MACRO Domain Focus SSEMA1 The student will illustrate the means by which economic activity is measured. Domain Focus SSEMA2 The student will explain the role and functions of the Federal Reserve System. Domain Focus SSEMA3 The student will explain how the government uses fiscal policy to promote price stability, full employment, and economic growth. Where to Begin? Liberal Moderate Conservative Georgia Council on Economic Education www.gcee.org Where to Begin? Unemployment The Federal Reserve GDP Government Spending Inflation Taxation Recession Federal Debt Depression Federal Deficit Georgia Council on Economic Education www.gcee.org SSEMA1 The student will illustrate the means by which economic activity is measured. a. Explain that overall levels of income, employment, and prices are determined by the spending and production decisions of households, businesses, government, and net exports. b. Define Gross Domestic Product (GDP), economic growth, unemployment, Consumer Price Index (CPI), inflation, stagflation, and aggregate supply and aggregate demand. c. Explain how economic growth, inflation, and unemployment are calculated. d. Identify structural, cyclical, and frictional unemployment. e. Define the stages of the business cycle, as well as recession and depression. f. Describe the difference between the national debt and government deficits. How is economic activity measured? • Gross Domestic Product (the main measure) – Sometimes other measures are useful – GDP is used to derive many of them. • Gross National Product • Net National Product • National Income • Personal Income • Disposable Personal Income Gross Domestic Product • Gross= total • Domestic= produced anywhere in the 50 states, by anyone • Product= final goods and services What does GDP measure? Total amount of final goods and services produced in a country in one year. (Measure of Output) What is counted in GDP? • FINAL goods and services • Goods/Services produced here, even if by a foreign co. What is NOT counted? • Things produced outside the country. • Illegal stuff • Purely financial transactions – Pay a broker – broker part counts – Stock itself doesn’t count …and INTERMEDIATE GOODS Gross Domestic Product • Dollar value of all final goods and services produced within a country’s borders in a year. – Dollar value = the total of the selling prices – Final goods and services = products in the form sold to consumers, not in any intermediate form – Within the country’s borders = made in the USA even if made by a foreign-owned company – In a year = in one calendar year • Does not include things made by American companies outside our borders. Are there any cool formulas you can give us relating to this interesting concept? GDP=C+I+G+(X-M) • C= consumption spending (think consumers) 72% • I= investment spending (think businesses investing in themselves) 15% • G= government spending 17% • (X-M)= difference between exports and imports -4% Expenditure Approach GDP=C+I+G+(X-M) How is GDP calculated? • 1) Expenditure approach – Estimate what is spent in a year on 4 categories of final goods and services (consumer, business, government and net imports or exports) then add all 4 together to get total expenditures for one year. – Total is GDP – Practical, but not as accurate as the income approach. How is GDP measured? • 2) Income approach – Add up all the incomes in the economy. • Ex: a firm sells a product, the selling price in income for the firm, the owners, the employees… • ECONOMISTS USE BOTH APPROACHES AND COMPARE THEM. • THEY ADJUST FOR MISTAKES. • COMPARISON GIVES BETTER RESULTS. Problems associated with GDP • Slow to calculate • Does not count everything (it’s an estimate) • Inflation can distort the figure Real vs. Nominal Real and Nominal GDP • Nominal GDP is measured in current year’s prices. • Real GDP is measured in constant or unchanging prices (more accurate). – Inflation distorts • 10 oranges @ $1 = $10 • 10 oranges @ 3 = $30 • Is our economy better? – NO – inflated!! Per Capita GDP • GDP divided by country’s population • How much is being produced per person (potentially)? • Quality of life? – How many doctors in Yemen? Afghanistan? – More in Bibb County than some countries. – What does that mean? Per Capita GDP GDP divided by a country’s population Circular Flow Model Factors Influencing GDP • Supply and demand affect GDP – Economists calculate price levels , the average of all prices, to determine aggregate supply (the total amount of goods and services in the economy available at all possible price levels). – Aggregate demand (the amount of goods and services in the economy that will be purchased at all possible price levels) – Intersection of aggregate supply and demand indicate equilibrium price level of the economy. GDP practice (all about GDP) Aggregate Demand and Aggregate Supply • What is different about these graphs? • What do they look like? • What causes them to shift? Aggregate Demand Aggregate Supply Demonstration Lesson Aggregate Demand and Aggregate Supply Lesson AD/AS Business Cycle GDP What is a business cycle? • A period of economic expansion followed by a period of contraction. • Major changes in GDP above or below normal levels. • Four phases: – Expansion – Peak – Contraction – trough Phases of the Business Cycle • Peak = height of expansion, GDP stops rising. • Contraction = economic decline, falling real GDP, unemployment, fall in business activity. • Trough – lowest point in contraction, real GDP stops falling. • Expansion – growth, rise in real GDP, increased employment and income. Leading Economic Indicators (point to what will happen in the economy) • Help economists predict new phase. – Stock market – downward slope before recession. – Interest rates – low rates signal investment and expansion. High rates signal a slow down in buying, contraction. – Manufacturers’ new orders of capital goods – show expansion or contraction. – New home sales Other Leading Indicators • Average weekly hours for workers in manufacturing jobs • Weekly claims for unemployment insurance • New orders for consumer goods • Speed with which companies make deliveries (the busier the company, the longer it takes to fill orders) • Number of contracts and orders for plants and equipment. • Number of building permits • Changes in money supply in circulation • Changes in consumer expectations Indicators • Coincident indicators – change at same time as business cycle (rate of production, sales, number of nonagricultural workers employed, etc.) • Lagging indicators – lag behind changes – give clues as to what the cycle is doing (avg. length of unemployment, size of inventories, labor cost/unit, changes in price index, etc.) • US DEPT. OF COMMERCE compiles statistics for 78 economic indicators covering all aspects of the economy. Other terms associated with business cycles • Economic growth – period of steady, long term increase in real GDP. • Recession – prolonged economic contraction. Real GDP falls for two consecutive quarters (6 months) • Depression – recession that is especially long and severe. • Stagflation – decline in GDP combined with a rise in price level. Business Cycles are affected by four main factors • Business investment – when the economy is expanding, firms are investing in new plants and equipment, or in old ones to improve production. GDP is increasing. • Interest rates – when they are low, businesses expand and invest – GDP increases. When they are high, businesses slow down and GDP falls. • Consumer expectations – when the economy looks good, we spend more. When it looks bad, we spend less. • External shocks that are unexpected – disruption in oil supply, wars, natural disasters, etc. These things influence our output. Can be a good shock like a new discovery of oil – boost the economy. Activity • Students should draw the business cycle and label each part, including a brief description of each phase in own words. Types of Unemployment 1. Structural 2. Cyclical 3. Frictional UNEMPLOYMENT • Types of unemployment – Frictional – when people change jobs or get laid off (between jobs, left one to take another) – Structural – when the skills of workers do not match the jobs that are available (big change in economy, change in the business, like a merger, or a closure.) – Seasonal – when a period of steady work is followed by a period of unemployment each year. Takes place every year, regardless of the economy. – Cyclical – when unemployment rises during economic downturns and falls when the economy improves (recession – people put off buying cars, etc. so people lose jobs). Can last 3-5 years. Structural Unemployment Cyclical Unemployment Frictional Unemployment What is “unemployed”? • People available for work who made a specific effort to find work in the past month and who during the most recent survey week, worked less than one hour for pay or profit. • Also people who worked in a family business without pay for less than 15 hours a week. How is unemployment measured? • It’s an important indicator of the health of the economy. • Bureau of Labor statistics polls sample of population to determine how many are employed and unemployed. • Unemployment rate is the percentage of nation’s labor force that is unemployed. • It is only a national average – it’s doesn’t reflect regional trends. Full Employment • The level of employment reached when there is no cyclical unemployment (no one out of work because of downturn in the economy – everyone who wants a job has one) • 4-6% unemployment is “normal”. Limitations • Figures don’t count those who have become frustrated and stopped looking for work (have to have looked for work in the past 4 weeks) • If you have a part time job you are considered employed even if you would rather have a full time job – took this one because it’s all you could find. Which type of unemployment? • You just graduated from college and are taking some time looking for work after finishing school. • Which type of unemployment? • FRICTIONAL – Change jobs or get laid off (not because of the economy) Which type of unemployment? • You work for a landscaping company and get laid off during the winter. • What type of unemployment? • SEASONAL – Steady work followed by period of unemployment each year What type of unemployment? • My aunt left her job to care for her sick mother and is now looking for work. • What type of unemployment? • FRICTIONAL – Change jobs or get laid off (not because of the economy) What type of unemployment? • A new, robotic teacher is developed and humans are no longer needed to teach classes. I lose my job. • What type of unemployment? • STRUCTURAL – New technology developed that makes me obsolete. My skills don’t match the job that is now available. What type of unemployment? • I am a ski instructor. The spring thaw comes, the snow melts, the ski lifts shut down. I am out of work until the next winter snows fall. • What type of unemployment? • SEASONAL – Steady work followed by period of unemployment. Activity – choose one. • Draw a picture to represent each type of unemployment. • OR • Write two journal entries or letters to the editor describing two imaginary experiences as an unemployed person. Describe the reasons for your unemployment (using details of one of the types of unemployment. You should use two types of unemployment.) • OR • Skit acting out two of the types of unemployment. • OR • Conduct an imaginary interview with people who have lost their jobs – each should be unemployed for one of the four different reasons. Use two reasons in your interviews. Write out questions and answers. You could also choose to act this out. Am I Unemployed? Unemployment 1. Structural 2. Cyclical 3. Frictional INFLATION • What is inflation? – Rise in general price level – generally reported in terms of annual rate of change. • How is it measured? – Look at price levels (relative magnitude of prices at one point in time, usually used for comparison) – To measure price level, a price index is constructed (such as Consumer Price Index, Producer Price Index, or implicit GDP price deflator). What is a price index ? • Price index is a measurement that shows how the average price of a