Foreign Aid

slide8

Why is Ireland’s GNP so much lower than its GDP?

Gross Domestic Product: $210.3B

Gross National Product: $164.2B (-25%)

“Double Irish with a Dutch Sandwich”

(Do a google search on this)

slide9

How does the US Economy compare in size to other countries around the world? (World Economy = $87T ; the countries listed below are 75% of the total)

European Union

$15.8T

Russia

$2.5T

United States

$16.7T

China

$13.4T

England

$2.4T

Japan

$4.7T

California

$2.0T

India

$4.9T

Mexico

$1.8T

Brazil

$2.4T

Australia

$998B

PPP Method 2013 est.

* Source: CIA Factbook

slide10

Gross Domestic Product represents the total current market value of all goods and services produced within a country over the course of some time period

The average price of a Big Mac in China is*

The average price of a Big Mac in the United States is* $4.62

16.60 Yuan

Problem: How do we compare economies using different currencies?

TheMarket Exchange rate method involves converting foreign prices to US dollars using the current market exchange rate.

1 Chinese Yuan = .16 U.S. dollars

or

1 US Dollar = 6.24 Chinese Yuan

Y16.60 x .16 = $2.65

*2014 Prices

slide11

Problem: With the extreme variability in exchange rates, is the market exchange method accurate?

Yuan Per US Dollar

slide12

ThePurchasing Power Parity method values foreign production at prevailing US prices.

The average price of a Big Mac in China is*

The average price of a Big Mac in the United States is* $4.62

16.60 Yuan

1 Chinese Yuan = .16 U.S. dollars

Market Exchange rate method

Purchasing Power Parity Method

VS.

$4.62

16.60 x .16 = $2.65

No Calculation Necessary!

slide13

ThePurchasing Power Parity method assumes that if markets are functioning properly, profitable trading opportunities will eventually be eliminated

The average price of a Big Mac in China is*

The average price of a Big Mac in the United States is* $4.62

16.60 Yuan

1 Chinese Yuan = .16 U.S. dollars

$2.65 by current exchange rate

In this example, you could make money by buying Big Macs in China and then resell them in The US. There is a unique exchange rate that eliminates this profit opportunity.

16.60 x exchange rate = 4.62

4.62

exchange rate =

= .28 ($ per Yuan) (3.57 Yuan per $)

16.60

(This is known as the PPP exchange rate)

slide14

The PPP exchange rate seems to eliminate the short term variation, but do markets really eliminate profit opportunities?

Yuan Per US Dollar

.28

PPP

55%

.16

slide15

“Overvalued”

Valuing currencies using the Big Mac Standard

“Undervalued”

China

slide16

Note that the method by which countries are evaluated sometimes greatly change the results!

*2013 Estimate

** CIA Factbook

slide17

Lets use the PPP method as a reasonable method for comparing countries. Per Capita GDP is calculated by dividing total GDP by the current population.

$17T

Per Capita GDP =

320M

= $53,125

Per capita GDP is a better measure of the well being of an average American.

* Source: www.bea.gov

slide18

In Per Capita Terms,the US drops to #14 while China drops to #121 ($9,800)!! The European Union comes in at #41 ($34,500)

Note: 2013 GDP estimates measured on a Purchasing Power Parity Basis

* Source: CIA Factbook

slide19

Side note: Calculating rates of growth:

100

125

140

160

175

t = 0

t = 1

t = 2

t = 3

t = 4

How would you calculate this rate of growth?

100 to 125 is a 25% increase…

But, from 125 to 100 is a 20% decrease?

Which is it??

slide20

Using natural logs is the preferred method because the forward/backward problem is eliminated!

100

125

140

160

175

t = 0

t = 1

t = 2

t = 3

t = 4

100 to 125 is a 22.3% increase…

And, from 125 to 100 is a 22.3% decrease

slide21

A better measure of economic performance would be the rate of growth in output rather than the level of output

Year on Year Growth

Annualized Growth

Year on Year growth (2013Q2-2014Q2)

Annualized Growth (2014Q2)

However, be careful here!

slide22

GDP measures current dollar value of all goods and services produced. When GDP rises, its impossible to distinguish between an increase in production and an increase in prices!!

Economy A: Zero growth, high inflation.

Both have (approximately) 25% annual growth in GDP!!!

Economy B: Rapid growth, no inflation.

slide23

We can approximate real growth by subtracting the inflation rate

Year on Year growth (2013Q2-2014Q2)

Annualized Growth (2014Q2)

Annualized Inflation (2014Q2)

Year on Year Inflation (2013Q2 - 2014Q2)

Real Growth = 4.3%

Real Growth = 2.4%

* Source: www.bea.gov

slide24

In terms of real GDP Growth the US drops to #157

Note: 2013 GDP estimates measured on a Purchasing Power Parity Basis

* Source: CIA Factbook

slide25

How would you calculate the average per period growth?

