Grade 12 Economics Notes - Unit 4 Macro PDF

UNIT 4: MACROECONOMICS Macroeconomics - Study of the economy as a whole - Focuses on all the markets - consumers, workers and firms together - to create the big picture of the economy - Macroeconomics will measure the verall economic Performance - It will look at measure such as:...

UNIT 4: MACROECONOMICS Macroeconomics - Study of the economy as a whole - Focuses on all the markets - consumers, workers and firms together - to create the big picture of the economy - Macroeconomics will measure the verall economic Performance - It will look at measure such as: - Output: Gross Domestic Product (GDP) - Ecomployment - Unemployment rates - Price stability: Consumer price Index (CPI) Why measure economic Performance - Helps the government decide on tax policies and spending - The government can use the information to measure the effectiveness of their economic policies - Allows a country to compare their economy to other countries - Allows a country to look at the role and impact of specific industries on the whole economy - Unions and wage earners use economic measurements in contract negotiations - Industries and businesses use economic measurements to help them make investment decisions Measuring output - Gross domestic product is the most common economic indicator of a country's economic progress - Represent the total market value of all final goods and services produced in a country in a given year (national income) - There are two ways to measure national incomes - Calculate the value of what is produced over the year via what is called the expenditure approach - Measure the value of the income generated by production via the income approach ** Circular flow Diagram** The Expensidture Approach - Calculates GDP as the market value of final output by addin up expenditures made in the final purchase of goods and services - Is based on value added at each production stage to avoid double counting - Exludes financial exchanges and second hand purchases (They have already been counted) - Total expenditure is the sum of four board categories - The overall formula used to calculate national income through expednitires is: - GDP = C + G + I + (X-M) Consumer Expenditure (C) - Includes expenditures on all goods and services produced and sold to final uses of a product - Largest component as it makes up approximately 60% of GDP - Broken down into 4 categories - Durable Goods - last a long time like cars and household appliances  - Semi Durbale Goods - Last for a reasonable amount of time like clothing - Non - Durable goods - Goods that are used quickly like food and gasoline - Services - Haircut, eating out, etc Investment expenditure (I) - Goods not for immediate consumption - Includes purchases of assets intended to produce revenue (new equipment and machines) - Varies between 15 - 25% of the GDP - Example: inventories, capital goods, warehouses and construction of new buildings including residential housing Goverment Expenditure (G) - Includes current spending by all levels of government - Typically makes up 20% of GDP - Wages for employees office supplies public capital goods (Schools, highways, hospitals) Net Exports (X-M) - Foreign trade had 2 categories: - Imports (M) are Canadian purchases of goods and services from the rest of the world - These are subtracted from GDP because the payment leaves the Canadian circular flow - Exports (X) are purchases of Canadian goods by the rest of the world - Represents a small fraction of GDP The income approach - Calculates GDP using the income generated in the economy over the year - GDP (income approach) = W + R + I + P - Wages (W): salaries for labor service, incl. Taxes, RRSP - Rent ®: payment made for housing and commerce - Interest (I) : earned on bank deposits, loans, etc. - Profits (P)L dividends paid and retained earnings - The GDP in each case (Expenditure and income) should be the same - Differences inc calculator due to measurement error - An Expenditure for one person = Income for someone else Economic Growth - GDP is the most commonly used tool to measure the economic growth of a country - How much a countries economy has grown from one year to the next - Real GDP growth rate = [(real GDP year 2 - real GDP year 1) / real GDP year 1] x 100 Economics Welfare - Qaulity of life experienced by “average Canadians” - To increase, we want economic progress - GDP as a measure of economic welfare is limited  - What are the limitations 1. Population Size - Comparing GDP from prvious years can be tricky - If there is a significant increase in population growth, does it mean that output per person has grown? - Ex. If Canada's population increases by 4% and the GDP increases by 2% does output increase? NO 2. Non-market production is not measured - GDP only counts output that has a monetary value attached - A parent stays at home to take care of their child(ren), but since this is unpaid labour, it does not count to the overall value of the gdp - Most people would argue that this is a positive contribution to the overall good of the society. 3. The Underground Economy - Any transaction that is unofficial and done without reporting these transitions to the government - Some statistictians believe that up to 20% of the GDP is unaccounted for because of this activity. 