Unit III (Aggregate Supply )

-The level of real  GDP (GDPr)that firms will produce at each price level (PL)

• Long Run vs. Short Run 

-Long Run: Period of time where input prices are completely flexible and adjust to changes in the price level

-Short Run: Period of time where input prices are sticky and don't adjust to change in th price - level

-Long run Aggregate Supply (LRAS):

- the LRAS marks level of fall employment in  the economy (analogous to PPC)

-B/C input prices are completely flexible in the long-run, change in price-level don't change firm's real profits and thus do not change firms level of output

   -Means LRAS is vertical vertical at economies level of full employment 

• Change in SRAS:

-An increase in SRAS it will shift right

-An decrease in SRAS it will shift left

-Key to understanding shifts in SRAS is per unit cost of production

-Per unit production cost = total input cost/ total output

• Determinants of SRAS: ( all of the following affect unit production) 

-input prices

-productivity

-legal-instituational environment  

• Input prices :

-Domestic resource prices:

-wages ( 75% of all business costs)

-cost of capital

-raw materials (Commodity Prices)

• Foreign Resource Prices:
• Market Power

-increase in resource prices = SRAS shift left

-decreases in resources prices = SRAS shift right  

• Productivity:

-total output /total input 

-more productivity = lower unit production cost = SRAS shift right  

-lower productivity = higher unit production cost = SRAS shift left

• Legal- Institutional: 

-Taxes and subsidies:

-taxes ($ to gov) on business increases per unit production cost = SRAS shifts right

-Subsidies ($ from gov) to business reduce per unit production cost = SRAS shifts right 

• Government regulation: 

-Government regulates creates a cost of compliance = SRAS shifts left

-Regulation reduces compliance costs = SRAS right 

•  Full employment:

-equilibrium exists where AD intersects SRAS & LRAS at the same point 

  

 

Unit III (Aggregate Demand Curve)

-AD is the demand by consumers, businesses, government, & foreign countries  
-What definitely doesn't shift the curve ?

-change is in price level cause a move along the curve 

-AD = C + Ig +G +Xn

Why is AD downwards sloping?

• Real-Balance Effect: Higher price levels reduce the purchasing power of money 

-This decreases quantity of expenditure 

-Lower price levels increases purchasing power and increase expenditures 

-Ex: If the balance in your bank was $50,000, but inflation erodes your purchasing power you will likely reduce your spending  

•  Interest Rate Effect : When the price level increases, lenders need to change higher interest rates to get REAL return on their loans 

-Higher interest rates discourage consumer spending and businesses investment. WHY?

• Foreign Trade Effect:When U.S price level rises, foreign buyer's purchase fewer U.S fewer U.S good & Americans buy more foreign goods

-Exports fall and imports rise causing real GDP demanded to fall (Xn decreases) 

• Shifters of Aggregate Demand:

-GDP = C + Ig + G + Xn

-There are 2 parts to a shift in AD 

• change in c, Ig, G, and or Xn  
• Multiplier effect that produces a greater change than the original change in components  

-Increase in AD shifts AD right 

-Decrease in AD shifts AD left  

Determinants of AD :

• Consumption:

-Household spending is affected by:

Consumer wealth: more wealth= more spending ( AD shifts right), less wealth= less spending ( AD shifts left)  

-Consumer Expectations: 

-Positive Expectations= more spending (AD shifts left) 

-Negative Expectations= more spending (AD shifts left) 

-Household indebtedness:

-Less Debt = more spending ( AD shifts right )

-More Debt= less spending ( AD shits left) 

•  Taxes:

-Less taxes = more spending (AD shifts right)

-More taxes = less spending (AD shifts left )

• Gross Private Investment:

-Investment spending is sensitive to:

-Lower real interest rate = more investment ( AD shifts right)

-Higher real interest rate = less investment (AD shifts left) 

 Expected returns:

-Higher expected returns = more investment ( AD shifts right )

-Lower Expect returns = less investments ( AD shifts left )

-Expected returns are influenced by:

-expectations of future profitability

-technology  

-degree of excess capacity (existing stock of capital)

-business taxes  

• Government Spending:

-more government spending ( AD shifts right)

-Less government spending ( AD shifts left) 

• Next exports are sensitive to:

-exchange rates ( international value of $)

-strong $ = more imports and fewer exports ( AD shifts left) 

-weak $ = fewer imports and more exports ( AD  shifts right)

-Relative Income:

-Strong foreign economies = more exports  (AD shifts right) 

-Weak Foreign Economies =  less exports ( AD shifts left)

Unit II (Unemployment)

• the failure to use available resources, particularly labor, to produce desired goods and services.

