ECON*1100 Exam Notes.pdf

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Department
Hospitality and Tourism Management
Course
HTM 2100
Professor
Linda Hunter
Semester
Fall

Description
ECON*1100  -­‐  Introductory  Macroeconomics  (Adomait)   Midterm:  Chapter  35,  19-­‐26       Chapter  35:    Exchange  Rates  and  the  Balance  of  Payments     • Chapter  35.2:  The  Foreign-­‐Exchange  Market     -­‐ Canadian-­‐  dollar  price  of  1  U.S.  Dollar  (CAD/USD)   -­‐ US-­‐dollar  price  of  1  CAD  dollar  (USD/CAD)   -­‐ Appreciation  of  the  CAD  =  more  valuable     o A  fall  in  the  exchange  rate  (less  money  to  buy  USD)   -­‐ Depreciation  of  the  CAD  =  less  valuable   o A  rise  in  the  exchange  rate  (more  money  to  buy  USD)   Supply  of  foreign  exchange  (demand  for  CAD)     -­‐ Canadian  exports  (lumber,  engineering  services)   -­‐ Asset  sales:  capital  inflows  (government  bonds,  real  estate)     -­‐ Reserve  currency  (accumulate  &  hold  CAD;  ex.  Poland  buys  more  CAD  because  they  think   it  will  be  worth  more)   -­‐ CAD  depreciating:     • Euro  prices  of  Canadian  goods  falling   o Europeans  want  to  buy  more   CAD  appreciating:     • Euro  prices  of  Canadian  goods  rising     o Europeans  want  to  buy  less     • CAD  depreciates  (higher  exchange  rate)     =  Canadian  securities  &  assets  =  attractive       Demand  for  foreign  exchange  (demand  for  foreign  currency)   -­‐ CAD  depreciating  against  the  euro   o CAD  prices  of  euro  goods  rising     ▯ Canadians  will  buy  less  imported  European  goods     -­‐ CAD  appreciating  against  the  euro:   o CAD  prices  of  euro  goods  falling     ▯ Canadians  will  buy  more  imported  European  goods       • Chapter  35.3:  The  Determination  of  Exchange  Rates     1. Purely  floating  or  flexible  exchange  rate:  central  bank  makes  no  transactions  in  the  FX   market     2. Fixed  or  pegged  exchange  rate:  central  bank  intervenes  in  the  FX  market  to  “fix”  or   “peg”  the  exchange  rate  at  a  particular  value       3. Adjustable  peg:  banks  fix  specific  values  but  recognize  that  circumstances  may  arise   where  they  need  to  change  that  value       4. Managed  float:  some  stabilizing  influence  on  the  exchange  rate  but  no  publicly   announced  value       ▯ Most  countries  are  mostly  flexible  exchange  rate     • Fixed  at  e1  (excess  supply  of  FX)   o Purchase  foreign  exchange,  sell  CAD  (to  maintain  excess  supply  of  FX)     • Fixed  at  e2  (excess  demand  for  FX)   o Sell  foreign  exchange,  buy  CAD  (to  maintain  excess  demand  for  FX)   Appreciation  of  CAD:     -­‐  Bad  for  Europeans  buying  CAD  goods     -­‐  Good  for  Canadians  buying  European  goods       Depreciation  of  CAD:   -­‐  Bad  for  Canadians  buying  Euro  goods   -­‐  Good  for  Europeans  buying  CAD  goods     • Bretton-­‐Woods  System  (adjustable  peg  system)   • IMF:  International  Monetary  Fund     • European  Exchange  Rate  Mechanism  (ERM)     o Fixed  to  one  another  but  floated  as  a  block  against  USD     **Demand  and  supply  cause  exchange  rates  to  vary**   Demand  curve  right  or  supply  curve  left  =  depreciation  (exchange  rate  goes  up)   Demand  curve  left  or  supply  curve  right  =  appreciation  (exchange  rate  goes  down)     -­‐>  Causes  of  shifts  of  supply  and  demand     ▯ A  rise  in  the  world  price  of  exports   o  CAD  exports  increase  in  response  to  higher  world  price,  supply  of  FX  increases  further       =  Increase  in  supply  of  FX  =  appreciation  of  CAD     ▯ A  rise  in  the  