4. Types of Goods Produced - Some Argue that the inclusion of all types of Goods and services weakens a countries GDP as a measure of well - being - If weapons/artillery are a countries major export, does this measure WELL - BEING? - MOre Question 5. Leisure - If workers work a lot hours, thne the GDP will grow - If Workers work too much however how does this play into WELL - BEING - Leisure time is considered valuable by many even though it has no monetary value 6. Environmental Degradation - GDP does not take into account the social costs and/or degradation to the natural environment - A country could have very few environmental regulations but a high gdp - Does it mean that the country is well off? GDP and Living standards - Per Capita GDP is GDP per person= GDP divided by population - Per Capita real GDP is used to compare living standards in a given country over time - Per Capita GDP’s for various countries are measured in a single currency (usually $US) Measuring Employment - Unemployment rate it the percentage of the labor force not working at any given time - The unemployment rate is the economic measure that receives the most attention in Canada. - Employment Rate = (Number Unemployed / Labour Force) x 100 Unemployment - Unemployment is a major element in the management of any economy - Anyone who is unemployed may feel that they are not contributing to the overall well-being of the society - In Canada, the government becomes involved in these situations in order to try and help the unemployed Labour Force Sruvey - Statistics Canada claulates the unemployment rate. - Conducts a monthly survey of 54k households about age and job market status - Popluation divided in two main groups - Working age population Total number of people aged 15-64 - Working age split into labour force an non labour force - Dependancy Load - aged between 0-14 and 65+ - Labour fource is everyone employed and unemployed - Emplyed split into part time or full time - Part time split into voluntary part time or involuntary part time - Not in labour force means you arent employed, and dont meet one of the three criteria for unemployed - Temporary layoff - Looked for work in past 4 weeks - Starting work within 4 weeks Drawbacks of the official unemployment rate - There are three main drawbacks of the official unemployment rate - It does not include underemployed workers who are underutilized either a part time workers of by working at job not appropriate to their skills or education - It include discouraged workers who are unemployed and have given up looking for work - It is based partly on dishonest responses. Types of Unemployment Frictional Unemployment - Due to being temporarily unemployed between jobs or looking for a first gob - Unending process of job creation and destruction - Unending flow of people in/out of labor - Natural unemployment period are frictional unemployment  Structural Unemployment (effects the supply and demand of the product) - Due to a mismatch between people and jobs - Arises when changes in technology or international competition change skills needed to perform jobs - Usually lasts longer than frictional unemployment Cyclical unemployment - Due to fluctuations in output and spending - Higher than nora unemployment at a business cycle through and the lower normal unemployment at a business peal - Worker who is laid off because of an economic recession - Worker who is laid off because of an economic downturn Seasonal Unemployment - Due to the seasonal nature of some occupations and industries. Full Employment - Full employment is always the goal of any responsible fiscal policy - Is the highest reasonable expectation of employment for the economy as a whole - Is defined in terms of the natural unemployment rate - Includes frictional and at least some structural unemployment. - In canada is is presently associated with an unemployment rate between 6% and 7%. - Natural unemployment influenced by: 1. Age Distrivution of population - Economy with young population has large number of job seekers and high levels of frictional UE - Aged population brings low frictional unemployment (UE) 2. Scale of Structural Change - Minimum Wages and efficency wage bring unemployment 3. Real wage Rate - Minimum wages and efficiency wage bring unemployment 4. Unemplyent Benfits - Lower opportunity cost of job search and thus increase natural unemployment The Rise in the natural Unemployment Rate - In recent decades Canadas Estimated natural unemployment rate rose because of several trends: - Structural change, with shrinking manufacturing and expanding services - Past reforms to unemployment insurance - Higher minimum wages in any provinces The Cost of Unemplyemtn - High unemployment hurts indisucals and the Canadian economy as a whole - Teh cost of unemployment for the entire economy can be measured by the difference between actual GDP produced bu the economy and the potential GDP that could be produced if the unemployment rate was not higher than the natural rate. Okuns Law - Arthur Okun created a formula that is used to estimate the size of this gap - Okuns law states that for every % point that the actual unemployment rate exceeds the natural unemployment rate, the GDP gap is 2% FORUMLA: - GDP gap = actual GDP x (unemployment rate - natural rate) x 2 / 100 Measuring Price Stability - Inflation is the persistent rise in the general level of prices - Deflation is the persistent fall in the general level of prices - The consumer price index (CPI) - Is the most common measure of inflation - Measure of average of prices paid by urban consumers for a fixed basket of consumer goods and services - Tells you value of money in pocket Why Inlfation/Deflation are Problems - Redistributes income - Workers / employees may sign contracts that last for a year or more - Unexpected burst of inflation raises prices but not wages benefitting employers but not employees - Deflation, prices fall and wages stay the same benefiting consumers but not employers Lowers Real GDP