100

175

t = 0

t = 1

t = 2

t = 3

t = 4

or

We have the same forward/backward problem here

No forward/backward problem here!!

slide26

Perhaps to get a better sense of the US, we should look at average performance over a long time period.

Price Growth (Inflation)

Total Growth

Real Growth = 6.4% - 3.2% = 3.2%

slide27

Note that the US seems to be slowing down…we’ll talk about this later

Average Real Growth = 3.2%

Current Real Growth

slide28

Let’s compare the US with countries that are in our “peer group” in terms of development:

  • United States
  • GDP: $17.0T
  • GDP Per Capita: $50,000
  • Real GDP Growth: 2.0%
  • Inflation Rate: 1.6%
  • European Union
  • GDP: $15.8T
  • GDP Per Capita: $34,500
  • Real GDP Growth: 1.6%
  • Inflation Rate: 1.5%

*Source: CIA Factbook (2013 estimates)

slide29

Let’s look at historical data for the US and Europe. Europe fell behind the US in the mid 1800s and has been struggling to catch up ever since!

Real Per Capita GDP, Europe and the United States: 1820 - 2000

slide30

To understand this, let’s look at the sources of economic growth….where does GDP come from?

“is a function of”

Real GDP

Employment

Productivity

Capital

Therefore, we should be able to break down economic growth into its individual components

Capital Growth

Real GDP Growth

Productivity Growth

Employment Growth

slide31

So, what jumps out at you?

Real GDP Growth = 2.35%

Real GDP Growth = 1.42%

Real GDP Growth = 2.15%

Real GDP Growth = 2.57%

Real GDP Growth = 2.94%

Real GDP Growth = 1.72%

slide32

It seems that the biggest difference between the US and Europe involves employment and productivity. With that in mind, let’s decompose GDP per capita differently…

GDP per hour (productivity)

Employment (% of Population)

GDP per capita

Hrs. per employee

slide33

Lets measure output per hour in the US (a reasonable measure of productivity)…

Employed 139 Million

Recall, GDP = $17 Trillion

139 Million X 1,794 (hours/yr.) = 250 Billion hours per year

$17T

= $68 Per hour

250B Hrs.

slide34

Here’s American productivity relative to European productivity.

* USA = 100

** Source: OECD

slide35

As with GDP per capita, productivity in Europe has lagged behind that of the US until recent years.

Real GDP per Hour, Europe and the United States: 1870 - 2000

slide36

Europe had been falling behind the US in both productivity and output per capita until recent years. However, while productivity has caught up with the US, output per capita still lags.

Ratio of Europe to the United States: 1820 - 2000

slide37

Productivity in Europe is comparable to the US, but output per capita is much lower. How can that be?

Equal to the US

Lower in Europe

This must be lower in Europe!

slide38

The US has maintained a lower average unemployment rate that Europe as well as a higher employment rate

** Source: OECD

slide39

Lately, we have seen wages diverge from productivity …especially in the US!

* USA = 100

** Source: OECD

slide41

Historically, labor’s share of income has been constant at around 65%, but has decreased since the 1980s.

Percent

65%

?

So, where is the extra income going?

slide42

Note that the distribution of household income is skewed to the left. That is, there is a large segment of the population that is below average income

Median Household Income = $50,000

Mean Household Income = $68,000

Total Households = 121M

Source: US Census Bureau (www.census.gov)

slide43

One indicator of growing inequality is a separation of the mean and the median

Source: US Census Bureau (www.census.gov)

average income by quintiles 2012
Average Income by Quintiles (2012)

$119,000+

$76,000 - $119,000

$50,000 - $76,000

$27,000 - $50,000

$0 - $27,000

Source: US Census Bureau (www.census.gov)

the lorenz curve
The Lorenz Curve

The Lorenz curve plots the cumulative distribution of US income

the gini coefficient
The Gini Coefficient

The US currently has a Gini coefficient of .45

0 = Perfect Equality

1 = Perfect inequality

slide47

The Gini coefficient allows us to “quantify” the differences in income inequality across countries.

*Source: Luxembourg Income Study

slide48

The fact that income inequality in the US is rising is reflected in a rising Gini coefficient

This suggests that while the US market based economy is a real engine of growth, not everyone benefits equally from our economic success…the poor are getting poorer relative to the wealthy!

Start of the “wage gap”