Understanding Macroeconomics

• Job opportunities depend on the economy
• Businesses expand and hire more during economic expansion
• Businesses shrink and cut jobs during economic recession

Macroeconomic Indicators

• Gross Domestic Product (GDP) measures total income
• Inflation/Deflation measures the rate at which prices rise or fall
• Unemployment rate is the percentage of unemployed in the labor force
• Retail Sales measures total spending at stores
• Trade Deficit is the imbalance of trade between the U.S. and other countries

Microeconomics vs Macroeconomics

• Microeconomics focuses on individual households, firms, and markets
• Macroeconomics studies the economy as a whole
• Macroeconomic questions include why incomes vary across countries and why prices/production/employment fluctuate
• Government intervention can improve the economy

Link Between Microeconomics and Macroeconomics

• Microeconomic concepts are essential for understanding macroeconomics
• The economy comprises households and firms interacting in markets
• Microeconomics and macroeconomics are closely connected

Gross Domestic Product

• GDP measures a nation's total income
• It best indicates a society’s economic well-being

Economy's Income and Expenditure

• Higher income leads to a higher standard of living
• Higher total income means a higher overall standard of living
• GDP measures total income earned and total expenditure on goods/services
• Income equals expenditure because every transaction has a buyer and seller

Why Income Equals Expenditure

• When a buyer spends money, the seller earns it
• Every dollar spent is a dollar earned
• Total income and total expenditure are always the same

Circular-Flow Diagram

• This shows how money flows between households and firms
• Households spend on goods/services
• Firms pay wages, rent, and profit
• Money flows from households to firms and back as income
• GDP can be computed by adding total expenditure or total income
• Both approaches yield the same result
• In reality, households save and governments/firms also purchase goods/services
• Expenditure = Income for the economy

The Measurement of GDP

• Gross Domestic Product is the market value
• It measures all final goods/services produced within a country during a time period

Key Aspects of GDP Measurement

• GDP uses market prices to add up different goods/services
• It includes all legally produced and sold items like apples, cars, and services
• Includes the estimated rental value of owner-occupied housing
• GDP excludes illicit goods, home production, and unpaid work
• GDP includes final goods sold to consumers, like greeting cards
• It excludes intermediate goods in production
• GDP includes tangible goods like cars and intangible services like haircuts
• It includes items produced in the current period
• GDP doesn't include the value of used cars
• GDP measures production within a country's boundaries
• Production by a Canadian in the U.S. contributes to U.S. GDP
• Economic activity is measured within a specific time period, usually quarterly or annually
• Quarterly GDP is presented at an annual rate and seasonally adjusted
• Gross Domestic Income (GDI) measures total income
• GDP and GDI should be the same; the difference is the statistical discrepancy

Other Measures of Income

• Gross National Product (GNP) measures total income earned by a country’s residents
• GNP includes income earned by citizens abroad
• GNP excludes income earned by foreigners in the country
• A Canadian working in the U.S. contributes to Canada’s GNP
• GDP and GNP are close because citizens earn most income domestically
• Net National Product (NNP) is GNP minus depreciation
• National Income is similar to NNP, but differs due to statistical discrepancies
• Personal Income is income received by households and noncorporate businesses
• Personal Income excludes retained earnings, indirect business taxes, corporate taxes, and social insurance contributions
• Personal Income includes interest income from government debt
• Personal Income includes income from transfer programs
• Disposable Personal Income is income after paying personal taxes
• It's the money available for spending or saving

Key Takeaway

• Income measures reflect the economy
• GDP growth mirrors other income measure trends

Components of GDP

• GDP is the total value of goods/services produced in a country
• It has four components: consumption, investment, government purchases, and net exports

Consumption (C)

• Consumption is spending by households
• It includes durable goods like cars, nondurable goods like food, and services like haircuts
• It excludes purchases of new housing

Investment (I)

• Investment is spending on capital goods
• It includes business capital, residential capital, and inventories
• Investment refers to purchasing goods used to produce other goods/services

Government Purchases (G)

• Government Purchases is spending by the government
• It includes salaries for government workers and infrastructure spending
• It excludes transfer payments like Social Security