foreign  price  of  imports   o CAD  consumers  have  elastic  demand  for  Euro  cars;  spend  fewer  dollars  on  Euro  cars     =    Decrease  in  demand  for  FX  =  appreciation  of  CAD     *Many  products  have  a  relatively  inelastic  demand  in  the  short  run;  short  run  effects  of  a  rise  in   foreign  prices  =  depreciation  of  CAD*       o Rise  in  world  price  of  CAD  exports  =  CAD  appreciates     o Rise  in  price  of  CAD  imports  =  CAD  depreciates       ▯ Changes  in  overall  price  levels     1. Equal  inflation  in  both  countries     -­‐ No  change  in  demand  for  imports   -­‐ No  change  in  equilibrium  exchange  rate       2. Inflation  in  only  one  country   -­‐ Inflation  in  CAD,  stable  in  Europe   =  CAD  goods  increase,  more  expensive  in  Europe    =  Euro  goods  in  CAD  unchanged,  CAD  goods  expensive     ▯ Therefore  Euro  goods  are  cheaper,  equilibrium  exchange  rate  must  rise       3. Inflation  at  unequal  rates   -­‐ Country  A  has  higher  inflation  than  B  =     o A’s  exports  are  expensive  in  B  market   o A’s  imports  from  B  are  cheaper  in  A  market   o A’s  currency  depreciates       ▯ Capital  Movements   -­‐ Ex.  Canadians  buy  more  Euro  assets,  capital  outflow  (more  demand  for  FX,  CAD   depreciates)   -­‐ Ex.  Europeans  buy  more  CAD  assets,  capital  inflow  (more  supply  of  FX,  CAD  appreciates)       1) Short-­‐term  capital  movements     -­‐ One  country’s  short  term  interest  rate  rises  above  the  rates  in  another  country   (contractionary  monetary  policy)   o Large  inflow  of  short  term  capital,  take  advantage  of  the  high  rate       ▯ Carry  trade:  holders  of  transaction  balances  lend  in  markets  with  high  interest  rates     ▯ Contractionary  monetary  policy:  slow  down  the  economy  by  country’s  central   bank/finance  ministry  by:   o Increasing  interest  rates   o Increasing  reserve  requirements     o Reducing  the  money  supply,  directly/indirectly     -­‐ One  country’s  short  term  interest  rate  falls  below  the  rates  in  another  country   (expansionary  monetary  policy)   o Shift  of  financial  capital  away  from  country   o Decreased  demand  for  domestic  currency,  depreciates     ▯ Expansionary  monetary  policy:  expand  money  supply  by  country’s  central  bank/finance   ministry  by:   o Tax  cuts   o Rebates   o Increased  government  spending     2) Long  term  capital  movements     -­‐ Speculation  of  future  values  of  a  country’s  exchange  rate     -­‐ Predict  appreciation:  buy  assets  (stocks  and  bonds)   -­‐ Predict  depreciation:  do  not  buy  assets       • Structural  Changes:     o Change  in  cost  structure,  inventions  of  new  products,  changes  in  preferences   o One  country  =  adopting  technological  innovations  =  gradual  depreciation  in  non-­‐ technological  country   o One  country  =  rich  in  resources/discovery  =  appreciation     -­‐ The  Volatility  of  Exchange  Rates:  Exchange  rates  constantly  changing     Chapter  19:  What  Macroeconomics  is  All  About   • Chapter  19.1:  Key  Macroeconomic  Variables     -­‐ National  product:  measure  of  total  production  of  goods  &  services  (aka  output)     o Production  of  goods  and  services  generates  income         -­‐ National  income:  value  of  total  output  and  value  of  income  claims  generated  by  the   production  of  output       ▯ Nominal  national  income:  sum  of  (number  of  units  at  each  good  produced  by  units  of   each  good  sold)  across  all  different  goods  produced  by  the  economy   o Quantity  of  total  output/national  