Intermediate Macroeconomics

ZHANG, Guoxiong

guoxiong@sjtu.edu.cn

Class Schedule:

Friday 12:55am - 15:40am

中院 305, Minhang campus

Office Hours:

Friday 12:00am - 12:55am

中院 305, Minhang campus

Contacts:

guoxiong@sjtu.edu.cn 021-52301585

Class Website: http://www.acem.sjtu.edu.cn/faculty/zhangguoxiong.html

Lecture 1

I. The science of Macroeconomics

what macroeconomists study?

how economists think?

II. The data of macroeconomics.

Measuring the value of economic activity

Measuring the cost of living

Measuring jobless

From economic statistics to economic models

What Macroeconomists Study

Macroeconomics as a study of the economy as a whole attempts to

answer questions such as - why countries differ a lot in income growth (China 7.8% vs Japan 1. 3%)

- why countries differ a lot in inflation (Venezuela 56% vs US 1.6%)

- why all countries experienced recession and depression (great depression and

great recession)

Macroeconomic issues affect everyone and therefore play central role in

national political debate(tax debate between Obama and Romney)

Macroeconomic issues are also central to world politics (Euro zone debt

crisis, Renminbi re-evaluation, QE II & III)

Macroeconomists collect data across time and across countries, and

attempt to formulate general theories to explain them

Macroeconomists make policy recommendations based on the current

economic state (not the right the person to predict the future)

Figure 1 US Real GDP 1900-2000

1. Long-term upward trend. Income more than doubled over last 30 years

2. Short-run disruptions in the trend: recessions.

Figure 2 US Unemployment 1900-2000

1. Super high unemployment rate during the great depression ( Spain already reached this record in 2012)

2. Unemployment generally counter-move with economic growth (except for the three wars)

Figure 3 US Inflation 1900-2000

1. Inflation has become much less volatile and has been reduced steadily after 1980 (after Paul Volcker)

2. Inflation usually co-move with economic growth (except for the stagflation in the 1970s)

How Economists Think

Economists often study politically charged issues but they always try to

be scientific objective (normative vs positive)

Economists use mathematical(or statistical)models to understand

the world - economic models illustrate the relationship between variables

- the purpose of an economic model is to show how exogenous variables affect

endogenous variables

- economic models help us to dispense with irrelevant details and to focus on the

underlying connections

“essentially, all models are wrong, but some are useful”

- George E. P. Box

Car Supply and Demand: a Toy Model

• explains the factors that determine the price of cars

and the quantity sold.

• assumes the market is competitive: each buyer and

seller is too small to affect the market price

• Variables:

Q d = quantity of cars that buyers demand

Q s = quantity that producers supply

P = price of new cars

Y = aggregate income

Ps = price of steel (an input)

Demand Function

( , )dQ D P Y

Examples:

1) ( , ) 60 10 2 dQ D P Y P Y

0.3

2) ( , )d YQ D P Y

P

A specific functional form shows the precise quantitative

relationship

A general functional notation shows only that the

variables are related:

Demand and Supply Function

( , )dQ D P Y

Examples:

1) ( , ) 60 10 2 dQ D P Y P Y

0.3

2) ( , )d YQ D P Y

P

A specific functional form shows the precise quantitative relationship

A general functional notation for the demand of cars

supply equation:

( , )ssQ S P P

A general function notation for the demand of cars

Market Equilibrium

Q

Quantity of cars

P Price

of cars S

D

equilibrium price

equilibrium quantity

The Effects of an Increase in Income

D2

Q

Quantity of cars

P Price

of cars S

D1

Q1

P1

P2

Q2

An increase in income

increases the quantity

of cars consumers demand

at each price… (demand

shock)

…which increases the

equilibrium price and

quantity.

The Effects of an Decrease in Steel Price

An increase in Ps reduces

the quantity of cars

producers supply at each

price… (supply shock)

…which increases the

equilibrium price and

reduces the equilibrium

quantity.

Q

Quantity of cars

P Price

of cars S1

D

Q1

P1

P2

Q2

S2

Demand and Supply Function

• We will learn different models for studying different issues (e.g.

unemployment, inflation, long-run growth).

• For each new model, you should keep track of

its assumptions

which of its variables are endogenous and which are exogenous

the questions it can help us understand

and those it cannot

• For macroeconomics, it is important to differentiate long

run and short run ( flexible price vs sticky price, neoclassical

vs new Keynesian, fresh-water-school vs salt water school)

The Data of Macroeconomics

In this chapter, you will learn about how we define and

measure:

• Gross Domestic Product (GDP)

- measures the value of economic activities

• Consumer Price Index (CPI)

- measures the cost of living

• Unemployment Rate

- measures jobless

Gross Domestic Products (GDP)

Two definitions:

1. Total expenditure on domestically-produced final goods and services

2. Total income earned by domestically-located factors of production

total expenditure ≡ total income as in every economic

transaction the expenditure of the buyer equal the income of the seller

Inco me ($)

La bo r

Goo ds (br ead)

Expen diture ($)

Hou seho lds Firms

Measuring GDP

Gross Domestic Product: The market value of all final goods and services produced within a

country in a given period of time.

• market value: items without open market excluded (domestic

work, illegal goods, etc.)

• final goods: intermediate goods excluded (e.g. hard drive)

• within a country: different from gross national product (GNP)

• given period of time: existing goods excluded (e.g. used cars,

inventory)

Components of GDP

• GDP (Y ) is the sum of the following:

– Consumption (C)

– Investment (I)

– Government Purchases (G)

– Net Exports (NX)

Y = C + I + G + NX

This is called the national income accounts identity

Consumption

Consumption: The value of all goods and services bought by

household.

