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Lecture 2

Economics 1022A/B Lecture Notes - Lecture 2: Income Approach, Xm Satellite Radio, Gdp Deflator

Course Code
ECON 1022A/B
Barry Tepperman

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Lecture 2: January 12th
Measures of economic activity (GDP) cont'd
Measures of economic activity (Inflation): Ch. 21, pages 500-505
- A persistent rising price level is called inflation
- Persistent falling price is deflation
- Want to measure annual percentage change of the price level, and distinguish between the
money values and real values of of economic variables
- Unexpected bursts of inflation and deflation cause bug problems
Redistributes income: wage contracts are worth less or more compared to the changing
price of goods
Redistributes Wealth: fixed loan contracts value is changes for the person borrowing and
the lender
Lower Real GDP and employment: things become too good to be true and eventually
Diverts resources from production: people switch their time to economic forecasting
- Hyperinflation is the worst kind, 50% a month or higher, grinds economy to a halt and
causes a society to collapse
- CPI: consumer price index measures the price level
- The CPI is defined to =100, called a reference base period
- To construct the CPI: Select the CPI basket, which consists of items that an average
urban householder buys. Then conduct the monthly price survey, and finally calculate the
CPI by find the cost of CPI basket at base prices, find cost of CPI at current period prices,
calculate the CPI for base and current period
- CPI= current period prices / base period prices X 100
- Inflation Rate = CPI this year – CPI previous year / CPI previous year X100
- A high inflation rate means that the price level is rising rapidly, where a high price level
means that there has been a sustained period of rising prices
- Changes in the CPI probably overstate the inflation rate
- When price level rises rapidly it means inflation rate is high, and when price level rises
slowly the inflation rate is low
- Main sources of bias are: new goods bias, quality change bias, commodity substitute bias,
outlet substitution bias
- Bias is roughly 0.6% per year
- There are consequences due to the bias
- CPI is just one of many price level index numbers
- GDP deflator is an index of the prices of all the items included in GDP and is the ratio of
nominal GDP to real GDP
- GDP deflator = nominal / real X 100
- Chained price index for consumption (cpic) is an index of the prices of all the items
included in consumption GDP and and is the ratio of nominal consumption to real
- CPIC = nominal / Real X 100

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- The cpic and gdp deflator use numbers for current and previous year rather than fixed
numbers from a more older base figure, it incorporates substitution effects and new goods
and overcomes the bias from the CPI
- To determine if inflation is going up or down, we use the core inflation rate, which is an
inflation rate excluding volatile elements
- Another name for money price is a nominal price
- We want to distinguish a real price from its corresponding nominal price because real
price is opportunity cost that influences choice
- Also want to distinguish from real and nominal as we want to see what is really
happening to variables that influence the standard of living
All macro variables are calculating by dividing nominal by price, except for interest rate
 !
Real GDP
Per Capita GDP (and Per Capita Real GDP) #!
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*!  
# "+
# !
#( " ")")
") .
Investment (I)
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