BSNS113

Principles of Economics 1

Macroeconomics Introduction
 What is Macroeconomics?

Macroeconomics is the study of

the economy as a whole.

Its goal is to explain the economic

changes that affect many
households, firms, and markets at
once.

As the economy as a whole is a collection of many households, microeconomics

and macroeconomics are closely linked.
Questions:

Why do prices rise rapidly in some time periods while they are more
stable in others?

Why do production and employment expand in some years and

contract in others?

Macroeconomists are generally interested in fiscal and monetary policies

that influence economic growth and national wellbeing.
The Circular
Flow Diagram
Defining GDP
GDP is the market value of all final goods and services produced wi
country in a given time period.
GDP adds together many different types of products using
market prices to create a common unit of account for each good.
Defining GDP
GDP is the market value of all final goods and services produced within a
country in a given time period.

 ...of all final goods and services...‘

 GDP includes all items produced in the economy & sold legally in markets

 GDP includes only the value of final goods `...produced...‘

 GDP only includes goods currently produced.

Example

A firm sells steel to Fisher & Paykel to make a dishwasher:

• the steel is an intermediate good
• the dishwasher is called final good
GDP only includes final goods, as including the value of all goods
would results in (incorrectly) double counting steel.

Fisher & Paykel sells a new dishwasher, the dishwasher is included

in GDP.
Selling a used dishwasher to another person, the value of the
dishwasher is not included in GDP.
Defining GDP

GDP is the market value of all final goods and services produced
within a country in a given time period.

 `...within a country...'
 Items are included in a nation's GDP if they are produced
domestically, regardless of the nationality of the producer.

 `...in a given time period.'

 GDP measures the value of production that takes place within a
specific interval of time - usually a year or a quarter (three months).
 The Components of GDP

GDP (Y ) can be divided into for main components (expenditure approach):

 consumption (C)
 investment (I )
 government purchases (G)
 net exports (NX)

Y = C + I + G + NX

Consumption (C) :
Spending by households on goods (e.g., cars, appliances and food) and
services (e.g., haircuts and medical care), except the purchase of new housing.
Investment (I):
The purchase of goods (e.g., capital equipment, structures,
inventories and household purchases of new houses) that will be used in
the future to produce other goods and services.

Government purchases (G):

Spending on goods and services by local and central governments

 Includes the salaries of government employees and government

works
 Does not include transfer payments, as these payments do not reflect
an economy's production.
Net exports (NX):
foreign purchase of domestically produced goods (exports) minus
domestic purchases of foreign goods (imports)

 Exports not included in C, I or G, so they must be added to the equation

determining the value of goods produced domestically
 Imports are included in C, I and G, so they must be subtracted from the
equation determining the value of goods produced domestically
Fiscal policy
Government revenue collection (mainly taxes) and expenditure (spending) to
influence the economy.
Keynesian economics - government changes in taxation and government spending
can influences aggregate demand and level of economic activity.
Fiscal policy can be used to stabilize the economy over the the business cycle.

Monetary Policy
mMonetary authorities controls the supply of money, often targeting an inflation
rate or interest rate to ensure price stability.
 Real vs Nominal GDP

If total expenditure rises from one year to the next, either:

1. the economy is producing more goods and services, or
2. goods and services are being sold at higher prices.

Analysing a nation's economic performance over time, useful to choose a base year
as a point of reference for prices.

Nominal GDP uses current prices to value the economy's production of goods and services
in that year. Changes reflect both changes in the quantities of goods and services and their
prices.

Real GDP uses constant (base-year) prices to value production of goods and services.
Changes in real GDP reflect only changes in the quantity of goods and services.
 Nominal and Real GDP
Year Price of Beer Quantity of Beer Price of Quantity of
($/can) (cans) Hamburgers Hamburgers
($)
2018 1 100 2 50
2019 2 150 3 100
2020 3 200 4 150

Base year = 2018

2018 Nominal GDP = (1x100) + (2x50) = $200 Real GDP = (1x100) + (2x50) = $200

2019 Nominal GDP = (2x150) + (3x100) = $600 Real GDP = (1x 150) + (2x100) = $350

2020 Nominal GDP = (3x200) + (4x150) = $1200 Real GDP = (1x 200) + (2x150) = $500
Real GDP
Gross domestic product (GDP) represents the value of all goods and services produced in New Zealand. The growth in real
GDP is New Zealand's official measure of economic growth. Real GDP excludes the effects of changing prices (i.e.
inflation). Data is available from 1990.
GDP as a measure of economic well-being

However, GDP does not include many aspects of

well-being, for example:

• Leisure time

• Non-market activities (e.g., goods produced at

home)

• Environmental quality

• The distribution of income

• Although an imperfect measure, GDP is often used as a key
indicator of a country’s living standard and economic development.

• So this focus is controversial, because welfare depends on much

more than what can be bought:
• nutrition,
• health and longevity,
• the distribution of income,
• education levels and knowledge,
• gender equality,
• more broadly the ability of all people to participate in society.
• happiness
See p. 573 of ther text book Principles of Economics Gans, King etal
GDP per capita

There are two good reasons for this focus :

1. GDP is highly correlated with most things we are interested in eg life

expectancy, or the UN “Human Development Index” based on GDP per
capita, life expectancy at birth, adult literacy rate, and school
enrolment rate.

2. GDP is a cardinal measure, not just an ordinal measure,

so it makes sense to make comparisons across countries
or through time
Explanations for economic growth and differing experiences of are looked at in more depth in ECON112 and ECON303
Comparing U.S. States with countries
Comparing Chinese provinces with countries