Circular Flow Illustrates the flow of resources and

Circular Flow Illustrates the flow of resources and products from households to businesses and from businesses to households. Businesses are on the buying side of the resource market and the selling side of the product market. Households are on the selling side of the resource market and the buying side of the product market.

WHAT IS GDP? MEASURING PRODUCTION, INCOME, AND SPENDING

Inflation. . . • Inflation = A rise in the general price level which causes each dollar to have less purchasing power • PL↑ = % Inflation↑ ⇒ $’s value ↓ ⇒ purchasing power ↓ Deflation. . . Deflation – A fall in the general price level which causes each dollar to have more purchasing power n PL ↓ = % Deflation ↓ ⇒ $’s value ↑ ⇒ purchasing power ↑ n

Business Cycle (Short Run and Long Run) • http: //wwwdev. nber. org/cyclesmain. html Real GDP↑ , PL ↑ , U ↓ Inflationary gap Q 1 Q 2 A • . B GDPR Potential at FE GDP↓, PL↓, U↑ Deflationary Gap only If extreme 2007 2009 Time United States Economy “The Great Recession” 12/2007 – 6/2009 • Phases of Cycle (SR) • Peak / Boom – GDP↑, Inflation↑, Unemployment↓ • Recession, down turn, contraction • Trough – GDP ↓, Inflation ↓, Unemployment ↑, Disinflation or Deflation (1930’s and now only) • Expansion, up-turn, recovery Trend-line (LR) = Real GDP potential at Full Employment (Y*, QF) or N’tl Rate of U

GDP is. . . Gross Domestic Product Total Production in the Country • The total market value • Of all final goods and services • Produced • In the economy • In one year. • A monetary measure • Final sale to consumers (not intermediate goods); sales plus/minus inventory • Must involve a product • Inside boundaries of the country • A fiscal (financial) year

Based on the definition: Do you think it is counted or not and why? 1. 2. 3. 4. 5. 6. 7. Your grandmother’s social security check Your sale of your 1999 Ford for $4, 000 The new roof your dad put on your home The income of your family’s doctor The interest you made on your savings Your mom’s care of your baby sister The new CD offered for sale at Wal-Mart.

Based on the definition: Do you think it is counted or not and why? 1. • 2. • 3. • 4. • 5. • 6. • 7. • Your grandmother’s social security check No, your grandmother’s check is a transfer; she produced nothing this year to earn it. Your sale of your 1999 Ford for $4, 000 No, the car was not produced this year. The new roof your dad put on your home No, the labor would not count since it was done by a family member; yes, the materials bought would count. The income of your family’s doctor Yes, the doctor produced a service for payment. The interest you made on your savings No, this is a financial transaction and nothing was produced. Your mom’s care of your baby sister No, this production was a family service. The new CD offered for sale at Wal-Mart. Yes, it was produced this year even if it hasn’t sold.

Problems with GDP Accounting • Actual output is not measured accurately since household production, criminal production, underground market production (not declared to avoid taxes) aren’t counted. • No information provided about human welfare – quality of goods, income distribution, environment, civil liberties, leisure time.

In 1968 Senator Robert Kennedy explained the limits of GDP measures “[GDP] does not allow for the health of our children, the quality of their education, or the joy of their play. It does not include the beauty of our poetry or the strength of our marriages, the intelligence of our public debate or the integrity of our public officials. ”

3 Identities of GDP Total Production of Goods and Services = Total Income from resources = Total Expenditures by C + I + G + Xn = From http: //econ 161. berkeley. edu/multimedia/circular. html

Expenditure Approach to GDP Who buys the products? http: //en. wikipedia. org/wiki/Gross_domestic_product#Expenditure_approach • C = Consumption – Goods and Services by consumers • Ig = Gross Investment - Purchase of real capital (change in inventory, buildings, machines, homes) • G = Government purchases (infrastructure, programs -not transfers – local, state, national) • Xn = Net Exports = Exports – Imports (X – M) GDP = C + Ig + G + Xn 67% 12% 20% ± 1% (historic) 71% 12% 20% - 3% (2010)

Income Approach to GDP Who gets payments for resources? Payments for Resources for Production • Rent for land • Wages for labor • Interest for capital (financial capital buys real capital) • Profits for entrepreneurship

Difference in GNP and GDP? • GDP is the total market • GNP is the total market value of all final goods and services produced in a year from factors of production (resources) located within the country. • GDP = Produced in the country value of all final goods and services produced in a year from factors of production (resources) owned by country’s residents. • GNP = Produced with country’s resources

GDP Injections and Leakages I + G + X = S + T + M at Equilibrium Injections of Investment (I), Government spending (G), Exports (x) r e m u ons g n i d n spe C Leakages of Savings (S), Taxes (T), Imports (M)

Difference in Real and Nominal GDP? • “Nominal” GDP (GDPN) is the current number – what you see – reflects Price x Quantity. • “Real” GDP (GDPR) is adjusted for Price changes so the real number represents Quantity only.

