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OVERVIEW AND KEY CONCEPTS ECON 2123: Macroeconomics Prof. Fei DING The Hong Kong University of Science and Technology
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OVERVIEW AND KEY CONCEPTS
ECON 2123: Macroeconomics
Prof. Fei DING
The Hong Kong University of Science and Technology
QUOTE OF THE DAY
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We use scarce resources to improve our well-being;
Our economic decisions affect others in the society;
Government policies influence our economic decisions.
Resources are scarce need to make choices.
Scientific method need to measure things.
World is complicated need to use models.
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RECAP: ECONOMICS STUDIES HOW …
MACRO MORE DIFFICULT THAN MICRO!
Macroeconomics considers a group of individuals as an unit together in the Short run (a few years), Medium run (a decade), Long run (a few decades or more).
Three key variables in macroeconomics Output Unemployment rate Inflation rate
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Ch1: A Tour of the WorldCh2: A Tour of the Book
LEARNING OBJECTIVES
Obtain a big picture of the macro economy around the world: US, EU, and China.
Define output, unemployment, inflation.
Understand the components of the national income and product accounts.
Understand key terms at the end of Ch2.
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HOW TO DESCRIBE AN ECONOMY?
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CHINA VS. THE UNITED STATES
Table 1-2 Growth, Unemployment, and Inflation in the United States, 1980–2012
Table 1-4 Growth and Inflation in China, 1980–2012
3.0
6.5
4.2
2.6
5.0
2.8
0.0
5.8
3.8
-3.5
9.3
-0.3
3.0
9.6
1.7
1.5
9.1
2.9
1.8
9.0
1.2
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CHINA VS. THE EURO AREA
Table 1-3 Growth, Unemployment, and Inflation in the Euro Area, 1980–2012
Table 1-4 Growth and Inflation in China, 1980–2012
2.2
9.6
5.2
2.2
8.5
2.3
0.4
7.6
3.2
-4.2
9.5
0.3
1.8
10.1
1.6
1.6
9.9
2.5
1.1
9.9
1.5
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Astonishing growth! Since 1980, Chinese output has grown at close to 10% per year (compared
to 3.1% for the US over the same period). At this rate, output doubles every 7 years!
Low unemployment. Inflation was high before 2000, but has stayed low ever since. Almost no sign of the global financial crisis.
CHINA
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THE CRISIS
Table 1-1 World Output Growth since 2000
Figure 1-1 Stock prices in the US, the Euro area, and emerging economies, 2007–2010
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When looking at an economy, we first look for three key variables:
Output
Unemployment rate
Inflation rate
But what exactly are they, and how are they calculated?
LET’S SUMMARIZE
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“AGGREGATE” OUTPUT – GDP
Aggregate means “total” in macroeconomics.
GDP – Gross Domestic Product
Measured by national income and product accounts – an accounting system used to measure aggregate economic activity.
Precision and consistency
Refer to Appendix 1 at the end of the textbook for more details.
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HOW IS GDP CALCULATED?
Steel Company (Firm 1) Car Company (Firm 2)
Revenues from sales $100 Revenues from sales $200
Expenses $80 Expenses $170
Wages $80 Wages $70
Steel Purchases $100
Profit $20 Profit $30
GDP=? 1) $300 (=$100+$200)2) $50 (=$20+$30)3) $200
This is capital (or profit) income, not total output.
This is double counting of intermediate goods.
=$100+($200-$100)=$80+$20+$70+$30
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GDP EXAMPLE
Steel Company (Firm 1) Car Company (Firm 2)
Revenues from sales $100 Revenues from sales $200
Expenses $80 Expenses $170
Wages $80 Wages $70
Steel Purchases $100
Profit $20 Profit $30
GDP = $2001) Value of final goods, which aim for final consumption.2) Value added – the value of production minus the value of
intermediate goods used in production. Intermediate goods aim for use in the production of something else.
3) Sum of incomes – mostly labor income and capital income (and indirect/sales taxes).
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HOW IS GDP CALCULATED?
From the production side, Value of the final goods and services produced
domestically Sum of value-added in the domestic economy
From the income side, Sum of incomes earned by domestically-located
factors of production
during a given period.
Aggregate Production = Aggregate Income15
REFRESH
A firm’s value added equals:1. its revenue minus its costs.2. its revenue minus its wages.3. its revenue minus its wages and profit.4. its revenue minus its cost of intermediate goods.5. none of the above.
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NOMINAL VS. REAL GDP
Nominal GDP is measured in current prices. Problem: prices of most goods increase over time. Want to measure output and its change over time
without the effect of increasing prices.
