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3. Macroeconomic

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How to measure economic activity

Gross Domestic Product (GDP)
: the value of all final goods and services produced within an economy over a period of time, usually a year or a quarter.
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Gross National Income (GNI):
GDP+ factor income from abroad − factor income sent abroad. G D P+\text { factor income from abroad }- \text { factor income sent abroad. }
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GDP or GNI per capita:  GDP or GNI  population of the country \frac{\text { GDP or GNI }}{\text { population of the country }}
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Real GDP or GNI per capita at purchasing power parity (PPP): converts each country’s per capita income figure to a common currency.

Real vs Nominal:

GDP deflator: comprehensive price index that measures the average level of prices of all goods and services included in the GDP of a country.
 GDP deflator = nominal GDP  real GDP ×100\text { GDP deflator }=\frac{\text { nominal GDP }}{\text { real GDP }} \times 100
 Real GDP = nominal GDP  GDP deflator ×100\text { Real GDP }=\frac{\text { nominal GDP }}{\text { GDP deflator }} \times 100
3.1. Measuring economic activity and illustrating its variations

Aggregate demand

Aggregate demand(AD): total spending on domestic goods and services at average price levels per period of time.
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AD = C + I + G + (X-M)
Why is the AD curve downward sloping?

Shifts of the AD curve

Figure 3.2.2 Shifts of the AD curve
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AD will shift only if the determinant causes a change (increase or decrease) in the components of AD.
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AD1 → AD2: increase in AD.
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AD1 → AD3: decrease in AD.

Determinants of AD components

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Consumption expenditures (C): spending by households on durables and nondurables and services
3.2 Variations in economic activity: aggregate demand and aggregate supply

Economic growth

Economic growth: increase of real GDP over time.
 Growth 22019→2020=rGDP20−rGDP19rCDP19×100\text { Growth } 2_{2019 \rightarrow 2020}=\frac{r G D P_{20}-r G D P_{19}}{r C D P_{19}} \times 100
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Growth rate = % change of real GDP between two periods.
Assume that real GDP in 2019 = $19,220 billion & real GDP in 2018 = $18,783 billion.
 Growth in 2019=19220−1878318783×100=2.33%\text { Growth in } 2019=\frac{19220-18783}{18783} \times 100=2.33 \%

Growth over the short term

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AD increase → real GDP increase.
A. Improved consumer & business confidence → C & I ↑ → C & I are components of AD → AD ↑ → real GDP ↑ → economic growth ↑ in short term.
B. Interest rates ↓→ ↓cost of borrowing for households and firms → C & I ↑ → C & I are components of AD → AD ↑→ real GDP ↑ → economic growth ↑ in short term.
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Interest rates ↓→ exchange rate depreciation → exports cheaper & more competitive // imports more expensive & less attractive → X-M ↑ → X-M is component of AD → AD ↑ → real GDP ↑ → economic growth ↑ in short term.
C. G ↑ → G is component of AD → AD ↑.
D. Tax ↓ → disposable income ↑ → C ↑.
E. Exchange rate depreciation → X-M ↑.
3.3 Macroeconomic objectives

Measuring economic inequality

Economic inequality:
unequal distribution of income and wealth.
Figure 3.4.1 Lorenz curve
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The poorest 20% of people receives only 7% of national income.
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Diagonal line: line of perfect income equality (i.e. poorest 20% earns 20% of income and the poorest 40% earns 40% of income).
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As we move further to the right of the diagonal, the distribution of income becomes more and more unequal.
Gini coefficient: ratio of the area between the Lorenz curve and the diagonal over the area of the half-square.
Gini coefficient = Area (A)Area (A+B)
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Varies from 0 to 1.
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0 = society where everyone has the same income = no inequality.
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1 = society where only 1 person has all the income = maximum inequality.

Defining poverty

Absolute poverty: situation where a household’s income is less than $1.25 a day.
3.4 Economics of inequality and poverty

Functions of money

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Medium of exchange
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Unit of account
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Store of value
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Standard of deferred payment

Banking system of a country

Demand for money

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Nominal income of a country increases → demand for money increases.
Figure 3.5.1 Demand curves for money
3.5 Demand management (demand-side policies): monetary policy
Fiscal policy: changes in the level of government expenditures (G) and taxes (T) to affect AD.

Government expenditures

Government revenues

Where government gets its revenue from:
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Direct tax.
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Indirect tax.
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Sale of state owned enterprises (by privatisation).

Goals of fiscal policy

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Lift an economy from recession: close a large recessionary or inflationary gap.
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Decrease cyclical unemployment.
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Decrease inflation.
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Long-term economic growth.
3.6 Demand management (demand-side policies): fiscal policy Fiscal policy
Supply-side policies: attempt to shift LRAS to the right and achieve long-run economic growth.

Goals of supply-side policies

Market-based policies

Product market related policies
Labour market related policies
Incentive-related policies
Interventionist supply-side policies

Industrial policies

3.7 Supply-side policies

Economic growth

Fiscal policy
Monetary policy
Supply-side policy

Low and stable rate of inflation

Fiscal policy
Monetary policy
Supply-side policy
3.8 Macroeconomic policies - strengths, limitations and conflicts