Intermediate Macroeconomics Ms. Majella Giblin 2005 22 nd September 2005.

Intermediate Macroeconomics

Ms. Majella Giblin

2005

22nd September 2005

Course Overview

• One term

• Objectives of the course:– Undertanding of real world economic

phenomena – Devise appropriate economic policy

responses to moderate adverse effects to business fluctuations

Timetable

• Lectures: – Monday 9-10am Room 941– Thursday 2-3pm Room 941– Friday 1-2pm Room 903

• Tutorials:– Monday 1-2pm Room 231A– Tuesday 11am-12 Room 208

Intermediate Macroeconomics: Overview

• The macroeconomy in the long run:– Income, Unemplyment, Inflation

• The macroeconomy in the short run:– Aggregate demand, aggregate supply

• Macroeconomic policy

• Open-economy macroeconomics

Assessment

• Continuous assessment 30%– Individual written assignment

• Exam– End of semester written exam 70%

Reading

• Essential reading:– Mankiw (2000) fourth edition– Blanchard (2000) second edition

• Supplementary reading:– Mankiw (2001) second edition

Source: Mankiw (2000)

Introduction

• What do macroeconomists study?– Why some countries have experienced rapid

growth in incomes?– Why other countries stay in poverty?– Why some countries have high rates of

inflation?– Why other coountries maintain stable prices?– Why all countries have periods of recessions

or depressions– How can government policy help?


Introduction: What is macroeconomics?

• Macroeconomics = the study of the economy as a whole.– It attempts to answer these questions– Studies: growth in incomes, changes in prices and the

rate of unemployment

• Macroeconomic issues play a central role in the political debate because it deals with the state of the economy– It devises policies to improve economic performance


Macroeconomics and Microeconomics

• Microeconomics = the study of how households and firms make decisions and how these decisionmakers interact in the marketplace– Firms and households optimise – doing their

best given scarce resources and constraints– Choose purchases to maximise their utility


Macroeconomics and Microeconomics

• Macroeconomics:– Studies economy-wide events which

ultimatley arise from the interaction of many households and many firms

– Therefore, macro- and microeconomics are inextricably linked

– In macroeconomics we study aggregate variables = the sum of the variables describing many individual decisions


Macroeconomics and Microeconommics

• Example:– Total consumer spending = spending by many

individuals within the economy– Total investment = investment decisions by

many firms in the economy


Use of models

• To understand the economy, macroeconomists uses models– Theories that simplify reality– Applying assumptions– illustrates relationships among variables and

dispenses of irrelevant details– Exogenous variables: determined outside the model,

model does not attempt to explain them– Endogenous variables: model attempts to explain

these variables

Soource: Mankiw (2000)

Use of models

• Macroeconomists study many aspects of the economy, including, economic growth, unemployment, inflation– No single model covers all, so different

models are used to explain different aspects of the economy


The Data of Macroeconomics

• Overview:1. Gross Domestic Product (GDP)

2. Inflation

3. Unemployment rate– Three economic statistics that economists

and policymakers use


1. Gross Domestic Product (GDP)

• GDP: tells us the nation’s total income and expenditure on its output of goods and services

• Considered best measure of how well the economy is performing

– Gauge of economic performance

• Viewed in two ways: a) Total income of everyone in the economyb) Total expenditure on the economy’s output


GDP

• Measure of both income and expenditure:– Two quantities are the same: for the economy

as a whole income must equal expenditure

• GDP = the value of all goods and services produced domestically in the economy regardless of the nationality of the owners of the factors of production

• GDP = output = income = expenditure


GDP

• Computing GDP:– Example: – suppose an economy produces four apples

and three oranges– Apples market price = 0.50 cents– Oranges market price = €1– GDP = (price of apples x quantity of apples) +

(price of oranges x quantity of oranges)


GDP

• GDP = (€O.50 X 4) + (€1 X 3) = €5.00

• GDP includes the value of currently produced goods and services, used goods are not part of GDP

