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Measurement of Output, Employment & Prices. Why Measurement Matters. Before we get into models of economic behaviour we need to look some definitions and some issues in measurement Measurement economic quantities may seem boring…

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why measurement matters
Why Measurement Matters
  • Before we get into models of economic behaviour we need to look some definitions and some issues in measurement
  • Measurement economic quantities may seem boring…
    • But it can give crucial insight even without a model of behaviour
    • Example: we will look at include the current crisis
macroeconomic measurement
MACROECONOMIC MEASUREMENT
  • Need to Look at three sets of measurements
  • Here we will look at the National Income and Expenditure Accounts (NIE)
  • Also the measurement of external transactions: Balance of Payments
  • Prices
  • Employment
nie identity
NIE Identity
  • We measure macroeconomic activity primarily by looking at annual (or quarterly) flows of Output (O), Income (Y) and Expenditure (E).
  • These are different ways of measuring the same thing, so they sum to identical totals
    • Basic Identity: Y  O  E
  • Think of why this is the case
    • Income and Product are identical: Product is Value-Added in Production, i.e sales minus purchases from other firms, which = payment of incomes to Factors (Wages, Interest…)
    • Expenditure equals Income, because any production not sold is counted as Inventory Investment, and is thus part of Expenditure (the firm purchases its own output from itself)
  • Note this is an identity not an equilibrium condition
    • An identity holds for all values
    • An eqm condition holds only for some values i.e. in eqm
    • Distinction important later
nie gdp vs gnp
NIE: GDP vs GNP
  • Open economy: GNP v GDP
    • GNP  GDP + NFIA
    • (NFIA is net factor incfrom R.O.W., i.e. inflows minus outflows)
    • GNY  GNP + EUtrasfers – EUtaxes
    • GNDY  GNP + NTA (NTA is all net Transfers from R.O.W. incl EU)
    • GDP + NFIA + NTA  GNDY
    • Note: Irish GNP was approx 85% of GDP (2007)
    • For many other countries the distinction is not relevant
    • Can lead to lots of debate of which is best measure in Ireland
nie savings investment identity
NIE: SAVINGS & INVESTMENT IDENTITY
  • The Income Identity
    • Y  C + S + T
    • Accounting rule: Income is either spent saved or taxed
  • The Expenditure Identity
    • E= C + I + G + NX
    • Accounting rule: add up the components of expenditure
  • Combine the two
    • C + I + G + NX  C + S + T
  • Thus: (G – T)  (S – I) – NX
    • or: (G – T) + NX  (S – I) etc.
  • clearly, adding in net foreign factor and transfer income, including them in the totals for T and S etc as appropriate, and changing signs we get:
  • (T - G) + (S - I)  NX  BOP Current A/C
  • Note: the 2 left hand expressions are National Savings
  • Note: we could also add in NFIA & For Trans
nie savings investment identity1
NIE: SAVINGS & INVESTMENT IDENTITY
  • This is often known as the twin deficits identity
  • Even though it doesn’t involve any model or description of economic behaviour it can be informative
  • Implication: a current account surplus can only occur if there is an excess of national savings
  • Application 1: The US
    • The US has trade deficit (esp with China)
    • This is inescapable given it has insufficient savings
    • China surplus equates to surplus Chinese savings
  • Application 2: Ireland’s Bubble
    • We had a bubble (high investment)
    • Insufficient savings
    • So high current account deficit
employment and unemployment
EMPLOYMENT AND UNEMPLOYMENT
  • The labour force (L) = employed (E) + unemployed (U)
  • The unemployment rate u% = U/L or U/(E + U)
  • Letting the population of Labour-force Age = P, we also have:
  • The Labour force participation rate: LFPR% = L/P
  • Measuring Employment and Unemployment
    • Surveys: household QNHS in Ireland, quarterly household survey (CPS in USA); business surveys for employment.
    • Administrative: “Live Register” (Ireland); related to benefit claimants
  • The precise details of how surveys and other measures are constructed will differ from country to country. Survey methods are generally more comparable.
  • Key Issue: have to “want” to work to be unemployed as distinct from not working
  • Surveys try to capture this: “active search”
    • Issue of how active
    • Discouraged worker effects
  • Claimant counts do not – may include people NILF
prices
Prices
  • (See Gordon: Appendix to Ch 2)
  • Some components of GDP have well-known measures of inflation: the CPI for household consumption
  • For a more comprehensive measure the implicit price deflator for GDP is used: this relates to all items in the GDP
  • A price index is a weighted average measure of price changes
  • Two questions arise: (i) what is included (ii) what kind of weighting system to use
  • For Consumption the Irish CPI includes a measure of housing costs, the Eurozone HIPC does not (why?)
  • Generally if an index uses base-year weights (Laspeyre), the resulting inflation is higher than if current year weights are used (Paasche)
  • Nearly all Consumer Price indices are Laspeyre.
laspeyre and paasche indices
LASPEYRE AND PAASCHE INDICES
  • A Laspeyre index of prices uses the quantities prevailing in some base (e.g. survey) year to weight prices. The index takes the form:
  • (p1q0/ p0q0)x100
  • Note: base-year quantities (q0) are used to compare prices in the two years (p1 and p0 )
  • A Paasche index of prices uses the quantities prevailing in the terminal year to weight prices. The index takes the form:
  • (p1q1/ p0q1)x100
  • Note: current-year quantities (q1) are used to compare prices in the two years (p1 and p0)
  • As relatively cheaper are substituted for dearer goods, the Laspeyre index of prices has an upward substitution bias.
the implicit gdp deflator
THE IMPLICIT GDP DEFLATOR
  • Instead of constructing an index directly, we take the ratio of nominal to real GDP.
  • For simplicity let real GDP be this year’s output at last year’s (base year) prices
  • So the index is: (p1q1 / p0q1)
  • Note that this is similar in form to a Paasche index of prices.
  • In some cases the calculation is refined and the implicit deflator is an average (geometric mean) of a Laspeyre and Paasche indices.
  • As the real to nominal GDP ratio is re-calculated each year, the weighting of the quantities is updated and the resulting implicit deflators are chained together to give a cumulative index over time.
  • The result is a lesser degree of substitution bias