1. Macro
McEachern
2011
ECON
5
2010-
CHAPTER
Introduction
Designed by
Amy McGuire, B-books, Ltd.
Chapter 5
to
Macroeconomics
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1

2. The National Economy

Gross domestic product GDP

Market value

All final goods and services

Produced in U.S.

During a
given period
LO1
Chapter 5
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2

3. The National Economy

Millions of decision makers

Some independence

Connected with the economy

Money

Medium of exchange
LO1
Chapter 5
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3

4. The National Economy

Circular flow

Money

Products

Resources
LO1
Chapter 5
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4

5. The National Economy

Flow variable


Amount per unit of time
Stock variable

Amount at a particular point in time

Testing new theories

Knowledge and performance

Essential relationships

Key variables
LO1
Chapter 5
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5

6. Economic Fluctuations
and Growth
 Rise and fall of economic activity
 Business cycles
 Expansions: Output increases
 Contractions: Output decreases
 Depression
 Sharp reduction in output
 Lasts > 1 year
 High unemployment
 Recession
 Lasts > 6 months
LO2
Chapter 5
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6

7. Economic Fluctuations
and Growth
 Inflation
 Economy’s average price level increase
 U.S. economic fluctuations
 14 times more output than in 1929
 Increased production
 Quantity and quality of resources
 Better technology
 Rules of the game
LO2
Chapter 5
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7

8. Exhibit 1
LO2 Hypothetical Business Cycles
Chapter 5
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8

9. Economic Fluctuations
and Growth
 Business cycle
 Peak-to-trough-to-peak
 Contraction
 Between peak and trough
 Expansion
 Between trough and peak
 Longest
 10 years (March 1991
to March 2001)
LO2
Chapter 5
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9

10. Exhibit 2
LO2
Annual Percentage Change in
U.S. Real GDP Since 1929
Chapter 5
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10

11. U.S. and U.K. Annual Growth
Rates in Output Are Similar
Exhibit 3
LO2
Chapter 5
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11

12. Leading Economic
Indicators
 Leading economic indicators
 Predict a change in economy
 Recovery
 Downturn
 Coincident economic indicators
 Reflect changes as they
occur
 Lagging economic indicators
 Follow changes in economy
LO2
Chapter 5
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12

13. Leading Indicators
The 10 components of the Index include:
1. Average weekly hours worked by manufacturing
workers
2. Average number of initial applications for
unemployment insurance
3. Number of manufacturers' new orders for consumer
goods and materials
4. Speed of delivery of new merchandise to vendors
from suppliers
Chapter 5
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13

14. 5. Amount of new orders for capital goods
unrelated to defense
6. Amount of new building permits for
residential buildings
7. The S&P 500 stock index
8. Inflation-adjusted monetary supply (M2)
9. Spread between long and short interest rates
(the yield curve)
10. Consumer sentiment (the Index for
Consumer Expectations)
Chapter 5
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14

15. http://www.census.gov/cgibin/briefroom/BriefRm
Chapter 5
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15

16. “Economists have correctly predicted
nine of the last five recessions.“
Paul Samuelson
Chapter 5
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16

17. Coincident indicators




Number of employees on non-agricultural payrolls.
Personal income less transfer payments.
Industrial production.
Manufacturing and trade sales.
Chapter 5
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17

18. Lagging Indicators
The components are:
1. The average duration of unemployment
(inverted)
2. The value of outstanding commercial and
industrial loans
3. The change in the Consumer Price Index for
services
4. The change in labor cost per unit of output
Chapter 5
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18

19. Lagging Indicators
5. The ratio of manufacturing and trade inventories to
sales
6. The ratio of consumer credit outstanding to
personal income
7. The average prime rate charged by banks
Economists' use the Index of Lagging
Indicators to validate assessments of
current economic conditions.
Chapter 5
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19

20. So, where are we???
http://www.bloomberg.com/news/print/2010-08-19/indexof-u-s-leading-economic-indicators-increase-0-1-insign-of-slowing.html
Chapter 5
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20

21. Aggregate Demand;
Aggregate Supply
 Aggregate output
 Total amount of goods and services
 Produced in economy
 Given period
 Real GDP
 Aggregate demand
 Price level
 Quantity of aggregate
output demanded
Chapter 5
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21

22. Aggregate Demand;
Aggregate Supply
 Price level
 Index number
 Base year = 100
 Real GDP
 GDP adjusted for
price level changes
Chapter 5
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22

23. Aggregate Demand Curve
 Sum of D of economic decision makers
 Households; Firms;
 Governments; Rest of the world
 Inverse relationship
 Price level
 Real GDP demanded
 Other things constant
 Price levels in other countries
 Exchange rates
LO3
Chapter 5
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23

24. Aggregate Demand Curve
Price level (2000 = 100)
Exhibit 4
LO3
150
100
50
0
Chapter 5
The quantity of aggregate
output demanded is
inversely related to the
price level, other things
constant.
This inverse relationship is
reflected by the aggregate
demand curve AD.
AD
Real GDP
2 4 6 8 10 12 14 16
(trillions of 2000 dollars)
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24

25. Aggregate Supply Curve
 Positive relationship
 Price level
 Real GDP supplied
 Other things constant
 Resource prices
 State of technology
 Rules of the game
LO3
Chapter 5
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25

26. Exhibit 5
LO3 Aggregate Demand and Aggregate
Supply in 2008
Chapter 5
The total output of the
economy and its price
level are determined at
the intersection of the Ad
and AS curves.
This point reflects real
GDP and the price level
for 2008 using 2000 as
the base year.
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26

27. Equilibrium
 AD curve intersects AS curve
 Equilibrium price level
 Equilibrium real GDP
 Higher real GDP
 More goods
and services
 Higher
employment
LO3
Chapter 5
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27

