Economics: Unit 3

What is full employment?

Full employment is the level of employment reached when there is no cyclical unemployment.

What is a business cycle?

A business cycle is a macroeconomic period of expansion followed by a period of contraction. -A modern industrial economy experiences cycles of goods times, then bad times, then good times again. -Business cycles are of major interest to macroeconomists, who study their causes and effects. -There are four main phases of the business cycle: expansion, peak, contraction, and trough.

How are unemployment rates determined?

A nation's unemployment rate is an important indicator of the health of the economy. The Bureau of Labor Statistics polls a sample of the population to determine how many people are employed and unemployed. The unemployment rate is the percentage of the nation's labor force that is unemployed. The unemployment rate is only a national average. It does not reflect regional economic trends.

What factors influence GDP?

-Aggregate Supply: Aggregate supply is the total amount of goods and services in the economy available at all possible price levels.As price levels rise, aggregate supply rises and real GDP increases. -Aggregate Demand: Aggregate demand is the amount of goods and services that will be purchased at all possible price levels.Lower price levels will increase aggregate demand as consumers' purchasing power increases. -Aggregate Supply/Aggregate Demand Equilibrium: By combining aggregate supply curves and aggregate demand curves, equilibrium for the macroeconomy can be determined.

How does technological progress affect economic growth?

-Besides capital deepening, the other key source of economic growth is technological progress. -Technological progress is an increase in efficiency gained by producing more output without using more inputs. A variety of factors contribute to technological progress: -Innovation When new products and ideas are successfully brought to market, output goes up, boosting GDP and business profits. -Scale of the Market Larger markets provide more incentives for innovation since the potential profits are greater. -Education and Experience Increased human capital makes workers more productive. Educated workers may also have the necessary skills needed to use new technology.

What keeps the business cycle going?

-Business Investment: When an economy is expanding, firms expect sales and profits to keep rising, and therefore they invest in new plants and equipment. This investment creates new jobs and furthers expansion. In a recession, the opposite occurs. -Interest Rates and Credit: When interest rates are low, companies make new investments, often adding jobs to the economy. When interest rates climb, investment dries up, as does job growth. -Consumer Expectations: Forecasts of a expanding economy often fuel more spending, while fears of recession tighten consumers' spending. -External Shocks: External shocks, such as disruptions of the oil supply, wars, or natural disasters, greatly influence the output of an economy

What is gross domestic product (GDP)?

-Economists monitor the macroeconomy using national income accounting, a system that collects statistics on production, income, investment, and savings. -Gross domestic product (GDP) is the dollar value of all final goods and services produced within a country's borders in a given year. -GDP does not include the value of intermediate goods. Intermediate goods are goods used in the production of final goods and services.

How do economists forecast business cycles?

-Economists try to forecast, or predict, changes in the business cycle. -Leading indicators are key economic variables economists use to predict a new phase of a business cycle. -Examples of leading indicators are stock market performance, interest rates, and new home sales.

What are the different types of unemployment?

-Frictional Unemployment: Occurs when people change jobs, get laid off from their current jobs, take some time to find the right job after they finish their schooling, or take time off from working for a variety of other reasons -Structural Unemployment: Occurs when workers' skills do not match the jobs that are available. Technological advances are one cause of structural unemployment -Seasonal Unemployment: Occurs when industries slow or shut down for a season or make seasonal shifts in their production schedules -Cyclical Unemployment: Unemployment that rises during economic downturns and falls when the economy improves

What are other measures of income and output?

-Gross National Product (GNP): GNP is a measure of the market value of all goods and services produced by Americans in one year. -Net National Product (NNP): NNP is a measure of the output made by Americans in one year minus adjustments for depreciation. Depreciation is the loss of value of capital equipment that results from normal wear and tear. -National Income (NI): NI is equal to NNP minus sales and excise taxes. -Personal Income (PI): PI is the total pre-tax income paid to U.S. households. -Disposable Personal Income (DPI): DPI is equal to personal income minus individual income taxes.

What are the effects of rising prices?

-Inflation is a general increase in prices. -Purchasing power, the ability to purchase goods and services, is decreased by rising prices. -Price level is the relative cost of goods and services in the entire economy at a given point in time.

What is the difference between nominal and real GDP?

-Nominal GDP is GDP measured in current prices. It does not account for price level increases from year to year. -Real GDP is GDP expressed in constant, or unchanging, dollars.