• GDP only includes the value of final goods not intermediate goods

• Underground economy is not included in GDP


GDP

• Real versus nominal GDP:– Real GDP values goods and services at constant

prices– Nominal GDP values goods and services at current

prices– Real GDP – a better measure of economic well-being– Real GDP rises only when the amount of goods and

services produced in the economy rises– Nominal GDP can rise because output has increased

or because prices have increased


GDP

• All ‘real’ variables are adjusted to take into account inflation

• Real GDP adjusts nominal GDP for inflation

• GDP deflator = Nominal GDP/Real GDP– Reflects what’s happening to the overall level

of prices in he economy


GDP

• Example:– Consider an economy with one good: bread– P = price of bread– Q= quantity sold– Nominal GDP = total number of euros spent

on bread for that year = P X Q– Real GDP = number of loaves of bread

produced in that year times the price of bread in a base year = Pbase X Q


GDP

• Example:– Apples and oranges– We want to compare output in 1998 and 1999– Choose a base year, such as prices that

prevailed in 1998

• Real GDP for 1998 =

(1998 Papples x 1998 Qapples) +

(1998 Poranges x 1998 Qoranges)


GDP

• Real GDP in 1999 =



• Real GDP in 2000 =




GDP

Ireland 2003 2004 %Δ

Nominal GDP

€139,097m

€148,556m

6.8%

Real GDP €139,097 €145,319 4.5%

Source: CSO September 2005


GDP

• Components of expenditure:– Consumption (C)– Investment (I)– Government purchases (G)– Net exports (NX): Exports minus imports

GDP (Y) = C + I + G + NX


GDP

• GDP versus GNP– GDP measures total income produced

domestically– GNP measures total income earned by

nationals (residents of a nation)

GNP = GDP + Factor Payments From Abroad

- Factor Payments to Abroad


GDP

Ireland 2003 2004

Real GDP €139,097m €145,319m

Real GNP €116,374m €121,032m

Source: CSO September 2005


2. Inflation

• Inflation: increase in the overall level of prices

• Rate of inflation: the percentage change in the overall level of prices from one period to the next period

• Low inflation: desirable = certainty, stability and facilitates economic growth


Inflation

• Measure of the level of prices:– Consumer Price Index (CPI) = measures the

price of a fixed basket of goods and services produced by a typical consumer

– The CPI is the price of this basket of goods and services relative to the price of he same basket in some base year

– The CSO computes the CPI


Inflation

• Laspeyres index = a price index with a fixed basket of goods and services

• Paasche index = a price index with a changing basket of goods and services

• Which is a better measure of the cost of living?

• Answer: neither is superior


Inflation

• When prices of different goods change by different amounts:– Laspeyres index (fixed basket) tends to overstate the

increase in cost of living because it does not take into account that people can substitute more expensive goods for less expensive goods

– Paasche index (changing basket) tends to understate the increase in the cost of living because it does not take into account the reduction in consumer welfare from having to substitute goods

Inflation

• Effects of inflation:– Erodes the value of money– Reduces international competitiveness– Menu costs

Inflation

• Consumer Price Index: Ireland1998 2.4%

1999 1.6%

2000 5.6%

2001 4.9%

2002 4.6%

2003 3.5%

2004 2.2%

Source: CSO, September 2005


3. Unemployment Rate

• Unemployment rate = percentage of people wanting to work who do not have jobs– Measures the fraction of the labour force out

of work

• Labour force: the sum of employed and unemployed

• A person can be employed (in a paid job)


Unemployment Rate

• A person can be unemployed (waiting to start a new job and previously unemployed, on temporary layoff or is looking for a job)

• A person not in those two categories is not in the labour force (e.g. student, retiree)

• Labour force = number of employed + number of unemployed


Unemployment rate

• Unemployment rate = Number of unemployed x 100

Labour force• Costs of unemployment:

– High current govt expenditure and lower income tax revenue

– Loss of output and income to economy– Low self-esteem and stress– Loss of income to individual

Civilian Employment, 2001-20032000 = 100

96

98

100

102

104

106

108

2000 2001 2002 2003

Australia Ireland Total OECD

Source: OECD Economic Outlook, No. 75, June 2004

Average annual GDP growth rate, 2000-2003

0%

1%

2%

3%

4%

5%

6%

Australia Finland France Germany Ireland UnitedKingdom

United States Total OECD

Source: OECD Economic Outlook, No. 75, June 2004

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Intermediate Macroeconomics Ms. Majella Giblin 2005 22 nd September 2005.

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