28. Short History of the U.S.
Economy
1. Before and during Great Depression
2. After Great Depression to early 1970s
 The Age of Keynes
3. From early 1970s to early 1980s
 Stagflation
4. Since early 1980s
LO4
Chapter 5
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28

29. The Great Depression and Before
 1873 – 1879: Longest
contraction
 80 railroads – bankrupt
 1890s
 Contractions
 18% unemployment
rate
 1929: The Great
Depression
LO4
Chapter 5
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29

30. The Great Depression and Before
 1929 - 1933: Deepest economic contraction
 Stock market crashed;
 Investment dropped
 Consumer spending fell;
 Banks failed
 Money supply dropped by 1/3
 High tariffs – restricted trade
 Big decline in AD
 Real GDP dropped 27%
 Price level dropped 26%
 Unemployment rate 33%
LO4
Chapter 5
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30

31. What was happening during the Great Depression?
Please read “Lessons from the Great Depression”
here as well!!
GREAT READ!!!
Chapter 5
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31

32. A little more about the Great Depression
 What was happening???
– The stock market was collapsing!!!
– Real GDP was falling
– Unemployment was at record highs
Chapter 5
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32

33. Dow Jones
Chapter 5
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34. Chapter 5
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35. Chapter 5
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35

36. A few other thoughts
 Money Supply?!?
– The Federal Reserve decreased the money
supply by 1/3, meaning there was NO money
left to invest in the economy.
Chapter 5
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36

37. Chapter 5
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38.  Income Taxes???
– The highest branch of taxed people were taxed
at 95%, which decreased the investments into
the economy.
Chapter 5
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38

39. Chapter 5
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39

40.  A few policies, pigs anyone?
– The Hoover Administration destroyed crops
and killed livestock trying to get the price
levels to increase and not deflate
– The prices did not increase and people where
left hungry
Chapter 5
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40

41. Chapter 5
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41

42. Exhibit 6
LO4
The Decrease in Aggregate
Demand from 1929 to 1933
Price level (2000 = 100)
AS
The Great Depression of the
1930s can be represented by
the shift to the left of the AD
curve, from AD1929 to AD1933.
12.0
8.9
AD1929
AD1933
0
Chapter 5
In the resulting depression,
real GDP fell from $865 billion
to $636 billion, and the price
level dropped from 11.9 to 8.9,
measured relative to a price
level of 100 in the base year
2000.
Real GDP
636 865
(billions of 2000 dollars)
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42

43. The Age of Keynes
 After the Great Depression to early 1970s
 1936 John Maynard Keynes
 The general theory of employment,
interest, and money
 AD – inherently unstable
 Government - increase AD
 Expansionary fiscal policy
 Increase government spending
 Cut taxes
 Federal budget deficit
LO4
Chapter 5
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43

44. The Age of Keynes
 Increase in AD
 Increase real GDP
 Increase employment
 Demand-side economics
 WWII
 Increased employment
 Increased government spending
 Federal deficits
LO4
Chapter 5
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44

45. The Age of Keynes
 Employment act of 1946
 1950s: Prosperity, no fiscal policy
 1960s: Golden age Keynesian economics
 Fiscal policy ‘ fine tune’
 Low unemployment;
 Healthy growth
 Modest inflation
 Early 1970s
 Recession
 High inflation
LO4
Chapter 5
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45

46. Stagflation: 1973 to 1980
 1970 Inflation rate: 5.3%
 1971 Ceilings: prices, wages
 1973 Crop failures
 Soaring grain prices
 OPEC cut oil supply
 Increased oil prices
LO4
Chapter 5
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46

47. Stagflation: 1973 to 1980
 1973 - 1975: Decrease in AS
 Stagflation
 Stagnation or contraction in output
 Inflation
 Real GDP decreased
 Unemployment increased to 8.5%
 Price level increased 19%
 1979 - 1980: Stagflation; decrease AS
 OPEC cutbacks
LO4
Chapter 5
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47

48. Exhibit 7
LO4
Stagflation from 1973 to 1975
Price level (2000 = 100)
AS1975
AS1973
The stagflation of the mid1970s can be represented as
a leftward shift of the AS curve
from AS1973 to AS1975.
38.0
31.9
AD
0
Chapter 5
Aggregate output fell from
$4.34 trillion in 1973 to $4.31
trillion in 1975, for a decline of
about $30 billion (stagnation).
The price level rose from 31.9
to 38.0, for a growth of 19%
(inflation).
Real GDP
4.31 4.34
(trillions of 2000 dollars)
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48

49. Since 1980
 Combat stagflation
 Increase AS
 Supply-side economics
 Lower price level
 Increase output
 Increase employment
 Through
lower taxes
LO4
Chapter 5
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49

50. Since 1980
 1981: Recession
 Unemployment rate 10%
 Lower output
 Economic growth for 10 years
 Federal budget deficit
 1990: higher taxes
 1993: higher taxes
 1995: slower growth in federal spending
 Lower federal deficits
LO4
Chapter 5
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50

51. Since 1980
 1998: Federal budget surplus
 Longest expansion: 1991-2001
 22 millions new jobs
 Unemployment rate 4.2%
 Modest inflation
 2001: Recession (8 months)
 Slow recovery
 2003, unemployment rate 6.3%
 Tax cuts
 Increased output
 Federal budget deficit
 December 2007: Recession
 2.5 million jobs lost in 2008
 2008 Federal deficit: $450 billion
LO4
Chapter 5
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51

52. Tracking U.S. Real GDP
and Price Level Since 1929
Exhibit 8
LO4
Chapter 5
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52