income     ▯ Real  national  income:  measuring  income  by  value  of  individual  outputs  at  a  set  of  prices   that  prevailed  in  some  base  period       • Recessions:  periods  where  GDP  falls   • Business  cycle:  ebb  and  flow  of  business  activity  that  occurs  around  the  long-­‐term  trend     • Potential  output:  level  of  output  the  economy  would  produce  if  all  resources  (land,   labour,  capital)  were  fully  employed     Y  =  actual  output             Y*  =  potential  output     Output  gap  =  difference  between  potential  output  and  actual  output  (Y  -­‐  Y*)     Actual  <  Potential  (Y<  Y*)  =  Recessionary  Gap     Actual  >  Potential  (Y>Y*)  =  Inflationary  Gap   • Employment:  number  of  adult  workers  (aged  15+)  who  have  jobs   • Unemployment:  number  of  adult  workers  who  are  not  employed  but  who  are  actively   searching  for  a  job     • Labour  force:  total  number  of  people  employed  or  unemployed     -­‐ Frictional  unemployment:  new  people  enter  workforce,  quit  jobs,  turnover  of  labour     -­‐ Structural  unemployment:  mismatch  between  characteristics  of  labour  force  &  available   jobs  (structure  of  supplies  of  labour  &  structure  of  the  demands  for  labour)   -­‐ Cyclical  unemployment:  rises  &  falls  with  business  cycle  and  seasonal  fluctuations     • Labour  productivity:  amount  of  real  GDP  produced  per  unit  of  labour  employed     • Inflation:  rate  at  which  the  price  level  is  rising     • Price  level:  average  level  of  all  prices  in  the  economy,  symbolized  as  P     • Consumer  Price  Index  (CPI):  measures  the  average  price  of  goods  and  services  bought  by   a  typical  Canadian  household     • Purchasing  power  of  money:  amount  of  goods  &  services  that  can  be  purchased  with  a   given  amount  of  money     • Interest  rate:  price  paid  to  borrow  money  for  a  slated  period  of  time   o Prime  interest  rate:  rate  that  banks  charge  to  best  business  customers   o Bank  rate:  rate  that  Bank  of  Canada  charges  on  short  term  loans  to  commercial   banks   • Nominal  Interest  Rate:  the  price  paid  per  dollar  borrowed  per  period  of  time     • Real  Interest  Rate:  nominal  rate  of  interest  adjusted  for  the  change  in  the  purchasing   power  of  money     Real  Interest  Rate  =  Nominal  Interest  Rate  –  Rate  of  Inflation     • Exchange  rate:  number  of  units  of  domestic  currency  needed  to  purchase  one  unit  of   foreign  currency   • Foreign  exchange:  foreign  currencies  are  traded     • Foreign  exchange  market:  market  in  which  different  currencies  are  traded     o More  CAD  to  purchase  foreign  =  depreciation     o Less  CAD  to  purchase  foreign  =  appreciation   Chapter  20:  The  Measurement  of  National  Income     • Chapter  20.1:  National  Output  and  Value  Added   • Intermediate  goods:  outputs  of  some  firms  that  are  used  as  inputs  by  other  firms     • Final  goods:  products  not  used  as  inputs  by  other  firms     • Value  added:  amount  of  value  that  firms  and  workers  add  to  their  products  over  and   above  the  costs  of  intermediate  goods                  Value  added  =  Sales  Revenue  –  Cost  of  Intermediate  Goods     • Chapter  20.2:  National  Income  Accounting:  The  Basics     • Gross  Domestic  Product  (GDP):  total  value  of  goods  &  services  produced  in  the   economy  during  a  given  period     • GDP:  Expenditure  side   1. Consumption  expenditure:  services  &  goods  sold     2. Investment  expenditure:  inventories  of  goods  made,  