standard group of goods changes over time. • Consumer Price Index – price index determined by measuring the price of a standard group of goods meant to represent the “market basket” of a typical consumer. – Computed each month by the Bureau of Labor Statistics. CONSUMER PRICE INDEX • Consumer Price Index – price index determined by measuring the price of a standard group of goods meant to represent the “market basket” of a typical consumer. – Computed each month by the Bureau of Labor Statistics. • Reports changes for about 90,000 items in 364 categories. • Sampled from 85 geographically distributed areas around the country. • Some items sampled in all areas, some in only a few. • There are separate indices for 28 selected areas around the country. • Price index = cost today X 100 cost in base year Price index is current value of a “basket” of goods and service divided by cost of same basket in base year and then multiplied by 100. - Mixed basket of goods used because prices can go up or down for reasons that have nothing to do with inflation. - Having a large group of representative items helps eliminate the effect of some product’s price dropping while others tend to be on the rise. - Base year can be any year. - Price index for the base year will always be 100. - Index values over 100 indicate inflation. - Index values under 100 indicate deflation. How is the inflation rate computed? • Take the CPI for Year A • Subtract the CPI for Year B • Multiply by 100 PRODUCER PRICE INDEX • Measures price changes received by domestic producers for output. • Uses sample of about 3,000 commodities. • Base year of 1982. • Compiled for all commodities – but also broken down into subcategories – farm products, fuels, chemicals, rubber, pulp and paper, processed foods. IMPLICIT GDP DEFLATOR • Measures price change in GDP. • Has a base year of 1987 and can be used to remove the effects of inflation from GDP. • Compiled quarterly, so not as useful for measuring month to month changes in inflation. Why is a price index used? • Some measure change in price of a single item. • Some measure price changes of imported goods. • Others measure price changes for agricultural goods. Degrees of Inflation • Creeping inflation – Range of 1-3% • Galloping inflation – Can go as high as 100-300% • Hyperinflation – Out of control – In range of 500% – Doesn’t happen often – last stage before monetary collapse. (WW II – Hungary and Germany) Causes of Inflation • Quantity theory – too much money in the economy causes inflation. • Demand-pull theory – demand for goods and services exceeds supply – scarcity drives up prices. • Cost-push theory – producers raise prices to meet increased costs. Other causes: • Government deficit – inflation blamed on deficit – destabilizes output and employment more than price levels, especially true if interest rates rise and borrowers are crowded out. • Wage-price spiral – self-perpetuating spiral – higher prices force workers to ask for higher wages. Producers try to recover this by raising prices, which forces workers to ask for higher wages…. Consequences of inflation • Dollar buys less – purchasing power falls as prices rise. • Spending habits change – disrupts the economy. • Speculation increases – some people try to take advantage of higher price levels – people who usually play it safe start buying things that usually increase in price (condos, diamonds, art). Diverts spending from other channels and may cause structural unemployment. • Distribution of income is altered. Lenders are usually hurt more than borrowers as loans mad earlier are repaid with dollars that have less purchasing power. Lenders can’t do as much with the repaid money. Inflation, in the long run, favors debtors more than creditors. Teaching Tools for MACROECONOMICS from John Stossel Clip 2- Nominal Values vs. Real Values SSEMA1b Inflation Calculator www.bls.gov Commanding Heights Georgia Council on Economic Education www.gcee.org Commanding Heights • On-line video • Bolivia at the Brink – Watch for inflation statistics – What did you hear that surprised you? Inflation • Imagine that the price of lunch increased 1% every 10 minutes. • By 4th lunch you don’t have enough money to buy a lunch! (maybe sooner!!!) Questions for You • What is the national debt? • What caused the national debt? • Where does the government get the money when it wants to spend more than it takes in? • What is a budget deficit? • What is a budget surplus? Debt v. Deficit Demonstration Lesson Should we worry about the national debt? 1. Will the national debt cause the US to go bankrupt? 2. Are the interest payments on the debt important? 3. What about paying off the debt by increasing taxes? 4. Does running deficits today, and adding to the national debt, put a burden on future generations? Georgia Council on Economic Education www.gcee.org www.usdebtclock.org Clip 12- Is Govt. Too Big? SSEMA3b Fiscal Policy Actions taken by the Federal Government to influence the economy (business cycles). How do they do it? Taxation (revenue) Spending (expenditures) -transfer payments- How/When/Why If the economy needs a “boost” the Federal Government might: _______________ taxes. _______________ spending. How/When/Why If the economy needs to be “cooled off” the Federal Government might: _______________ taxes. _______________ spending. Demonstration Lesson How Can Changes in the Federal Government’s Budget Stabilize the economy? Monetary Policy The actions the Federal Reserve (Central Bank) takes to influence the level of GDP and the rate of inflation in the economy. Monetary Policy DVD How Do They Do It? Tools of the Fed: 1. Open Market Operations 2. Discount Rate (Fed to banks) 3. Federal Funds Rate (bank to bank) 4. Reserve Requirements How/When/Why If the economy needs a “boost” the Federal Reserve might: _______________ bonds. _______________ interest rates. _______________ reserve requirements. How/When/Why If the economy needs to be “cooled off” the Federal Reserve might: _______________ bonds. _______________ interest rates. _______________ reserve requirements.