Gross Domestic Product (GDP) Explained

• Gross Domestic Product (GDP) measures a nation's economic activity

Transactions in Canadian GDP

• Include coffee sold at a shop
• Include gasoline purchased by households
• Include wages earned by workers at a gas station
• Economic growth relates to a country's standard of living

Formulas Related to GDP

• Nominal GDP = Consumption + Investment + Government Spending
• Real GDP = (Nominal GDP / GDP Deflator) * 100
• GDP Deflator = (Nominal GDP / Real GDP) * 100
  • GDP Deflator = (Price in base year * Quantity current year) / Real GDP
• Real per capita GDP= Real GDP / Population
• Growth Rate of Nominal GDP= ((Nominal GDP yr 2 - Nominal GDP yr 1) / Nominal GDP yr 1) * 100
• Growth Rate of Real GDP = Same as above, but using Real GDP numbers
  • Growth Rate of Real GDP = Growth rate of nominal GDP - % Change in GDP deflator
• Inflation Rate = Nominal GDP Growth Rate - Real GDP Growth Rate
• Growth Rate of Real Per Capita GDP= (Real per capita GDP 2 - RPC GDP 2) / RPC GDP 2 * 100

Consumer Price Index (CPI) and Inflation

• Price Index = (Price of market basket in a current year x 100) / Price of market basket in base year
  • Answer represents the Inflation Rate of the market basket

Bias in the CPI

• Substitution to cheaper goods
• Outlet Shopping
• Improvements in quality over time
• Introduction of new products

Unemployment

• Frictional Unemployment - Temporary period of unemployment that occurs when people move between jobs
• Structural Unemployment - When workers are unable to find jobs because they don't have the skills that employers are looking for
• Cyclical Unemployment - Temporary increase in unemployment that occurs during economic downturns

Rates

• Labor force Participation Rate= (# in labor force / # working age population) * 100
• Employment Rate = (# Employed / # working age pop) * 100
• Unemployment Rate= (# unemployed / # in labor force) * 100
• Natural Rate of Unemployment= (# Unemployed - # Cyclically employed) / # in labor force * 100
• Real Wage: Nominal wage x Current CPI / Old CPI
• Real Interest Rate: Nominal interest rate - Inflation rate
• Rule of 70: 70 / Growth Rate - used to determine how long economy will take to double in size
• Annual Growth Rate (GDPnew - GDPold) / GDPold * 100

Chapter 4 - GDP: Measuring Total Production + Income

• Profit is one part of the income that remains after a firm has paid wages, rent, and interest
• Nominal GDP given Qty and prices
  • Price x qty for each good and sum all goods
  • Intermediate goods used in the production of goods are NOT included in this calculation
• GDP only includes the market value of final goods + Services
  • Final good/service is one that is purchased by its final user and is not included in the production of any other good or service
• Intermediate Goods: A good or service that is an input into another good or service, such as car seats
  • In calculating GDP, the value of the car, not the car seats separately, is used
• The value of a firm's final product is the sale price
  • Value added is the difference between the sale price and the price of intermediate goods
• In the circular flow of income, the value of total production in an economy = value of total income
  • Every penny spent on a good or service must end up as someone's income
• Factors of Production: Labor, Capital, Natural resources, entrepreneurship
• Income: wages, interest, rent, profit
• Total income and total expenditure will both be equal to GDP
• Income Approach: GDP can be measured by adding up all the income in the economy

Payments

• Gross Operating Surplus: Payments made to the owners of capital
• Net operating Surplus: Payments to the owner's of Capital in excess of depreciation
• Consumption of Capital: The amount of capital that wears out (depreciates) during use
• Gross mixed Income: Paid to the owners of small business, this includes payments for labor and capital
• Tax less subsidies: Payments to government by business net of transfers from government to business
• Expenditure Approach: final consumption, gross fixed capital formation, investment in inventories, and net exports
  • Final consumption expenditure: Purchases of goods or services that will be used to satisfy individual or community needs and wants
  • Gross fixed capital formation: Purchases of capital by Firms, governments, and households
  • Net Exports: Exports minus imports
  • Statistical Discrepancy: One-half of the difference between the estimates of GDP generated by the expenditure approach and the income approach
• Expenditure Approach: Y=C+I+G+Nx
  • Consumption (C) Spending by households on goods + Services
  • Investment (I): The purchase of capital by Firms
  • Government Spending (G): Spending on consumption goods and capital undertaken by government
  • Net Exports (Nx)