How to Calculate Real GDP How to remove inflation from Nominal GDP Year Real GDP = Nominal GDP X 100 Price Index GDPN / PI X 100 = GDPR GDPN Billions Price Index GDPR 1966 $789. 3 B 32. 4 $2, 436. 1 B 1986 $4, 452. 9 B 109. 6 $4, 062. 8 B 2006 $13, 245. 6 201. 6 B $6, 570. 2 B 1982 -84 $’s ftp: //ftp. bls. gov/pub/special. requests/cpiai. txt Price Index Base Years: 1982 -84 = 100

Four Uses of GDP Data http: //en. wikipedia. org/wiki/Gross_Domestic_Product#Lists_of_countries_by_their_GDP http: //www. bea. gov/national/xls/gdplev. xls Current GDPN – compare sizes of different economies: EU-$18 T, US-$16. 7 T, China-9. 2 T, Japan-$4. 9 T, Germany-$3. 7 T 2. Real GDP – compare this year’s US output with other years’ output : US 1995 -$9. 1 T, 2000 -$11. 2 T, 2005 -$12. 6 T, 2010 -$13. 2 T in 2005 chained dollars 3. GDPN per capita - compares average person’s portion of GDP/population: Qatar-$146 K, Luxembourg-$90 K, Singapore 79 K, Norway-$64 K, (#9) US-$47 K, poorest Central African Rep-$604. 00 4. Real GDP growth – compares countries’ growth: #1 -Qatar +16. 3%, #5 India+10. 4%, #6 -China+10. 3%, #59 -Mexico +5. 5%, #117 -US-2. 8%; worst decline #184 Haiti -5. 1% PPP = Purchasing Power Parity (An economic theory that estimates the amount of adjustment needed on the exchange rate between countries in order for the exchange to be equivalent to each currency's purchasing power. ) 1.

2013 GDP Growth (World Bank) • Paraguay 14. 2% • China 7. 7 • Philippines 7. 2 • India 5. 0 • US 2. 2 • Japan 1. 6 • Germany 0. 1 • Central African Republic -36

Conference Board’s www. conference-board. org Index of Leading Indicators 1. Average workweek 2. Initial claims for unemployment insurance 3. New orders for consumer goods 4. Vendor on-time performance 5. New orders for capital goods 6. Building permits for houses 7. Stock prices 8. Money supply 9. Interest-rate spread for short term and long term loans 10. Consumer expectations

Who works the most? 1. Mexico – 43 hours per week 2. Greece – 39. 2 11. USA - 34. 4 17. Japan – 33. 4 31. Germany – 26. 7

Unemployment Rates • Hong Kong - 3. 3% • Canada – 6. 7% • Switzerland – 3. 4% • Netherlands – 8. 1% • Japan – 3. 5% • Finland 8. 8% • Denmark – 4. 0% • France – 10. 4% • Brazil – 4. 3% • Ireland – 10. 6% • Germany – 4. 8% • Spain – 23. 7% • India – 5. 2% • Nigeria – 23. 9% • USA – 5. 6% • South Africa – 25. 4% • Australia – 6. 1% • Greece – 25. 8%

1. Which of the following is not considered to be a leakage in the Circular Flow Diagram? a. Imports of goods and services b. Taxes c. Saving d. Investment

2. Which of the following is not considered to be an injection in the Circular Flow Diagram? a. Investment b. Saving c. Exports d. Government Spending

3. If leakages in the economy exceed injections, then we can expect: a. Inflation to be a problem in the economy. b. Unemployment to fall. c. Real GDP to fall. d. Exports to increase.

4. The macroeconomy is in equilibrium when: a. total spending equals total output. b. leakages equal injections. c. real GDP will not tend to change. d. All of the above answers are correct.

5. If total spending in the economy exceeds total output, we can expect: a. unemployment to rise. b. real GDP to rise. c. economic growth to fall. d. that the economy is now in equilibrium.

6. Monetary policy is conducted by: a. the President. b. Congress. c. the Federal Reserve System. d. the Secretary of the Treasury.

7. In a recession, Fiscal Policy would call for: a. a decrease in government spending. b. an increase in taxes. c. changes in taxes and government spending so as to boost total spending in the economy. d. increases in business inventories.

8. When facing inflation, the Federal Reserve System should: a. do nothing. b. enact an expansionary monetary policy. c. enact a contractionary monetary policy. d. try to reduce interest rates in the economy.

THE MEANING OF LABOR What does work mean to you?

Quotes on work “You can't have a million dollar dream with a minimum wage work ethic. ” “The only place where success comes before work is in the dictionary. ” “Some people dream of success. . . while others wake up and work hard at it. ” “There are no secrets to success. It is the result of preparation, hard work, and learning from failure. ”

Work Smart, not hard? • Is there a difference between working smart and working hard? • How important is motivation? • From where does this motivation come?

Dan Ariely

EXIT TICKET Please explain what you learned about the meaning of labor!