Real GDP is measured in constant prices. Can use prices in a base year as common prices
YearQuantity of Cars
Price of cars
NominalGDP
Real GDP (in 2005 dollars)
2004 10 $20,000 $200,000 $240,0002005 12 $24,000 $288,000 $288,0002006 13 $26,000 $338,000 $312,000
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REAL GDP – COMPLICATIONS
In the base year, nominal GDP = real GDP. The base year is chosen by convention. What about changes in quality of existing goods?
Hedonic pricing (see focus box p.45)
More than one good, real GDP is a weighted averageof the output of all final goods. Relative prices determine the weights. But relative prices change over time! Use real GDP in chained (2005) dollars. Refer to the appendix at the end of Ch2 for details.
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NOMINAL VS. REAL GDP – US
From 1960 to 2010, nominal GDP increased by a factor of 28. Real GDP increased by a factor of about 5.
Nominal and Real U.S. GDP, 1960-2010
Figure 2 - 1
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NOMINAL VS. REAL GDP – HONG KONG
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From 1961 to 2006, nominal GDP increased by a factor of 273. Real GDP increased by a factor of about 22.Real GDP is measured at price level of 2011.
Nominal and Real GDP, Hong Kong, 1961-2011 (million HK$)
0
500,000
1,000,000
1,500,000
2,000,000
2,500,000
19
611
963
19
651
967
19
691
971
19
731
975
19
771
979
19
811
983
19
851
987
19
891
991
19
931
995
19
971
999
20
012
003
20
052
007
20
092
011
r
Nominal
Real
GDP LEVEL VS. GROWTH RATE
Real GDP per capita is the ratio of real GDP to the population of the country.
GDP measures economic size; GDP per capita measures standard of living.
GDP growth: rate of growth of real GDP
Negative growth recession
Positive growth expansion
1
1)(
t
tt
YYY
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Since 1960, the U.S. economy has gone through a series of expansions, interrupted by short recessions. The most recent recession was the most severe recession in the period from 1960 to 2010.
Growth Rate of U.S. GDP, 1960-2010
Figure 2 - 2
US GDP GROWTH
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HONG KONG GDP GROWTH, 1966-2010
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-10%
0%
10%
20%
30%
40%
50%
19
66
[YR
19
66
]1
96
7 [Y
R1
96
7]
19
68
[YR
19
68
]1
96
9 [Y
R1
96
9]
19
70
[YR
19
70
]1
97
1 [Y
R1
97
1]
19
72
[YR
19
72
]1
97
3 [Y
R1
97
3]
19
74
[YR
19
74
]1
97
5 [Y
R1
97
5]
19
76
[YR
19
76
]1
97
7 [Y
R1
97
7]
19
78
[YR
19
78
]1
97
9 [Y
R1
97
9]
19
80
[YR
19
80
]1
98
1 [Y
R1
98
1]
19
82
[YR
19
82
]1
98
3 [Y
R1
98
3]
19
84
[YR
19
84
]1
98
5 [Y
R1
98
5]
19
86
[YR
19
86
]1
98
7 [Y
R1
98
7]
19
88
[YR
19
88
]1
98
9 [Y
R1
98
9]
19
90
[YR
19
90
]1
99
1 [Y
R1
99
1]
19
92
[YR
19
92
]1
99
3 [Y
R1
99
3]
19
94
[YR
19
94
]1
99
5 [Y
R1
99
5]
19
96
[YR
19
96
]1
99
7 [Y
R1
99
7]
19
98
[YR
19
98
]1
99
9 [Y
R1
99
9]
20
00
[YR
20
00
]2
00
1 [Y
R2
00
1]
20
02
[YR
20
02
]2
00
3 [Y
R2
00
3]
20
04
[YR
20
04
]2
00
5 [Y
R2
00
5]
20
06
[YR
20
06
]2
00
7 [Y
R2
00
7]
20
08
[YR
20
08
]2
00
9 [Y
R2
00
9]
20
10
[YR
20
10
]
Perc
enta
ge C
hang
es
Growth of Real GDP and Nominal GDP of Hong Kong
Growth of Real GDP
Growth of Nominal GDP
THE GLOBAL RECESSION
World GDP declined sharply in both the last quarter of 2008 and the first quarter of 2009.
The Global Recession. World GDP Growth, 2007-2010.
Figure 28 – 1
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Goods and services without market prices Government services Owner-occupied housing
Goods and services that are not traded in markets Leisure Housework
Depletion of natural and environmental resources
WHAT GDP MISSES …
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WHAT GDP CAN AND CANNOT MEASURE
Measure aggregate economic activities, growth, standard of living
Goods and services available for consumption
Consumers’ valuation on these items
Not a measure of
Environmental and emotional well-being
Reading: Singapore, Hong Kong face happiness deficit – SCMP, Jan. 19, 2013
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WHAT IS UNEMPLOYMENT?