• Unemployment Rate: 

-4% - 5% is full employment- Natural Rate of Unemployment (NRU)

• Labor Force:

- above 16 yeas old- able and willing to work

• NOT in the Labor Force:

- military- jail/prison folks- mental institution folks- retirees- under 16- students- homemakers- people who are not looking for a job

• How to Calculate the Unemployment Rate:

- # of unemployed/(# of employed + # of unemployed) x 100

• Types of Unemployment:

Frictional- temporarily unemployed- in-between jobs1. possibly a high school/college grad looking for jobs2. left old job for a better position- looking for better opportunities

Seasonal- due to time of year and nature of the job1. bus drivers2. santa claus impersonators3. lifeguard

Structural- workers do not have transferable skills and these jobs will never come back- need to learn a new skill

Cyclical- results from economics down turns- as demand for goods and services falls, demand for labor and workers falls tooex) recession

GDP Gap: it is the amount by which actual GDP falls short of potential GDP

Okun's Law:  For every 1% in which the actual employment rate exceeds natural rate of unemployment a GDP gap of 2% occurs 

-Ex: in 2012, unemployment rate for Mexico was 7.4%, natural rate of unemployment rate for Mexico was 6% 

7.4-6= 1.4 x 2

Rule of 70:  use to determine how many years it will take for a value to double given a particular annual growth rate 

-Ex: If you put 20,000 dollars in the bank and it earns a yearly interest of 7%, how many years will it take for your income to double?

70/7 = 10 years(answer) 

Unit II (Inflation)

• Hurt by Inflation:

- lenders (banks)- people w/ a fixed income (elderly, welfare)- savers (save money at a certain rate)

• Helped by Inflation:

- debtors (locked in at a specific rate)- a business where the price of the product increases faster than the price of resources

• C O L A - Cost of Living Adjustment:

-elderly receive this, helps them. 

• Real Interest Rate(adjusted for inflation) vs. Nominal Interest Rate (NOT adjusted for inflation):

-Nominal interest: 

   -nominal interest rate = inflation + real interest rate

  -%increase in $you pay the lender for the use of $ you borrow 

              -not adjust for inflation
     
            -percent increase in purchasing power (lender receives when borrower repays land with  
            interest

           

Unit II (GDP Calculations)

• Nominal GDP

- the value of output produce in current prices- it can increase from year to year if price and quantity increase- measure price increase (inflation)- FORMULA: price x quantity

• Real GDP:

- the value of output produces in current prices (already adjusted for inflation)- it can increase ONLY if quantity increases- measures economic growth- FORMULA: price x quantity

• GDP Deflator:

- price index used to adjust from nominal to real GDP- FORMULA: nominal GDP/real GDP x 100

• Consumer Price Index (CPI)

- the most commonly used measurement of inflation for consumers- FORMULA: current year/base year x 100 (new-old/old x100)

• How to calculate inflation:

-GDP Deflator/price index of year 2 - GDP Deflator/price index of year 1 / GDP Deflator/ price index of year 1 x 100 (new-old/old x100)

• In the base year, GDP deflator = 100
• For years after the base year, GDP deflator is greater than 100.
• For years before the base year, GDP deflator is less than 100. 

Unit II (GDP)

• GDP (Gross Domestic Product): total market value that all goods and services that is produced with in a country's borders with in a given year

• What's included:

- production made in USA of a foreign product 

C - personal consumption expenditures (65%)

• Buying a contour kit at Sephora 

Ig - gross private domestic investment (17%)

• new factory equipment

•  new factory equipment maintenance 

•  construction of housing  

• unsold inventory of product built in a year 

G - government spending = a fortune (20%)

Xn - net exports (-2%)

•  exports - imports = net

What's not Included:

- GNP: the total value of all final goods and services by citizens of that country on its land or foreign land 

-Ex: Forever 21 clothes produced in China  

• -formula: GNP = GDP + net foreign factor payment

- Intermediate goods - goods that require further processing before they are ready for final use

• ex: sugar cane, car parts, and etc 

- Used/Secondhand goods (avoid double counting)

• ex: a used car from Car Max 

         -Financial Transactions (stocks and bonds)
   
         -Illegal Activities - drugs, black market

         -Unreported Business Activity (unreported tips)

        -Transfer Payments 

• public; social security, welfare, VA.

• private; scholarship

       -Non market Activity - work that is self-performed

• ex: volunteering and babysitting

Two ways to calculate GDP:

Income approach: add up all of the income that resulted from selling all final goods and services produced in a year 

• GDP = (wages) +  (rents) + (interest) +  (profit) + Statistical adjustments (indirect business taxes, depreciation, net foreign factor payment)

Expenditure approach: add up all the spending on final goods and services produced in a year

• GDP = C + Ig + G + Xn

• Compensation of employees - includes wages, salaries, fringe benefits, social security, contributions, held and planned

• Rents - income of prop. owners

• Interest - income that comes from $

• Corporate Profits - income of the company stock holders

• Proprietors Income - income of sole proprietorship and partnerships

• Net domestic product (NDP)

-GDP - depreciation (consumption of fixed capital) 

• Net national product (NNP)

-GNP - depreciation 

Unit 2 (Circular Flow)

• represents the transactions in an economy 

-Product Market: place where goods and services are produced by businesses 

-Factor Market:  place where households sells resources and businesses buy resources  

-Firms: organization that produces goods and services for sale 

-Households:  a person or a group of people that share their income 

•    sells factor os production to businesses  

-This diagram is similar to the handout we received in class except it excludes some detail such as: P xQ = Total Revenue, Goods and Services going from firms to the Product market is supply, and etc.  

-A Supplemental video that I recommend because it is broken down pretty well.