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Second Part Macroeconomics Lecture 8 Macroeconomic Aggregates. Macroeconomics.

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macroeconomics
Macroeconomics
  • Macroeconomics is the field of economics that studies the behaviour of the economy as a whole. It is the study of aggregate measures of the economy and this aggregation is done by understanding how individual economic units function. So it deals with the issues like growth, inflation, unemployment etc.
  • Macroeconomics can be best understood by comparing it with microeconomics which considers the decisions made at an individual or firm level. Macroeconomics considers the larger picture, or how all of these decisions sum together. An understanding of microeconomics is crucial to understand macroeconomics. To understand why a change in interest rates leads to changes in real GDP, we need to understand how lower interest rates influence decisions, such as the decision of how much to save, at the firm or household level. Once we understand how an individual, on average, will change their behaviour we will then understand the large scale relationships in an economy.
economic agent
Economic Agent
  • In economics, an agent is a decision maker in a model. Typically, every agent makes decisions by solving a optimization/choice problem.
  • In microeconomics there are two agents:
  • Consumer / Buyer/Household
  • Producer / Seller/Firm
  • In macroeconomics there are four agents:
  • Consumers/Households
  • Producers/Firms
  • Government
  • Foreign Country
slide4

Circular flow model (A Simple Model of Economic Interaction)

Wages, rent,

COST

Interest,

Factor MARKET

capital

profit

RESOURCES

Labor, land

HOUSEHOLDS

BUSINESS FIRMS

& services

expenses

Goods &

goods

PRODUCT MARKET

Consumption,

services

revenue

Investment

( Injection)

Capital market

Savings

(Leakage)

slide5

Gross Domestic Product (GDP)is the total market value of all final goods and services produced within a country in a given period of time.

Breaking down the definition:

“GDP is the Market Value . . .”

  • - Output is valued at market prices.

“. . . Of All Final . . .”

  • -Records only the value of final goods, not intermediate goods (as value is counted only once).

“. . . Goods and Services . . . “

  • - Includes both tangible goods (food, clothing, cars) and intangible services (haircuts, housecleaning, doctor visits).

GDP

slide6

“. . . Produced . . .”

    • Includes goods and services currently produced, not transactions involving goods produced in past (Used goods)
  • “ . . . Within a Country . . .”
    • Measures the value of production within the geographic confines of a country.
  • “. . . In a Given Period of Time.”
    • Measures the value of production that takes place within a specific interval of time, usually a year or a quarter (three months).
calculating gdp
Calculating GDP
  • Suppose there are two goods in the economy.
  • Rice and Wheat
  • GDP= ( Price of Rice X Quantity of Rice) + ( Price of Wheat X Quantity of Wheat)
  • Here we can use either current price or base price.
real versus nominal gdp
REAL VERSUS NOMINAL GDP
  • Nominal GDP values the production of goods and services at current prices.
  • Real GDP values the production of goods and services at constant prices.
table real and nominal gdp
Table: Real and Nominal GDP

Source: books and web materials

slide10

Gross national product (GNP):

Gross national product (GNP): If weadd receipts of factor income (wages, profit, rent and interest) and grant/aid from the rest of the world and subtract payments of factor income and grant/aid to the rest of the world from GDP then we get GNP .

GNP =

GDP + Factor Payments from Abroad + aid received from Abroad - Factor Payments to Abroad - aid given to Abroad

GDP VERSUS GNP

Whereas GDP measures the total income produced domestically, GNP measures the total income earned by nationals.

Question: What are the other differences between GDP and GNP?

price index gdp deflator and cpi
Price Index: GDP Deflator and CPI
  • Price Index is a measure of the economy's price level or a cost of living.
  • Most popular price index:

1) GDP Deflator

2) Consumer Price Index (CPI)

gdp deflator
GDP Deflator
  • It shows the state of overall level of prices in the economy.
  • It is also known as implicit price deflator.

GDP Deflator= (Nominal GDP)/(Real GDP) X 100

cpi consumer price index
CPI ( Consumer Price Index)
  • A consumer price index (CPI) is price index that measures changes in the price level of consumer goods and services purchased by households.
  • It is used to monitor changes in the cost of living over time by a typical household
  • When the CPI rises, the typical family has to spend more dollars to maintain the same standard of living.
calculating cpi
Calculating CPI
  • Formula:

CPI = (Total cost of a bundle of goods or service at current price)/ ( Total cost of a bundle of goods or service at base price)X 100

Example:

Suppose a typical household consumes 30kg rice and 20 kg flour in a month. So the basket of goods is consisted of rice and flour. The quantity of rice and flour will be held constant across years. In this case

CPI =