Value-Added Method

• Value added is the market value a firm adds to a product = Price Sold for - Price paid by firm for intermediate good
• Informal economy: Buying and selling of goods and services that is concealed from the government to avoid taxes or regulations because the goods and services are illegal

Real GDP Per Capita

• A measure of a country's economic Output per person
• The size of a country's GDP matters because GDP measures the level of income in the country during a period of time
• Generally, the more goods and services people have, the better off they are
• GDP might indicate well-being
• As a summary Statistic, GDP overlooks some areas of production that take place in an economy

Real GDP vs. Nominal GDP

• Nominal
  • Represents the total value of final goods and services produced by a country at current market prices during a specified period
  • Doesn't account for changes in price levers
  • Nominal GDP can increase just because prices increase
• Real
  • Uses a base year's prices to calculate the value of goods and services
  • Adjusts for inflation
  • Evaluate true increase in production without the influence of price changes
  • More accurate
• GDP Deflator
  • Measure the price level in the economy
  • Tells how much prices have increased compared to the base year
  • If deflator increases, means prices are rising faster than production
  • When there is inflation, nominal GDP Overstates the increase in total production
  • Statistics Canada Separates price Changes from quantity Changes by using Chain-weighted prices

Practice Midterm Notes

• Marginal analysis involves undertaking an activity vitil it's MB = MC
• An inward Shift of a nation's PPF can occur due to a natural disceste
• If the PPF is linear, then OC are constant as more of one good is produced
• Change in the quantity of a good supplied if the price of the good changes

Final Exam

• Chapter 14 - Macroeconomics in an open economy
• Open economy
  • An economy that has interactions in trade or finance w/ other countries

Balance of Payments (BOP)

• The record of a country's trade w/ other countries in goods, services, and assets
• Trade deficit occurs when a country's imports exceed its exports
• More money is leaving the economy to pay for foreign goods & services than is coming from selling domestic G + S abroad
• In the BOP the deficit must be offset by a surplus in the financial account, Such as foreign investments in domestic assets
• Persistent trade deficits can lead to an increased stalling Foreign debt + may impact the country's Currency valve + economic
• BOP most always equal 0 because it is a comprehensive record of all economic transactions between a country and the rest of the world
• For every transaction where $ leaves the country (dent), thee must be a corresponding transaction that brings money into the country (Credit)
• Discrepancies are recorded as a strategical discrepancy to maintain the balance
• Net lending (-)/ borrowing (+) on Financial account
• Net income on investment Difference between investment income received and investment income paid
• Net transfer Difference between transfers made to residents of other countries and transfers received by Canadian residents from Other Countries
• ie. Donate to charity for orphans in Syria

Trade Balance

• Only includes TRADE in goods, not Services
• Difference between the value of goods a country exports and the value of the goods the country imports
• Also merchandise trade balance and the balance on goods
• Financial Account is part of the BOP that records purchases of assets a country has made abroad and foreign purchases of assets in the Country.
• Capital outflow from Canada
  • When an investor in Canada buys a bond issued by a foreign company or government or when a Canadian Firm builds a Factory in Canada
• Capital Inflow into Canada
  • When a foreign investor buys a bond issued by a Canadian Firm or by the government or when a Foreign Firm builds a Factory in Canada
• Foreign direct investment
  • When Firms build or buy facilities in Foreign countries
• Foreign portfolio investment
  • When investors buy a stock or bonds issued in another country
• Net Capital Flows
  • Difference between capital inflows and outflows
• Capital outflows
  • Capital inplows = net foreign investment + net foreign portfolio investment
• BOP is Always zero
• Official reserve transactions
  • Change in foreign holdings of dollars
• The Foreign Exchange Market & Exchange Rates
• Nominal exchange rate
  • Value of one country's Currency in terms of another country's Currency
  • Determines how many units of a foreign currency you can Purchase w/ $1

Equilibrium in the Foreign Exchange Market

• When the valve of $ is high , the qty demanded will be low
• When the value of $ is high, the qty. Of $ Supplied in exchange for gen will also be high
• Currency Appreciation
  • An increase in the market valve of one currency relative to another Country's Currency
• Currency Depreciation
  • A decrease in the market value of one currency relative to another currency
• Shifts in Demand and Supply in the foreign exchange Maruet
• Shifts cause the equilibrium exchange rate to change
• Main factors
  • Change in demand for Canadian produced goods and services and Changes in the demand for foreign produced goods and services
  • Changes in the desire to invest in Canada and Changes in the desire to invest in foreign countries
  • Changes in the expectations of currency traders about the likely future Value of Foreign Currencies
• Demand curve Shifts to the Right
  • Increase in demand for Canadian dollars
  • Interest rates in canada rise. desirability of investing in Canadian financial assets increases
  • When incomes in Japan rise
  • Speculators -> Currency traders Who buy and sey foreign exchange in an attempt to profit from Changes in exchange rates
  • Their buying and selling activities in the foreign market increases the volume of transactions and the liquitidy
  • When speculators decide that the valve of the Canadian dollar will rise relative to the value of the yen -> Demand curve Shifts to the Right