Net Exports (NX)

• Net Exports is exports minus imports
• Exports increase GDP
• Imports are subtracted from GDP

Summary Equation for GDP

• GDP = C + I + G + NX
• The components reflect spending

Real vs Nominal GDP

• They measure economic output differently, accounting for price changes

Nominal GDP

• Nominal GDP uses current prices
• It doesn't adjust for inflation
• Example: In 2019, a nominal GDP is calculated valuing all items at 2019 prices

Real GDP

• Real GDP uses constant prices from a base year
• It adjusts for price changes
• It reflects changes in quantity
• Choose a base year
• Use base year prices to value goods/services
• Real GDP in the base year equals nominal GDP

Difference Between Real and Nominal GDP

• Nominal GDP changes with quantities and prices
• Real GDP only changes with quantities

Why Real GDP is Better for Measuring Economic Well-being

• Nominal GDP can increase due to higher prices
• Real GDP reflects actual output
• Example: Real GDP growth demonstrates increased production

Key Takeaway

• Nominal GDP = current prices
• Real GDP = constant prices, adjusted for inflation
• Real GDP is best for comparing economic performance

The GDP Deflator

• It measures the level of prices of all items in GDP
• It indicates inflation changes in Nominal GDP

The GDP Deflator Formula

• GDP Deflator = (Nominal GDP / Real GDP) × 100
• In the base year, Nominal GDP equals Real GDP, so the deflator is 100

What the GDP Deflator Measures

• It measures the overall price level.
• A higher deflator indicates inflation.
• A lower deflator indicates deflation.
• If Nominal GDP rises, but Real GDP stays the same, the deflator increases

Inflation Rate Using the GDP Deflator

• Inflation Rate = [(GDP Deflator in Year 2 - GDP Deflator in Year 1) / GDP Deflator in Year 1] × 100
• It shows the percentage change in the GDP deflator

Key Takeaways

• The GDP Deflator measures price changes
• Real GDP reflects changes in quantity
• The GDP Deflator = 100 in the base year
• The Inflation Rate shows how much prices have changed
• Nominal GDP can be affected by both quantity and price changes

Why It's Useful

• It helps adjust Nominal GDP for inflation and measure real economic growth
• It provides a broader measure of inflation than the CPI
• It measures price changes in an economy

Is GDP a Good Measure of Economic Well-Being?

• GDP measures income and expenditure
• GDP per person reflects average income
• Higher GDP enables more spending on healthcare, education, and services

Limitations of GDP as a Measure of Well-Being

• GDP excludes unpaid work such as chores or volunteer work
• More work increasing GDP reduces leisure
• It doesn't consider environmental quality
• It ignores the distribution of wealth

Conclusion

• GDP is useful for understanding output
• It omits leisure, unpaid work, environment, and inequality
• GDP is good for economic performance but must be considered with other factors

Case Study: International Differences in GDP and the Quality of Life

• Rich countries have high GDP, poor countries have low GDP
• Quality of life differences exist
• Rich nations have a life expectancy of 80 years
• Poor nations have a life expectancy of 60 years
• Education is much better in Rich nations
• Life Satisfaction is of a much better level in Rich Nations

Other Indicators of Quality of Life

• Infant and maternal mortality are higher in poor areas
• Child malnutrition is common in poor countries
• Poor countries have less access to electricity, roads, and clean water
• Rich nations have access to more technology than Poor Nations

Conclusion

• There is a clear connection between GDP and living standard
• Higher GDP implies more health, education, and general well-being
• Lower GDP is linked to poor conditions

Measuring GDP and Its Importance

• Economists measure total income
• It is essential for understanding the economy

Key Takeaways

• Why do some countries have a higher GDP than others?
• Policymakers need accurate and detailed data to make informed decisions
• Quantifying GDP provides a clear picture of the economy to make economic policies
• Understanding long-run and short-run factors that influence GDP
• Measurement is a first step for building science in macroeconomics
• It helps to answer key questions about economic growth and stability

Summary

• Measuring GDP is essential for understanding economic performance
• Accurate data is needed to manage the economy