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Midterm

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Department
Economics
Course
ECN 204
Professor
Amy Peng
Semester
Winter

Description
Macroeconomics examines  the whole economy  the subdivisions or aggregates Microeconomics examines  Individual units (household, firm or industry) and their decision making process Law of Increasing Opportunity Cost  opportunity cost increases with amount produced  as we make more pizzas, the # of robots we have to give up (per pizza) increases Shape of the Curve  as we make more pizzas, the # of robots we have to give up (per pizza) increases  so production possibilities curve gets steeper and steeper  the more pizza we make the more machines we give up the steeper the curve  Shape of the Curve - concave to the origin  Economic Rationale - resources are not completely adaptable to alternative uses Optimal Allocation  Decide on optimal allocation by comparing Marginal (extra) Cost (MC) to Marginal Benefit (MB)  Marginal Benefit is the extra benefit associated with consuming one more unit  Marginal Cost is the extra opportunity cost of that extra unit  Optimal allocation requires the expansion of a good’s output until its MC and MB are equal. A Growing Economy  increases in factor supplies  advances in technology International Trade  Enable a nation to obtain more goods than its production possibilities curve Resource allocation  Economic system – a particular set of institutional arrangement and a coordinating mechanism for producing goods and services  Command economy  Command system – an economic system in which most property resources are owned by the government and economic decisions are made by a central government body  Notes: Central planning to allocate the government owned property resources; in past there was some private property tolerated; China is moving towards the market system North Korea and Cuba are last remaining examples  Market System – An economic system in which property are privately owned and markets and prices are used to direct and coordinate economic activities  Pure capitalism – governments role is limited to protecting private property and establishing an environment appropriate to the operation of the market system (Will inhibit the efficient working of the market system)  In Canada and other countries, the government provides rules for economic activity but also attempts to promote economic stability and growth, provides certain goods and services otherwise be under produced or not produced at all.  Invisible Hand (Free market ) - The tendency of firms and resource suppliers seeking to further their own self interest in competitive market to also promote the interest of society as a whole  Efficiency – Promotes the efficient use of resources by guiding them into the production of goods and services most wanted by society.  Incentives – The market system encourages skill acquisition, hard work and innovation. Greater work skills and effort earn greater production and higher incomes  Freedom – Freedom of enterprise and freedom of choice  Mixed economy Circular flow diagram – the flow of resources from households to firms and of products from firms to households. These flows are accompanied by reverse flows of money from firms to households and from households to firms  Factor Market – a market in which households sell and firms buy factors of production  Product market - in which products are sold by firms and brought by households Index Number  Choose reference point  Set the price value equal to 100  Table 2.1, use March 2000 as base year o Base year index value o = $35.39 x (100/$35.39) = 100 o Index value in March 2003 o = $62.69 x (100/35.39) = 177.2 o Percentage change Mar/00 to Mar/03 o = (177.2-100)/100 = 77.2%  Consumer Price Index (CPI)  Nominal and real variables  Percentage change in tobacco real price index  = (Nominal Index/CPI – 1) x 100  Apply the data from Mar/00 to Mar/03 (Table 2.1)  = (177.2/109.1 – 1) x 100  = 62.5  Quality and Technological Change  Measuring Change in Economic Variables Gross domestic product, GDP  is the market value of the final goods and services produced in a country during a given period Market Value  Allows economists to aggregate the quantities of many different goods and services  Total Production: 4 million apples, 6 million pears and 3 million pairs of shoes  Price: $0.25 (apple), $0.50 (pear) and $20 (shoes)  GDP = ($0.25×4) + ($0.50×6) + ($20×3) = 64 million  The more expensive product (shoes) receives a higher weighting  Example 5.1: if total production changes to 3 million apples, 3 million pears and 4 million pairs of shoes?  GDP = ($0.25×3) + ($0.50×3) + ($20×4) = 82.25 million  Producing more shoes (higher value product) leads to higher GDP. Nominal GDP  Expenditure Approach  Income Approach  Value Added Nominal GDP is market value of all final goods and services at current prices  Value added - equals the market value of its product or service minus the cost of inputs purchased from others  Quarterly GDP and annual GDP Final goods or services  e.g. bread  Goods or services consumed by the ultimate user  the end products of the production process  Total final sales = GDP Intermediate goods or services  e.g. wheat in flour production ; flour in bread production;  Goods or services used up in the production of final goods and services  Not separately counted as part of GDP, in order to avoid double-counting The Expenditure Approach to GDP Consumption expenditure (C) – The expenditures of households for durable and nondurable consumer goods and services Investment (I) – Expenditures for newly produced capital goods (such as machinery, equipment, tools, and buildings) and for additions to inventories  Includes all final purchases of machinery, equipment and tools by firms; all construction; and changes in inventories  Replacing goods is included  Gross investment = Net investment + depreciation o Net Investment = Gross - Depreciation Government expenditure (G) – The expenditures of all government in the economy for final goods and services  Transfer payments are not included in purchases because they merely transfer government receipts to certain households and generate no production of any sort (Employment insurance benefits, welfare payments, Canada pension plan benefits) Exports and Imports  Net Exports NX = X - M GDP C  I G NX Gross domestic product (GDP)  measures the output produced by factors of production located in the domestic economy Gross national product (GNP)  measures the total income earned by domestic citizens  GNP = GDP + net income from abroad NDP – Measures the total annual output that the entire economy can consume  NDP= GNP – depreciation NNI – Total income earned by resource supplier for their contribution to GDP  NNI=NDP-Indirect business taxes Nominal GDP is based on prices when output was produced (P*Q) Real GDP is based on prices in some reference (base) year Prince Index - An index number that show how the weighted average price of a market basket of goods and services through time Method 2  gather separate data on physical outputs  determine market value with base year prices  So multiply outputs by base year to get real GDP  leads to the implicit price index, as follows: GDPdeflator  nominal GDP X100 realGDP  Real GDP = Nominal GDP/GDP Deflator X100 GDP has several shortcomings, both  as a measure of total output (understate)  as a measure of well-being Measurement Shortcomings o Non-Market Transactions (doesn’t count non paid word) o The Underground Economy (Illegal and unethical acts that people don’t report to revenue agency) o Leisure (no measure of well being caused by leisure) o Improved Product Quality (vast majority of improvements don’t reflect on gdp) Well-Being Measure Shortcomings (overstates and understates well being because it does not measure it) o GDP & the Environment o Composition & Distribution of Output o Non-Material Sources of Well-Being Real GDP Growth  Real GDP per capita – the real GDP per person found by dividing real GDP by a country’s population  Rule of 70 – a method for determining the number of years it will take for some measure to double given its annual percentage increase, by diving that percentage increase into 70 Unemployment  Real GDP= Worker hours x labor productivity  % change in GDP = % change in worker hours + % change in productivity  Labor force – persons 15+ years of age and older who are not in institutions (jail) and who are employed or are unemployed and seeking work. Inflation  Price Level  the overall leve
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