Factors

• Demand curve shifts to the right when
• During a recession in Japan, in comes fall, reducing the demand for Canadian produced G + S
• Interest rates in Canada fall, desirability in investing in Canadian Financial assets will decrease
• Speculators become convinced that the FU of the CAD $ will be lower than it's CV, demand for CAD $ will fall
• Shifts in the Supply Of Foreign Exchange
• Supply Curve shirt to the right lower card interest rates
• Canadian consumers + firms increase their spending on Japanese products, they Must Supply dollars in exchange for Yen Increase in interest rates in Japan will make investments in Japan more attractive to Canadian investors.
• Higher the Japanese interest rates causes the Supply for dollars to shift to the right, as Canadian investors exchange $ For Yen
• If speculators beome convinced that the FU of the yen will be higher relative to the dollar than it is today, the Supply curve for dollars win Shift to the right as traders attempt to exchange dollars for yen

Shifts

• Shift to the Left
• Recession in Canada which decreases the demand for Japanese products
• Decrease in interest rates in Japan making financial investments in Jopen less attractive
• Traders become convinced that the FV of the yen will be lower than the Pelative dollar
• How movements in the exchange rate affect exports and im ports
• Depreciation in the domestic currency will increase exports und decrease imports, which increases net exports
• If potential GDP is below potential GDP, holding an Other Factors Constant, a depreciation in the domestic currency should increase NX, aggregate demand, and Real GDP
• Ah appreciation in the domestic currency Causes exports to fall and imports to rise, which reduces Na, aggregate demand, Real GDP

The Real Exchange Rate

• The price of domestic goods in terms of foreign goods
• Real Exchange Rate nominal exchange x (Domestic price lever) / oreign price lever
• Price level is a measure of the average prices of goods and services in an economy
• Exchange Rates in the Long Run
• Purchasing power parity
  • The theory that in the long run, exchange rates move to equalize the purchasing powers of different currencies.
  • ie, a basket of goods should cost the same everywhere after accounting for exchange rates
• The Big Mac Index is used by economists where they regularly compare the cost Of Big Macs in dif. Countries

Exchange Rate Systems

• Floating Currency
  • The outcome of a country allowing it's currency's exchange rate to be determined by demand and supply
• Managed Float Exchange Rate System
  • The current exchange rate System under Which the valve of most Currencies is determined by demand and Supply, With occasional government intervention
• Historical Systems
  • Gold Standard and Bretton Woods which were both Fixed exchange Systems A system Under which countries agree to Keep the exchange rates among their currencies Fixed for long periods
• Pegging
  • The decision by a country to keep the exchange rate Fixed between its currency and another country's Currency
• Overvalued
  • A currency pegged at a valve above the market equilibrium exchange rate
• Undervalued
  • A Currency pegged at a valve below the market equilibrium exchange rate
• Overvalued Currency will result in a surplus of domestic currency on foreign exchange markets
• To keep the exchange rate at the pegged level, the Country's Centra bank will have to buy its currency w/ dolians
• In doing so, the centra, bank will gradually use up its holding of dollars, or it's dollar reserves
• Destabilizing Speculation malles it more difcult for a country to maintain a fixed exchange rate
• Investors and traders make speculative trades that increase market Volatility
• The International Sector and national Saving investment
• When imports are more than its exports: the country must Finance the difference by selling assets (land, Office, buildings, Factories) to Foreigners or by borrowing from foreigners A current account deficit must be exactly offset by a Financial account Surplus

Video Lesson Notes - Unit 6

• Balance of payments
• Current account tracks the difference between a country's total exports and total imports (Goods, Services, transfers)
• The Financial (capital) account tracks the ownership of assets held by Foreigners and ownership of foreign assets
• China will spend More Money on us assets than Americans will on Chinese assets
• Positive Net Capital Outflow means that a country invests outside more than other countries invest inside it (Net Capital in flow is negative)
• If a country has a current account defecit, they will have a capital account surplus because their Net Capital OUTFLOW is negative