capital  goods  (factories,   computers,  etc.)     o Inventories:  stocks  of  inputs  &  own  outputs   o Capital  stock:  economy’s  o=total  quantity  of  capital  goods   o Fixed  investment:  creation  of  new  planet  &  equipment       Net  Investment  =  Gross  Investment  –  Depreciation     Government  purchases:  (gov’t  =  income;  actual  purchases  of  gov’t  goods  &  services   3. =  a   4. Net  exports:   o Imports:  domestic  expenditure  on  foreign-­‐produced  goods  &  services   o Exports:  foreign  expenditure  on  domestically  produced  goods  and  services    (X -­‐IM )   a a   Total  Expenditures:     GDP  =  C a +  Ia  +  a      (a    IM a     • GDP:  Income  side     1. Factor  Incomes   -­‐ Wages  &  salaries   -­‐ Interest   -­‐ Business  profits   -­‐ Net  Domestic  Income     2. Non-­‐factor  payments     -­‐ Indirect  taxes  &  subsidies   -­‐ Depreciation     Total  income:     GDP  =  Factor  incomes  +  indirect  taxes  +  depreciation   • Chapter  20.3:  National  Income  Accounting:  Further  Issues     • Gross  National  Product:  value  of  total  incomes  earned  by  domestic  residents       -­‐  GDP:  total  output  produced  in  Canada  (used  to  measure  domestic  economic  activity)       -­‐  GNP:  total  amount  of  income  in  Canada  (used  to  measure  income  of  domestic   residents)     • Disposable  personal  income:  part  of  national  income  that  is  available  to  households  to   spend  or  to  save       • Total  GDP  at  current  prices  =  Nominal  GDP     • GDP  valued  at  base-­‐period  prices  =  Real  GDP     • CPI  =  measures  changes  in  average  price  of  consumer  goods     • GDP  deflator  =  measures  changes  in  average  price  of  goods  produced  in  Canada   Omissions  from  GDP:   -­‐ Illegal  activities   -­‐ Underground  economy   -­‐ “Home  production”  &  other  non-­‐market  activities   -­‐ Economic  “bads”       Chapter  21:  The  Simplest  Short-­‐Run  Macro  Model     • Chapter  21.1:  Desired  Aggregate  Expenditure   AE  =  C  +  I  +  G  +  (X  –  IM)   • Autonomous  expenditures:  aggregate  expenditure  that  does  not  depend  on  national   income   • Induced  expenditure:  aggregate  expenditure  that  changes  in  response  to  changes  in   national  income     • Closed  economy  =  no  trade  with  other  countries     o No  gov’t  (no  taxes)   o Constant  price  level       • Consumption  function:  total  desired  consumption  expenditures  of  all  households  to   several  factors:   o Disposable  income   o Wealth   o Interest  Rates     o Expectations  about  the  future       C  =  30  +  0.8Y D   -­‐  Slope  of  consumption  function  (MPC)     -­‐  45º  line  shows  where  C D   Y ▯ Where  consumption  function  cuts  through  45  degree  line  =  breakeven     **APS  +  APC  =  1,  MPS  +  MPC  =  1**   -­‐>  Shift  of  the  consumption  function:     • Change  in  household  wealth  (increase  =  consumption  function  will  shift  up,  saving   function  down;  cut  @  same  number  on  real  disposable  income  axis)   • Change  in  interest  rates  (fall  in  interest  rates  =  increased  desired  consumption,  shift  up)     • Change  in  expectations  (fearful  about  economy  =  less  desire  of  consumption,  shift   down,  more  saving)         -­‐ Movement  ALONG  consumption  function  =  changes  in  consumption  INDUCED  by   changes  in  disposable  income       -­‐ Shift  of  consumption  function  =  autonomous  changes  in  consumption     • Desired  Investment:   o Inventory  accumulation     o Residential  construction     o New  plant  &  equipment       ▯ Determinants  of  aggregate  investment  expenditure:   o  Real  