040185/5 UK Introductory Macroeconomics Einführung in …homepage.univie.ac.at/wolfgang.schwarzbauer/intro_macro.pdf- from the slide set prepared by Fernando Quijano and Yvonn Quijano

040185/5 UK Introductory Macroeconomics Einführung in die Makroökonomie

Wolfgang Schwarzbauer IHS

General Disclaimer The contents of these slides as well as all other materials of this course have been taken – unless otherwise stated - from the slide set prepared by Fernando Quijano and Yvonn Quijano and are based on O. Blanchard’s Book ‘Macroeconomics, 5th ed.’, © Pearson Education, Inc. Publishing as Prentice Hall.

Wolfgang Schwarzbauer Vienna, August 2011

040185/5 UK Introductory Macroeconomics - Wolfgang Schwarzbauer 2

Contents Economic areas around the world

GDP

Unemployment

Inflation


Macroeconomic Analysis

When macroeconomists study an economy, they first look at three variables: 1. Output

2. Unemployment

3. Inflation

In this course we’ll define these three concepts and study the interellation between them in the short run

in the medium run

for closed economies

and for open economies


USA – the world’s largest economy

The period 1996-2006 was one of the best decades in recent memory:

The average rate of growth was 3.4% per year.

The average unemployment rate was 5.0%.

The average inflation rate was 2.0%.


Table 1-1 Growth, Unemployment, and Inflation in the United States Since 1970

1970–2006

(average)

1996–2006

(average)

2006

2007

2008

Output growth rate 3.1% 3.4% 3.3% 2.1% 2.5%

Unemployment rate 6.2 5.0 4.6 4.6 4.8

Inflation rate 4.0 2.0 2.9 2.6 2.2

Output growth rate: annual rate of growth of output (GDP). Unemployment rate: average over the year. Inflation rate:

annual rate of change of the price level (GDP deflator).

USA (2)

The recent financial and economic crisis hit the US economy severly

GDP was significantly reduced

The banking sector was under severe stress

Financial wealth was considerably reduced (real estate property, shares etc.)

Unemployment went up to 9 – 10% and in contrast to earlier recessions stayed at around 9%


China Second largest single economy in the world

Since 1980, Chinese output has grown at close to 10% per year.

This is a truly astonishing number: Compare it to the 3.1% number achieved by the U.S. economy over the same period. At that rate, output doubles every 7 years.


Table 1-3 Growth and Inflation in China Since 1980

1980–2006 1996–2006 2006 2007 2008


Inflation rate 5.4 3.3 1.5 2.5 2.2

Output growth rate: annual rate of growth of output (GDP). Inflation rate: annual rate of change of the price

level (GDP deflator).

EU

Average annual output growth from 1996 to 2006 was only 2.0%.

Low-output growth was accompanied by persistently high unemployment.

The only good news was about inflation. Average annual inflation for these countries was 1.8%, much lower than the 5.4% average over the period 1970 to 2006.


Table 1-2 Growth, Unemployment, and Inflation in the Five Major

European Countries Since 1970

1970–2006

(average)

1996–2006

(average)

2006

2007

2008


Unemployment rate 7.4 8.7 7.6 7.0 6.7

Inflation rate 5.4 1.8 1.7 1.8 2.2

Output growth rate: annual rate of growth of output (GDP). Unemployment rate: average over the year.

Inflation rate: annual rate of change of the price level (GDP deflator).

EU and the Euro Area EU27 and Euro Area

have been hit differently, also the biggest four economies

Germany, Austria and the Netherlands have mastered the crisis best

Spain, Ireland, Portugal, Italy and Greece have been hit severely by

Bursts of their real estate bubbles (Ire, Spain)

Speculation against their governments due to high government debt

France, Belgium and Scandinavian economies are in the middle


EU and the Euro Area Is the Euro good or evil for the EU (EA)?

Supporters of the Euro point first to its enormous symbolic importance.

Others worry that the symbolism of the euro may come with some economic costs.

Two issues dominate the agenda of European macroeconomists:

Government debt crisis

How can EU economies get out of the crisis (high unemployment, low growth, low competitive performance of EU economies)


Gathering Macroeconomic Information Statistics Organisations

Eurostat, BEA, ONS, …. International Organisations

World Bank, IMF, OECD, UN, EBRD National Research Institutions

IHS , WIIW, WIFO Central Banks

US FED, ECB, Bank of England, Bank of Japan, People’s Bank of China

Newspapers and Periodicals Financial Times, Wall Street Journal, New York Times, Economist, ….

Useful link collection: http://sites.google.com/site/macrolbs/home/links


http://sites.google.com/site/macrolbs/home/links

http://sites.google.com/site/macrolbs/home/links

GDP, Unemployment and Inflation Chapter 2


GDP – measuring a nation’s output In the system of national accounts we can compute GDP (a nation’s output) in 3 ways:

1. Expenditure Approach GDP is the market value of all final goods and services produced and sold in the economy within a given period.

2. Production Approach GDP is the sum of gross value added of an economy adjusted for taxes on products and product subsidies.