Economic Relationships

• If us interest rates increased relative to Canadian rates, the demand for the US dollar would increase, the Supply would decrease, and the us donor would appreciate
• Demand goes up for dollars than the dollar will appreciate
• Demand goes down than the dollar deprecates

Factors

• What would happen to the US Nx if the $ depreciates?
• Europeans travel more to the us
  • Demand for $, cause $ to Appreciate
• A severe recession in Europe
  • D$ Depreciate
• Increases in price level in the us
  • D$ S$ Depreciate
• Relatively higher interest rate in us
  • Appreciate

Real Interest Rates and Capital Flows

Aggregate Demand The Wealth Effect

• Higher price levers reduce the purchasing power of money
  • This decreases the quantity Of expenditures
• Lower price levels increase purchasing power and increase expenditures

Interest Rate Effect

• When the price level increases, lenders need to Charge higher interest rates to get a REAL return on their loans
• Higher interest rates discourage Consumer Spending and business investment

Foreign Trade Effect

• When US price level rises, foreign buyes purchase fewer goods and Americans buy more foreign goods Expats imports causing real GDP demanded to fall
• Shifters C+I+G+Nx
  • Consumer spending
  • Investment
  • Government spending
  • Net exports

SRAS

• Change in price of resources
• Change in taxes, subsidies, regulations
• Change in productivity
• Expectations of inflation
• When price level, producers produce more in the SR
• when price level, producers produce less in the SR
• h SR wages and resource prices don't change

LRAS

• No Relationship between price level and real GDP in the CR

Economic Shifts

• Chapter 13 xshirts in AD have no impact on real GDP
• Aggregate demand 1, unemployment 1, inflation ?
• Aggregate demand J, Unemployment ?, infication
• Short-Run Trade Off between unemployment and Intiation
  • Higher unemployment is usually with lower infication
  • Lower unemployment is usually with higher intiation ONLY in the short-run, disappears in the long run

Phillips Curve shows

• ST relationship between unemployment and intiation rate
• There is usually an inverse relationship between Unemployment and inflation
• Recession = unemployment, Inflation
• LRPC is vertical because the economy can adjust over time but eventually ends up back at full employment SRP is negativley slopeD

Economic Factors

• When there is an increase oa decrease in AD, that is going to move the SRPC
• If the A's Shirts, that will SHIFT the SRPI

Monetary Policy

• Recession = GDP, Unemployment
• To change the moncy Supply, the central bank
  • Change reserve requirement
• ie hoid 10% in reserves instead of 20% Discount hate
• Decrease discount rate making it cheaper and easier fer banks to borrow from the CB, leading to more loons Increased money Supply, Interest rates which leads to more spending
• Open Market Operations
• When CB buys Gov't bonas from commercial banks, Putting more money in bank reserves Buy Bonds Bigger Money Supply Money Supply Interest rates Borrowing! Sell Bonds Smaller money Supply money Supply Interest rate ! Borrowing]

Requirements

• Central bank actions
• Increased Money Supply
  • Reserve Requirement - Dec
  • Dicount Rate Des
  • Open Market Operations Buy Bonds
• Decrease Money Supply
  • Reserve Requirement Inc
  • Dicount Rate Inc
  • Open Market Operations Sell Bonds

Notes

• If actual inflation is less than expected inflation, then the actual real wage is greater than the expected real wage, and the unemployment rises
• If actual inflation is greater than expected inflation then the actual real wage is less than the expected real wage, and the unemploymen fars
• If unemployment Continues to be a problem for several years it is possible that the natural rate of Unemployment may increase
• According to the real business cycle theory, a major source of Fluctuations in economic activity is Shocks to technology
• The Bank of Canada CANNOT combat rising unemployment ona rising Inflation together
• Rising inflation - Contractionary monetory policy
• Rising unemployment Expansionary moretory policy

The NAIRU Theory:

States that when the unemployment rate is abore NAIRU with output below potential, inpiation will fall

• The Nonaccelerating intiation rate of unemployment (NAIRU) is the unemployment rate at which inflation rate has no tendency to increase or decrease

Notes

• The difference between the actual and expected inflation rates could lead the actual employment rate to rise above or fall below the natural rate
• Monetory Stimulus has no impact on real output
• Disinflation - A decline in inflation rate
• Deflation A decline in the price level

Rational Expectations Theory

• Any announced policy change will have no impact on output
• Country's that grant their Central Banks higher degrees of independence from the political processes are more likely to have lower inflation