and Emplyment - Unexpected inflation that raises firms profits and brings rise in invtesment and a boom in production and employment - Real GDP rises above potential GDP and unemployment falls below natural unemployment - Situation is temporary as profitable invtesents dry up, spending falls, Real GDP falls below potential GDP and unemployment rises - Diverts resources from production - Turns economy into casino and diverts resources from productive activities to forecasting inflation - It can be more profitable to forecast inflations rather than invent or discover - Hyperinflation: Inflation of 50% a month or higher that grinds the economy to a halt and causes society to collapse. COnstructing the CPI 1. Selecting the CPI basket - Basket contaitns goods and services represented in the index, each qighted by relative importance - Goal to make relative importance of items in the basket the same as that in the budget of an average urban household  - Ex. People spend more on housing that bus rides, CPI places more weight on housing - Stat Canada conducts survey of consumer expenditure 2. COnudcting monthly price survey - Each month, Stat Canada check prices of goods/Services in CPU basket in major cities - CPI aims to measure price changes so the prices recorded each month refer to exactly same item - If price of jelly beans has risen but so has number of jelly beans, stats employees must record all changes inlduing packaging to isolate variable price increase 3. Calculating the CPI - Find the cost of CPI basket at base period prices - Find costs of CPI basket at current period prices - Calculate CPI for base and current period CPI = Cost of CPI basket at Current period prices/Cost of CPI basket at base period prices Caluclating Inflation Using CPI - Inflaion rate is the annual percentage by which the CPI has risen Inflation Rate =( (CPI year 2 - CPI year 1) / CPI year 1 ) x 100 Do the first part thne x 100 Limitations of CPI 1. Weighting of different categories - Statistic canada goes to great lengths to ensure that all categories represent the spending habits of the typical canadian household - However not every households spending habits reflect the index weighting of the CPI - EX: some households may not spend money on tobacco and spend an above average amount on housing. AN increase in the CPI due to a price increase in tobacco does no really affect that household 2. Family size definition - STATISTIC CANADA SETS THE FAMILY SIZE OF 4 MEMBERS PER HOUSEHOLD - All CPI calculations are based on this number but many households do not have 4 members - As a result changes in the CPI may noy reflect reality for many individuals in the economy 3. Change in Spending Habits - It uses base year baskets that contain products that ay no longer be purchased or that may have been updated - Statistics Canada tries to solve some of these problems by updating the spending patterns and revising the weight of items in the basket. Real GDP - The existence of inflation brings up a problem when measuring GDP and its annual growth rate - It is necessary to use some tool to remove the effect of inflation when comparing year to year output effectively - Can use the:  - GDP deflator: index of prices of all items included in GDP (used up to 2001) - Change price index for consumption: Index of prices of all items included in consumption expenditure to real consumption expenditure in GDP Nominal Versual Real GDP - Nominal GDP - Known as Current dollar GDp - Total value of the output of the economy before the effect of price increases is removed. - Real GDP - Known as Constant dollar GDP - Total value of the output of the economy adjusted for price changes - Real GDP = Nominal GDP/GDP deflator x 100 Aggregate Demand and Supply Aggregate Demand and Supply - If we could ad up all demand, at all the various price levels, for all markets, we should be able to determine the total demand schedule for the economy - If we could add up all of what producers are willing to supply, at all the various price levels, for all markets, we should be able to determine the total supply schedule for the economy. - When we combine all markets for individual goods and services in society, we are looking at the Aggregate, or Total for the entire economy Aggregate Demand (AP) - Total demand for all goods and services in society - The AD schedule and curve look very similar to demand schedule and curve studies in microeconomics - AD at each price level is equal to the GDP that would occur at the that price Level - GDP = C + I + G + (X-M) - For real economic growth to occur, the real GDP must grow - Aggregate quantity demanded must increase at each price level - This means that one or more variables in the GDP formula must increase Changes in Aggretaet Demand - Shifts in the aggregate Demand Curve can be attributed directly to changes in the variables that make up GDP Change in consumption (C) - Consumer income– consumption, taxes, savings and spending on imports - Consumption is the most important variable as it makes up to 60% of GDP - Consumption is the amount that is leftover after the other 3 components are considered - When consumption increases, there will be an increase in AD - May be the result of: - Increase in Income - Decrease in taxes, savings or spending on imports - Right shift in the AD because at each price level, a higher level of GDP is demanded Changes in Investment (I) - Overall level of investment spending is related to the expectation for future profits, - Movements closely tied to the interest rate - If interest rates go up, potential for profit goes down and investment goes down - AD shifts to the right - Investment will increase, business profits are expected to increase and economic climate looks strong Changes in Government Spending (G) - If governments increases its spending or transfer payments, AD will shift to the right - If government decreases its spending, AD will shift to the left - These changes are at the heart of fiscal policy Changes in Export Demand - There are 3 major factors that influence demand for Canadian produced exports: 1. Domestic Rate of inflation - Inflation affects only domestic goods and services - An increase in the price of CDN goods and services mark them more expensive than foreign goods and services - A rapid rise in inflation will then reduce export demand. 