Week 2: Macro and international economics
Macroeconomics studies the behaviour of aggregate economies and the impact of policies and their
performance.
Economic growth
- What are the main drivers of economic growth?
- Will economic growth stop eventually?
- Any policy to adopt to make the economy keep growing?
- Why do some economies grow faster than others?
Key features of business cycles
In a recession, you would expect:
- A significant increase in unemployment (UN) rate
- A fall in inflation rate
What can or should be done to save the economy?
- Monetary policy
- Fiscal policy: government spending, taxation and transfer payment (to firms and households)
- Generally speaking, government would stimulate the economy by: (1) cutting interest rates (2)
increasing government spending (3) lowering taxes (4) increasing transfer payment- which would
lead to higher budget deficit.
The international economy
- Every major economy is an open economy
- They have extensive trading and financial relationships with each other
- 2 key concepts: (1) exchange rate and (2) current account
Study of macroeconomics is grounded in 3 models, each appropriate for a particular time period:
Very long run: growth of production capacity (growth theory)
- Capital accumulation
- Technology improvement
- Assumption: no economic fluctuation
Long run: fixed output but flexible price adjustment (AS & AD)
- Fixed production capacity, determined by technology level and capital
- Flexible price, driven by AD
- Assumption: (1) production capacity is fixed (2) technology level is fixed (3) price is flexible)
Short run: economic fluctuations (IS & LM)
- Relatively fixed price
- Variable capacity utilisation, driven by AD
- Assumption: (1) price is fixed (2) production can be adjusted
Very long run growth
,- Growth theory examines how the accumulation of inputs and improvement of technology lead
to increased SOL
- Rate of saving is a significant determinant of future well-being and economic growth
Long run model
Short run model
Medium run model
Business cycle: expansion and contraction in economic activity around the path of trend growth
- Highest point: peak
- Lowest point: trough
- Peak to trough: recession
,- Trough to peak: recovery
Output gap: the gap between actual output and potential output
- If actual GDP > potential GDP positive output gap
- If actual GDP < potential GDP negative output gap
, Week 3: National Income Accounting
GDP: the value of all final goods and services currently produced within a country over a period of
time
- Final: exclude intermediate goods (timber exclude // chair include)
- Within: to differentiate GDP & GNP
GNP: the value of all final goods and services produced by citizens of a country over a period of time
3 approaches to measure GDP
Production method
- Measure the value added summed across all firms
- Value added = sales – cost of raw material
Income method (supply side)
- Labour income (wages/salary) + capital income (rent, interest, dividends) + corporate profits +
government income (taxes)
Expenditure method (demand side)
- Spending by consumer (C) + spending by businesses (I) + spending by government (G) + net
spending by foreign sector (NX)
Total production = total income = total expenditure
Components of demand
- GDP (Y) is a measure of market production
- What is produced in the market has to show up as being purchased or held by some economic
agent (production = expenditure)
- Who are the economic agents we will consider on the expenditure side?
Consumers
Businesses
Government
Foreign sector
Definition of demand components
Consumption (C)
- Sum of durables (furniture, car) and non-durables (food, oil) and services purchased domestically
by non-businesses and non-governments
- Include haircuts (services), refrigerators (durables) and apples (non-durables)
- NOTE: exclude purchase of new housing, but include housing services (eg. Owner’s imputed
rent)
Investment (I)
- Sum of durables, non-durables and services purchased domestically by businesses
- Includes business and residential structures, equipment and inventory investment
- Land purchases are not counted as part of GDP (land is not produced)
Macroeconomics studies the behaviour of aggregate economies and the impact of policies and their
performance.
Economic growth
- What are the main drivers of economic growth?
- Will economic growth stop eventually?
- Any policy to adopt to make the economy keep growing?
- Why do some economies grow faster than others?
Key features of business cycles
In a recession, you would expect:
- A significant increase in unemployment (UN) rate
- A fall in inflation rate
What can or should be done to save the economy?
- Monetary policy
- Fiscal policy: government spending, taxation and transfer payment (to firms and households)
- Generally speaking, government would stimulate the economy by: (1) cutting interest rates (2)
increasing government spending (3) lowering taxes (4) increasing transfer payment- which would
lead to higher budget deficit.
The international economy
- Every major economy is an open economy
- They have extensive trading and financial relationships with each other
- 2 key concepts: (1) exchange rate and (2) current account
Study of macroeconomics is grounded in 3 models, each appropriate for a particular time period:
Very long run: growth of production capacity (growth theory)
- Capital accumulation
- Technology improvement
- Assumption: no economic fluctuation
Long run: fixed output but flexible price adjustment (AS & AD)
- Fixed production capacity, determined by technology level and capital
- Flexible price, driven by AD
- Assumption: (1) production capacity is fixed (2) technology level is fixed (3) price is flexible)
Short run: economic fluctuations (IS & LM)
- Relatively fixed price
- Variable capacity utilisation, driven by AD
- Assumption: (1) price is fixed (2) production can be adjusted
Very long run growth
,- Growth theory examines how the accumulation of inputs and improvement of technology lead
to increased SOL
- Rate of saving is a significant determinant of future well-being and economic growth
Long run model
Short run model
Medium run model
Business cycle: expansion and contraction in economic activity around the path of trend growth
- Highest point: peak
- Lowest point: trough
- Peak to trough: recession
,- Trough to peak: recovery
Output gap: the gap between actual output and potential output
- If actual GDP > potential GDP positive output gap
- If actual GDP < potential GDP negative output gap
, Week 3: National Income Accounting
GDP: the value of all final goods and services currently produced within a country over a period of
time
- Final: exclude intermediate goods (timber exclude // chair include)
- Within: to differentiate GDP & GNP
GNP: the value of all final goods and services produced by citizens of a country over a period of time
3 approaches to measure GDP
Production method
- Measure the value added summed across all firms
- Value added = sales – cost of raw material
Income method (supply side)
- Labour income (wages/salary) + capital income (rent, interest, dividends) + corporate profits +
government income (taxes)
Expenditure method (demand side)
- Spending by consumer (C) + spending by businesses (I) + spending by government (G) + net
spending by foreign sector (NX)
Total production = total income = total expenditure
Components of demand
- GDP (Y) is a measure of market production
- What is produced in the market has to show up as being purchased or held by some economic
agent (production = expenditure)
- Who are the economic agents we will consider on the expenditure side?
Consumers
Businesses
Government
Foreign sector
Definition of demand components
Consumption (C)
- Sum of durables (furniture, car) and non-durables (food, oil) and services purchased domestically
by non-businesses and non-governments
- Include haircuts (services), refrigerators (durables) and apples (non-durables)
- NOTE: exclude purchase of new housing, but include housing services (eg. Owner’s imputed
rent)
Investment (I)
- Sum of durables, non-durables and services purchased domestically by businesses
- Includes business and residential structures, equipment and inventory investment
- Land purchases are not counted as part of GDP (land is not produced)
