06

An Introduction to Macroeconomics

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McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.

Performance and Policy

• Real GDP

• Corrects for price changes

• Nominal GDP

• Uses current prices

• Unemployment

• Inflation

• Increase in overall level of prices

LO1 6-2

Performance and Policy

• Can governments:

• Promote economic growth?

• Reduce severity of recession?

• Is monetary or fiscal policy more effective at mitigating recession?

• Is there a tradeoff between inflation and unemployment?

• Is anticipated or unanticipated government policy more effective?

LO2 6-3

Performance and Policy

• Output growth

• 2.7% per year 1995-2007

• Unemployment rate

• 4.6% in 2007

• Inflation rate

• 2.7% in 2007

LO2 6-4

Modern Economic Growth

• Standard of living measured by output per person

• No growth in living standards prior to Industrial Revolution

• Modern economic growth

• Output per person rises

• Not experienced by all countries

LO3 6-5

Global Perspective

LO3 6-6

Savings and Investment

• Saving

• Trade-off current for future consumption

• Investment

• Financial investment

• Economic investment

• Banks and financial institutions

LO4 6-7

Uncertainty, Expectations, and Shocks

• The future is uncertain

• Expectations affect investment

• Shocks

• What happens is not what you expected

• Demand shocks

• Supply shocks

LO5 6-8

Uncertainty, Expectations and Shocks

• Demand shocks and flexible prices

• Price falls if demand is low

• Sales unchanged

• Demand shocks and sticky prices

• Maintain inventory

• Sales change

• Business cycles

LO5 6-9

Demand Shocks

Cars per week

Pri

ce

DMDL

DH

900

$40,000

$37,000

$35,000

Flexible Prices

LO5 6-10

Demand Shocks

Cars per week

DMDL

DH

700 900 1150

$37,000

Fixed Prices

Pri

ce

LO5 6-11

Sticky Prices

LO5

Item MonthsCoin-operated laundry machines 46.4

Newspapers 29.9

Haircuts 25.5

Taxi fare 19.7

Veterinary services 14.9

Magazines 11.2

Computer software 5.5

Beer 4.3

Microwaves ovens 3.0

Milk 2.4

Electricity 1.8

Airline tickets 1.0

Gasoline 0.6Source: Mark Bils and Peter J. Klenow, “Some Evidence on the Importance of Sticky Prices”, Journal of Political Economy, October 2004, pp 947-985, Used with permission of The University of Chicago Press.

6-12

Sticky Prices

• Many prices are sticky in the short run

• Consumers prefer stable prices

• Firms want to avoid price wars

• All prices are flexible in the long run

• Firms adjust to unexpected, but permanent changes in demand

LO5 6-13

Inventory Management

• Computerized inventory tracking

• Unexpected changes in demand are easier to observe

• Firms make better output and employment decisions

• Less severe business cycles

• Before 2007, only two mild recessions since adoption

• Possible explanationLO5 6-14