interest  rate     o Changes  in  the  level  of  sales     o Business  confidence     ▯ High  real  interest  rate:  higher  opportunity  cost  of  investment,  lower  amount  of  desired   investment       ▯ Future  expectations;  optimism  =  invest  more;  pessimism  =  invest  less     ▯ Desired  Investment  =  autonomous  =  horizontal  line       • Aggregate  expenditure  (AE)  function:  relates  desired  aggregate  expenditure  to  actual   national  income     AE  =  C  +  I   • Chapter  21.2:  Equilibrium  National  Income     -­‐ If  desired  AE  exceeds  national  income,  pressure  for  national  income  to  rise     -­‐ If  desired  AE  is  less  than  national  income,  pressure  for  national  income  to  fall       Equilibrium  =  AE  =  Y     • Chapter  21.3:  Changes  in  Equilibrium  National  Income   -­‐ AE  upward  shifts:   o Shifts  parallel  if  same  addition  to  expenditure  occurs  at  all  levels  of  income  (ex.   government  expenditure  and  investment  go  up  by  100)   o Slope  change  if  change  in  marginal  propensity  to  spend  (%)     -­‐ AE  downward  shifts:     o Shifts  parallel  if  equal  reduction  to  expenditures  at  all  levels  of  income     o Slope  change  if  fall  in  marginal  propensity  to  spend  out  of  national  income     1. Rise  in  desired  AE  =  Increase  equilibrium  national  income   Fall  in  desired  AE  =  decease  equilibrium  national  income     *  Increase  in  MPS  (z)  steepens  AE  curve   *  Decrease  in  MPS  (z)  flattens  AE  curve     • Simple  multiplier:  change  in  equilibrium  national  income  that  occurs  in  response  to   change  in  AE  when  price  level  is  constant   o Large  MPS  =  steep  AE  =  larger  simple  multiplier     o Small  MPS  =  flat  AE  =  smaller  simple  multiplier   Chapter  22     • Chapter  22.1:  Government  and  Trade     • Fiscal  policy:  use  of  government’s  tax  and  spending  policies  to  achieve  government   objectives   • Net  tax  revenue:  total  tax  revenue  received  by  the  government  minus  total  transfer   payments  made  by  the  government  (T)   -­‐ National  income  rises  =  more  revenue  (net  of  transfers)   -­‐ Income  rises  =  less  transfers  to  households       T  =  tY     • Budget  balance:  difference  between  total  government  revenue  and  total  government   expenditure        T  –  G       • Budget  surplus:  any  excess  of  current  revenue  over  current  expenditure   • Budget  deficit:  any  shortage  of  current  revenue  before  current  expenditure     ▯ Balanced  budget:  revenue  and  expenditure  are  equal     ▯ Budget  deficit:  borrow  the  excess  of  spending  via  government  bonds/treasury  bills       *All  levels  of  government  added  to  desired  AE*     • Chapter  22.2:  Foreign  Trade     -­‐ As  consumption  rises,  imports  and  desired  imports  rise       IM  =  mY         Net  Exports:         NX  =  X  –  mY     -­‐ Net  export  function  =  negative     ▯ Anything  affecting  Canadian  exports  (shift  up  if  exports  increase,  shift  down  if  exports   decrease)     ▯ Anything  affecting  proportion  of  income  changes  the  slope  of  the  NX  function       Foreign  income  (foreigners  earn  more  money):  Increases  =  more  CAD  exports                                  Decreases  =  less  CAD  exports       Changes  in  international  relative  prices:     Examples:     o If  CAD  $  goes  up,  less  exports  demanded  (X  shifts  down)   o CAD  imports  more,  marginal  propensity  to  import  increases,  IM  curve  rotates  up         • Chapter  22.3:  Equilibrium  National  Inco
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