What other factors can affect economic growth?

-Population Growth: If population grows while the supply of capital remains constant, the amount of capital per worker will actually shrink. -Government: Government can affect the process of economic growth by raising or lowering taxes. Government use of tax revenues also affects growth: funds spent on public goods increase investment, while funds spent on consumption decrease net investment. -Foreign Trade: Trade deficits, the result of importing more goods than exporting goods, can sometimes increase investment and capital deepening if the imports consist of investment goods rather than consumer goods.

How is GDP calculated?

-The Expenditure Approach: The expenditure approach totals annual expenditures on four categories of final goods or services. 1. Consumer goods and services 2. Business goods and services 3. Government goods and services 4. Net exports or imports of goods or services. -The Income Approach: The income approach calculates GDP by adding up all the incomes in the economy. Consumer goods include durable goods, goods that last for a relatively long time like refrigerators, and nondurable goods, or goods that last a short period of time, like food and light bulbs.

How have business cycles fluctuated in the United States?

-The Great Depression: The Great Depression was the most severe downturn in the nation's history. Between 1929 and 1933, GDP fell by almost one third, and unemployment rose to about 25 percent. -Later Recessions: In the 1970s, an OPEC embargo caused oil prices to quadruple. This led to a recession that lasted through the 1970s into the early 1980s. -U.S. Business Cycles in the 1990s: Following a brief recession in 1991, the U.S. economy grew steadily during the 1990s, with real GDP rising each year.

What are the causes and effects of inflation?

-The Quantity Theory: The quantity theory of inflation states that too much money in the economy leads to inflation. -The Cost-Push Theory According to the cost-push theory, inflation occurs when producers raise prices in order to meet increased costs. Cost-push inflation can lead to a wage-price spiral — the process by which rising wages cause higher prices, and higher prices cause higher wages. -The Demand-Pull Theory The demand-pull theory states that inflation occurs when demand for goods and services exceeds existing supplies.

How are saving and investing related to economic growth?

-The proportion of disposable income spent to income saved is called the savings rate. -When consumers save or invest, money in banks, their money becomes available for firms to borrow or use. This allows firms to deepen capital. -In the long run, more savings will lead to higher output and income for the population, raising GDP and living standards.

How do economists use price indexes?

A price index is a measurement that shows how the average price of a standard group of goods changes over time. -The consumer price index (CPI) is computed each month by the Bureau of Labor Statistics. -The CPI is determined by measuring the price of a standard group of goods meant to represent the typical "market basket" of an urban consumer. -Changes in the CPI from month to month help economists measure the economy's inflation rate. The inflation rate is the percentage change in price level over time.

What are the limitations of GDP measurements?

GDP does not take into account certain economic activities, such as: -Nonmarket Activities: GDP does not measure goods and services that people make or do themselves, such as caring for children, mowing lawns, or cooking dinner. -Negative Externalities: Unintended economic side effects, such as pollution, have a monetary value that is often not reflected in GDP. -The Underground Economy: There is much economic activity which, although income is generated, never reported to the government. Examples include black market transactions and "under the table" wages. -Quality of Life: Although GDP is often used as a quality of life measurement, there are factors not covered by it. These include leisure time, pleasant surroundings, and personal safety.

How do economists measure economic growth?

The basic measure of a nation's economic growth rate is the percentage change of real GDP over a given period of time. -GDP and Population Growth: In order to account for population increases in an economy, economists use a measurement of real GDP per capita. It is a measure of real GDP divided by the total population. Real GDP per capita is considered the best measure of a nation's standard of living. -GDP and Quality of Life: Like measurements of GDP itself, the measurement of real GDP per capita excludes many factors that affect the quality of life.

How is the inflation rate calculated?

The consumer price index (CPI) is computed each month by the Bureau of Labor Statistics. The CPI is determined by measuring the price of a standard group of goods meant to represent the typical "market basket" of an urban consumer. Changes in the CPI from month to month help economists measure the economy's inflation rate. The inflation rate is the percentage change in price level over time. CPI: - to calculate the index number new-old x 100 - to calculate the percentage change from the base number to another year subtract - to calculate the percentage change from two non-base numbers new-old/old x 100

What is capital deepening?

The process of increasing the amount of capital per worker is called capital deepening. Capital deepening is one of the most important sources of growth in modern economies.