Employment (N) is the number of people who have a job.
Unemployment (U) is the number of people who do not have a job but are looking for one.
Discouraged workers are those without jobs who give up looking for work.
The labor force L = N + U.
Participation rate = L/total population of working age
The unemployment rate u = U/L.
We care about unemployment because
It directly impacts the welfare of the unemployed.
It means we are not using resources efficiently.
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Since 1960, the U.S. unemployment rate has fluctuated between 3% and 10%, going down during expansions and going up during recessions. The effect of the crisis is highly visible, with the unemployment rate reaching close to 10%, the highest such rate since the 1980s.
U.S. Unemployment Rate,1960-2010
Figure 2 - 3
UNEMPLOYMENT RATE – US
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REFRESH
When an economy slows down, we often observe:1) Low unemployment rate and high participation
rate.2) Low unemployment rate and low participation
rate.3) High unemployment rate and high participation
rate.4) High unemployment rate and low participation
rate.
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THE INFLATION RATE
Inflation is a sustained rise in the general level of prices – the price level. Inflation rate is the growth rate of the price level.
Deflation is a sustained decline in the price level, i.e., negative inflation.
We care about inflation because Inflation affects income distribution and welfare.
Inflation leads to uncertainty and other distortions.
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HOW TO MEASURE INFLATION
From the average price of output produced:
The GDP deflator
From the average price of consumption:
The consumer price index (CPI)
What’s the difference?
Goods sold to firms, government, foreigners
Goods imported from abroad
$t
t
Nominal GDPReal GDP
t
t
t
YP
Y
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HOW TO MEASURE INFLATION
Both GDP deflator and CPI are index numbers. Level set to 100 in the base year. Level has no
economic meaning. Their rate of change defines the inflation rate.
The inflation rates, computed using either the CPI or the GDP deflator, are largely similar.
U.S. Inflation Rate, using the CPI and the GDP deflator, 1960-2010
Figure 2 - 4
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GDP DEFLATOR EXERCISE
Compute the GDP deflator for each year.
Compute the inflation rate from 2010 to 2011, and from 2011 to 2012.
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YearNominal
GDPReal GDP
(in 2005 dollars)GDP
DeflatorInflation
Rate2004 $200,000 $240,000 ? N.A.2005 $288,000 $288,000 ? ?2006 $338,000 $312,000 ? ?
STYLIZED FACTS IN MACROECONOMICS
Unemployment rises during recessions and falls during expansions. Okun’s Law: negative relationship between GDP
growth and change in unemployment rate.
Figure 2-5 Changes in the unemployment rate versus output growth in the United States, 1960–2010
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STYLIZED FACTS IN MACROECONOMICS
On average, higher (lower) unemployment leads to a decrease (increase) in inflation. Phillips Curve: negative relationship between
unemployment rate and change in inflation rate.
Figure 2-6 Changes in the inflation rate versus the unemployment rate in the United States, 1960–2010
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STYLIZED FACTS IN MACROECONOMICS
Combining Okun’s Law and the Phillips curve, what can we say about the relationship between output, unemployment, and inflation?
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Macroeconomics Facts of Hong KongGDP, INFLATION RATE, UNEMPLOYMENT RATE
Where to find Data
Census and Statistics Department: www.censtatd.gov.hk
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TIME FRAME FOR DETERMINATION OF OUTPUT
Short run a few years – changes in output mainly driven by changes in demand
Medium run a decade – output determined by given supply factors: capital stock, technology, size and skills of the labor force
Long run a few decades or more – output determined by changes in supply factors: accumulation of capital, technological growth, education system, role of government, etc.
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CH2 QUICK CHECK (TEXTBOOK)True or False?
(a) When the unemployment rate is high, the participation rate is also likely to be high.
(b) The rate of unemployment tends to fall during expansions and rise during recessions.
(c) If the Japanese CPI is currently at 108 and the U.S. CPI is at 104, then the Japanese rate of inflation is higher than the U.S. rate of inflation.
(d) The rate of inflation computed using the CPI is a better index of inflation than the rate of inflation computed using the GDP deflator.
(e) The Phillips curve is a relation between the level of inflation and the level of unemployment.
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SEE YOU NEXT TIME
Assigned reading:
Textbook Chap. 1 and 2 (exclude appendix)
Textbook, Chap. 3 (for next time)
Remember to download iPRS app to your mobile phone or get your PRS handset.
Problem set 1 will be posted soon.
Make sure you can submit PS0 via CANVAS.
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