• durable goods e.g. cars, TV

• non-durable goods e.g. food, clothing

• services e.g. haircut, doctor visits

US 2007 billion $ % of GDP

Consumption 9710 70.3

Durables 1083 7.8

Non-durables 2833 20.5

Services 5794 42.0

Investment

US 2007 billion $ % of GDP

Investment 2130 15.4

Business fixed 1504 10.9

Residential fixed 630 4.6

Inventory

investment

-4 ≈0

Investment: Spending on goods and services for future use.

business fixed investment spending on plant and

equipment that firms will use to produce other

goods and services

residential fixed investment spending on new

housing by households and landlords

inventory investment the change in the value of all firms’ inventories

Government Spending

US 2007 billion $ % of GDP

Government

Spending

2675 19.4

Federal Spending 979 7.1

Defense 317 2.3

Non-defense 662 4.8

State and Local

Spending

1696 12.3

Government Spending: goods and services bought by the government

(transfer payments excluded)

Federal Spending defense, social security,

medicare & mediaid,

interest payment for

national debt

State and Local Spending

roads, schools, police

service

Net Exports

Net Exports =Exports - Imports (NX = EX - IM)

GDP vs GNP

Gross National Product (GNP): total income earned by the nation’s factors of production,

regardless of where they are located

Gross Domestic Product (GDP): total income earned by domestically-located factors of

production, regardless of nationality

GNP – GDP = (factor payments from abroad)

– (factor payments to abroad)

- labor payments from abroad (Philippine)

- capital payments from abroad(Japan)

Cross Country Comparison of GNP/GDP

60

70

80

90

100

110

120

130

140

150

1960 1964 1968 1972 1976 1980 1984 1988 1992 1996 2000 2004

GNP/GDP

China

USA

Singapore

Kuwait

Chile

How can we explain why these countries have difference patterns on

GNP/GDP?

Real vs Nominal GDP

Real GDP: measured using a constant price

(usually the price in the selected base year)

Nominal GDP: measured using current year price

GDP deflator = Nominal GDP/Real GDP

- used to measure change of the overall price for

domestically and newly produced goods and services

Exercise

Republic of Antai produces three major goods, “Bachelors”, “MBAs”, and “Ph.D.s”, every year. The production and prices of these three goods in 2007, 2008, and 2009 are as follows:

Bachelors MBAs Ph.D.s Quantity Price Quantity Price Quantity Price 2007 200 ￥45,000 150 ￥95,000 20 ￥80,000 2008 350 ￥50,000 300 ￥120,000 50 ￥95,000 2009 500 ￥75,000 200 ￥145,000 90 ￥99,000 1. Find Nominal GDP and Real GDP (base year 2007) for each year. 2. Calculate the annual growth in Nominal and Real GDP. 3. Find the GDP deflators of Antai Republic over years.

Working with Percentage Change

USEFUL TRICK #1 For any variables X and Y,

the percentage change in (X Y ) = the percentage change in X +

the percentage change in Y

USEFUL TRICK #2 For any variables X and Y,

the percentage change in (X /Y ) = the percentage change in X

- the percentage change in Y

How to prove?

Hint: (percentage change) and

lndx

d xx

ln(XY) lnX lnY

ln(X/ Y) lnX lnY

Consumer Price Index (CPI)

CPI : The price of a basket of goods relative to the price of the

same basket in some base year.

1. Survey consumers to determine composition of the typical consumer’s

“basket” of goods. (survey once in a couple of years, most recent survey for

the US is 2009 and 2010)

2. Every month, collect data on prices of all items in the basket; compute cost

of basket

3. CPI in any month equals

How is CPI determined:

Cost of basket in that month100

Cost of basket in base period

CPI vs. GDP deflator

Both CPI and GDP deflator are measures of overall price level.

But they are NOT identical

CPI GDP Deflator

Usually published monthly Usually published quarterly or annually

Goods and services purchased by

consumers.

Goods and services purchased by

consumers, firms, and government

Both domestic and imported goods and

services.

Only domestically produced goods and

services.

Both newly produced and previously

produced goods and services. Only newly produced goods and services.

The basket of goods and services is

(relatively) fixed

The basket of goods and services changes

every year.

CPI vs GDP Deflator for the US

16

14

12

10

8

6

4

2

0

- 2

Percentage change

1948 1953 1958 1963 1968 1973 Year

1978 1983 1988 1993 1998

CPI

GDP deflator

Categories of the Population

Entire Population

Adult Population

Labor Force

Unemployed

Employed : work as a paid employee,

work in their own business, work in a

family member’s business(unpaid),

temporary absent from a job(vacation,

illness)

Unemployed: not employed but

available for work , have tried to find a

job in the last four weeks (including laid

off workers that waiting for a recall)

Labor Force = Employed + Unemployed

Categories of the Population, Cont’d

US Population Composition in 2008 100%

Number unemployedUnemployment rate

Labor force

100%

Labor forceLabor force participation rate

Adult population

Discouraged worker: wants a job but

has given up looking for, NOT

included in the labor force.

Exercise

Suppose

– the population increases by 1%

– the labor force increases by 3%

– the number of unemployed persons increases by 2%

Compute the percentage changes in the labor force participation rate and the

unemployment rate:

Hints: use the two tricks that can be used to work with percentage change.

Exercise

1951

1984

1999

2000

1993

1982

1975

Percentage change in

unemployment rate

10

-3 -2 -1 0 1 2 4 3

8

6

4

2

0

-2

Percentage change

in real GDP Okun’s Law : a one-percent

decrease in unemployment

is associated with two

percentage points of

additional growth in real

GDP