3. Income Approach GDP is the sum of primary incomes.


GDP – measuring a nation’s output (2)

ad 1) GDP is the value of the final goods and services produced in the economy during a given period.

A final good is a good that is destined for final consumption.

An intermediate good is a good used in the production of another good.

ad 2) GDP is the sum of value added in the economy during a given period.

Value added equals the value of a firm’s production minus the value of the intermediate goods it uses in production.


GDP – measuring a nation’s output (3)

ad 3) GDP is the sum of incomes in the economy during a given period.


Table 2-1 The Composition of GDP by Type of Income, 1960 and 2006

1960 2006

Labor income 66% 64%

Capital income 26% 29%

Indirect taxes 8% 7%

Example Consider an economy that consists of two firms, a steel producer and an automobile producer:

How large is the GDP of that economy?


Steel Producer

Revenues from Sales 100 $

Expenses 80 $

Wages 80 $

Profit 20 $

Automobile Producer


Expenses 170 $

Wages 70 $

Steel Purchases 100 $

Profit 30 $

Expenditure Approach

GDP is the market value of all final goods and services produced and sold in the economy within a given period, i.e.


Steel Producer


Expenses 80 $

Wages 80 $

Profit 20 $

Automobile Producer


Expenses 170 $

Wages 70 $


Profit 30 $

as steel is an intermediate good (it is used in the production of cars ), not a final good, GDP is equal to $200 (=Revenues from sales of the automobile producer)

Example: Production Approach

GDP is the sum of gross value added of an economy adjusted for taxes on products and product subsidies.


Steel Producer


Expenses 80 $

Wages 80 $

Profit 20 $

Automobile Producer


Expenses 170 $

Wages 70 $


Profit 30 $

Sector Purchases of

intermediates Sales Revenues Value Added

Steel Producer - 0$ 100 $ 100 $

Automobile Producer - 100$ 200 $ 100 $

SUM (=GDP) 200 $

Example: Income Approach

GDP is the sum of primary incomes.


Steel Producer


Expenses 80 $

Wages 80 $

Profit 20 $

Automobile Producer


Expenses 170 $

Wages 70 $


Profit 30 $

Sector Type Income

Steel Producer Wage 80 $

Profit 20 $

Automobile Producer Wage 70 $

Profit 30 $

TOTAL 200 $

Some important Definitions and Concepts

GDP according to the expenditure Approach

𝐺𝐷𝑃 = 𝐶 + 𝐼 + 𝐺 + 𝑋 − 𝑄

𝐶 ... Consumption expenditures 𝐼 ... Investment 𝐺 ... Government Purchases 𝑋 ... Exports 𝑄 ... Imports


Important Definitions and Concepts The balance of payments (BoP) is the set of accounts that keeps record of the economy’s transactions with the rest of the world.

It consists of 2 parts 1. Current Account (CA) recording

a) exports and imports of goods and services

b) Balance of primary incomes (labour income, capital income from and to the rest of the world)

c) Balance of current transfers which includes workers remittances, international aid, payments to and from the EU budget

2. Capital Account (KA) recording Records capital transactions (capital transfers, direct investment, portfolio investment)


Important Definitions and Concepts

Recall 𝐺𝐷𝑃 = 𝐶 + 𝐼 + 𝐺 + 𝑋 − 𝑄 and replace 𝐶𝐴 = 𝑋 −𝑄 which yields

𝑌 = 𝐶 + 𝐼 + 𝐺 + 𝐶𝐴, (a)

which is called gross national disposable income. This is used for consumption, saving and paying taxes,

𝑌 = 𝐶 + 𝑆 + 𝑇. (b)

Equating these two equations (a) = (b) yields

𝑆 − 𝐼 + 𝑇 − 𝐺 = 𝐶𝐴


Nominal vs. Real GDP Nominal GDP is the sum of the quantities of final

goods produced multiplied by their current price.

It increases because

the production of most goods increases over time

the prices of most goods also increase over time

Real GDP is constructed as the sum of the quantities of final goods multiplied by constant (rather than current) prices.


Nominal vs. Real GDP (2)

To construct real GDP. multiply the number of cars in each year by a common price. Suppose we use the price of the car in 2000 as the common price. This approach gives us, in effect, real GDP in chained (2000) dollars.


Year

Quantity

of Cars

Price

of cars Nominal

GDP

Real GDP

(in 2000 dollars)

1999 10 $20.000 $200.000 $240.000

2000 12 $24.000 $288.000 $288.000

2001 13 $26.000 $338.000 $312.000

Nominal vs. Real GDP (3) Synonyms

Nominal GDP is also called dollar GDP or GDP in current dollars.

Real GDP is also called GDP in terms of goods, GDP in constant dollars, GDP adjusted for inflation, or GDP in 2000 dollars.

GDP will refer to real GDP and Yt will denote real GDP in year t.

Nominal GDP and variables measured in current dollars will be denoted by a dollar sign in front of them—for example: $Yt for nominal GDP in year t.


GDP: Level Versus Growth Rate Real GDP per capita is the ratio of real GDP to the

population of the country.