2. Relative levels of income in other countries. - If income levels rise for consumers in countries that are trading partners, theri demand for goods will increase - Canada exports will rise 3. Value of the Canadian dollar - Increase in the value of the Cdn dollar will increase the cost of Canadian products for those buying them in ither countries - Markes them less attractive to foreign buyers Aggreagate Supply (AS) - Total supply of all goods and services produced in a society - ----- - At low outputs, the curve us very elastic because most of societies resources are sitting dile - At higher outputs, prices tend to rise much more rapidly - The curves become perfectly inelalstic (verticle) - In theory, the economy is producing at a point along the PPC - It cannot physically produce more output without impovwments in technology or discovery or new physical inputs 1. Changes in Prices of Inputs - If prices for land, labour or capital ,firms will be able to produce less at each price level - AS curve will shift Upwards and to the left at all points to the left of its perfectly ineleastic section - The perfectly ineleastic section will not move because, while prices are higher, the same amount of inputs are available and teh maximum real GDP possible is the same as it was before the price increases. 2. Changes in the Amount of inputs Available - If new resources are discovered, more capital goods are made available, or the workforce grows, there are more outputs available - Just as these would shift the PPC outward, they would increase maximum capacity of the economy - The availability of more resources also reudces competition, pushing down costs of basic inputs. - AS curve wul shift the relatively elastic portion (horizontal) downward and vertical portion to the right 3. Changes in Efficiency  - Improvements in technology make the workforce more productive. - As the workforce becomes more efficient, it can produce moref output with the same resources - AS curve will shift the relatively elastic portion (horizontal) downward and vertical portion to the right. Equilibrium Output and Price Level - The point at which the AD and AS curvs intrsect is the equilibrium level of price and output for the economy - This is known as Full - Employment Equilibrium - The two curves intersect at a point along the AS curve wher prices start to rise more rapidly but the curve is not yet vertical Recessionary Gap - Occurs when AD interests AS to the left of (below) full employment equilibrium - GDP is lower and price levels are raising very slowly - Low outputs level leads to high unemployment levels - Charcterized by: - High unemployment - Low Inlfation - Low GDP growth Inflationary gap - Occurs when AD intersects AS to the right of (above) full employment equilibrium - GDP is very high and price levels are rising rapidly - Charcterized by - High employment - High inflation - High GDP growth The business cycle - cover s period of alternating economic growth and recession as measured by changes in real GDp - The duration of time of a business cycle and its size (loss or gain of real GDP) vary from oney cycle to the next - Occurs because of fluctuations that economies experience over time - Result from changes in economic growth patterns of consumption - The business cycle centeres on the money payments that flow through the economy - The circular flow of income sees the GDP as a total of all money payments in the economy - Economists Use business cycles to forecast the coming economic climate - Will help them advise political and business leaders on how to deal with possible adverse future economic events. - Advise political leaders on the application of fiscal or monetary policy tools  - Recession: - A contraction of the economy lasting longer than two busniess quarters (6 months) - Increased levels of unemployment, low or negative levels of real GDP growth and low levels of inflation or even deflation (falling prices) - Depression - A prolonged recession charcterized y falling GDP, very high unemployment and price deflation - Leakages - Any use of income that cause money to be taken out of teh income-expenditure stream of the economy - 3 leakages - Taxes (T) - Savings (S) - Imports (M) - Often “Leaked” money ends up getting respent in the economy - Problem is where and how Injections - Any expedmitre that causes money to be put into the income expeendiutre stream - Theree injtections - Giverment spending (G) - Invtesment Spedning (I) - Exports (E) GDP increasing - Injections > leakages - Water coming in is greater than the amount of Water draining out GDP Shrinking - Injections < Leakages - Water coming in is less than the amount of water draining out - The bathtub is fills up Equlibium - Injections = leakages - Water coming in is equal to the amount of water draining out - Teh amount of water in the tub remains the same. Formulas for leakages and injections - If T+S+M>G+I+X Then AD will shrink until such time as T+S+M= G+I+X - If T+S+M