GDP growth equals:

Periods of positive GDP growth are called expansions.

Periods of negative GDP growth are called recessions


1

1)(

t

tt

Y

YY

GDP The level of aggregate output in an economy is determined by:

demand in the short run, say, a few years,

the level of technology, the capital stock, and the labor force in the medium run, say, a decade or so,

factors such as education, research, saving, and the quality of government in the long run, say, a half century or more.


Unemployment

Employment (N): number of people who have a job.

Unemployment (U): number of people who do not have a job but are looking for one.

The labor force (L): sum of employment and unemployment:

Labor force = Employment + Unemployment


Unemployment Rate

The unemployment rate is the ratio of the number of people who are unemployed to the number of people in the labor force:

𝒖 =𝑼

𝑳

Unemployment rate = Unemployment/Labor force


Unemployment Rate (2)

The Current Population Survey (CPS) in the USA and the Labour Force Survey (LFS) in the EU are used to compute the unemployment rate.

Only those looking for work are counted as unemployed. Those not working and not looking for work are not in the labor force.

People without jobs who give up looking for work are known as discouraged workers.

𝑷𝒂𝒓𝒕𝒊𝒄𝒊𝒑𝒂𝒕𝒊𝒐𝒏 𝒓𝒂𝒕𝒆 =𝑙𝑎𝑏𝑜𝑢𝑟 𝑓𝑜𝑟𝑐𝑒

𝑝𝑜𝑝𝑢𝑙𝑎𝑡𝑖𝑜𝑛 𝑜𝑓 𝑤𝑜𝑟𝑘𝑖𝑛𝑔 𝑎𝑔𝑒


Unemployment Rates 2000 2005 2008 2010

EU27 8.7 9 7.1 9.7

Euro Area 8.5 9.2 7.6 10.1

Denmark 4.3 4.8 3.3 7.4

Germany 7.5 11.2 7.5 7.1

Ireland 4.2 4.4 6.3 13.7

Greece 11.2 9.9 7.7 12.6

Spain 11.1 9.2 11.3 20.1

France 9.0 9.3 7.8 9.8

Italy 10.1 7.7 6.7 8.4

Netherlands 3.1 5.3 3.1 4.5

Austria 3.6 5.2 3.8 4.4

United Kingdom 5.4 4.8 5.6 7.8

United States 4 5.1 5.8 9.6

Japan 4.7 4.4 4 5.1


Source: Eurostat.

Why do we care about unemployment? Because of its direct effects on the welfare of the

unemployed.

Because it provides a signal that the economy may not be using some of its resources efficiently.


The Inflation Rate Inflation is a sustained rise in the general level of

prices—the price level.

The inflation rate is the rate at which the price level increases.

Symmetrically, deflation is a sustained decline in the price level. It corresponds to a negative inflation rate.


Measuring the rate of inflation

GDP Deflator The GDP deflator in year t, Pt, is defined as the ratio of nominal GDP to real GDP in year t:

𝑃𝑡 =𝑁𝑜𝑚𝑖𝑛𝑎𝑙 𝐺𝐷𝑃𝑡

𝑅𝑒𝑎𝑙 𝐺𝐷𝑃𝑡=

$𝑌𝑡

𝑌𝑡

The GDP deflator is what is called an index number - set equal to 100 in the base year


Measuring the rate of inflation (2) The rate of change in the GDP deflator equals the rate

of inflation:

𝜋𝑡 =𝑃𝑡 − 𝑃𝑡−1

𝑃𝑡−1

Nominal GDP is equal to the GDP deflator multiplied by real GDP:

$𝑌𝑡 = 𝑃𝑡𝑌𝑡


Measuring the rate of inflation (3)

The Consumer Price Index The GDP deflator measures the average price of output, while

the consumer price index, or CPI, measures the average price of consumption, or equivalently, the cost of living.

The CPI gives the cost in dollars of a specific list of goods and services over time, which attempts to represent the consumption basket of a typical urban consumer.

The set of goods produced in the economy is not the same as the set of goods purchased by consumers, for two reasons:

Some of the goods are sold to firms, to the government, or to foreigners.

Some of the goods are not produced domestically but are imported from abroad.


Why do we care about inflation? During periods of inflation, not all prices and wages

rise proportionately, inflation affects income distribution.

Inflation leads to other distortions.


Key Terms national income and product accounts

aggregate output

gross domestic product, (GDP)

gross national product, (GNP)

intermediate good

final good

value added

nominal GDP

real GDP

real GDP in chained (2000) dollars

real GDP per capita

GDP growth

expansions

recessions

employment unemployment

labor force

unemployment rate

Current Population Survey (CPS)

not in the labor force

discouraged workers

participation rate

underground economy

inflation

price level

inflation rate

deflation

GDP deflator

index number

cost of living

consumer price index (CPI)


Fin……..


Documents

040185/5 UK Introductory Macroeconomics Einführung in …homepage.univie.ac.at/wolfgang.schwarzbauer/intro_macro.pdf- from the slide set prepared by Fernando Quijano and Yvonn Quijano