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Economics 215Intermediate Macroeconomics
Introduction
What is Macroeconomics
Studies of economies at aggregate level: world, nation, region, etc.
Economic decision makers are representatives of a broader class (consumers, banks, firms, etc.)
Why study aggregate economy?
Classes of agents similar in important ways. Their behavior generates aggregate movements.
Aggregate markets important to explain, foreign exchange, credit, energy.
Single national policy-makers: central bank, treasury.
Feedback when large number of agents act together.
How is Intermediate Different from Principles Main subjects
Long-term Growth Productivity Capital Accumulation vs. Technology driven growth
Exchange Rates Long-term exchange rate fundamentals Business cycles in small open economy
Macroeconomic Dynamics Savings and Investment Trade and Budget Deficits
Concepts you should know
GDP, Nominal and Real Price level and Inflation Interest Rates, Nominal and Real
Variables are often studied in the form of time series: A set of observations indexed by time.
GDP: Output
Nominal GDP (PYt) – the total value of goods produced in a given period measured in current prices.
Real GDP (Yt) – the total value of goods produced in a given period measured in the prices prevailing in some base year.
Expenditure Categories in Hong Kong: 2001
0.00%
20.00%
40.00%
60.00%
80.00%
100.00%
120.00%
140.00%
160.00%
% of GDP
HouseholdConsumption
Government Consumption
Investment Exports Imports
Income Distribution
Household Income
0
2
4
6
8
10
12
14
16
18
20
China Hong Kong, China Korea, Rep. Sweden United States
Ratio of 10% Highest to 10% Lowest
GDP Expenditure Shares
Consumption Investment Government Net Exports
AF
F
Min
ing
Man
ufac
turin
g
Util
ities
Con
stru
ctio
n
Tra
de
Tra
nspo
rt
FIR
E
Ser
vice
s
Land
lord
1980
0
0.05
0.1
0.15
0.2
0.25
% of GDP
Production Account
1980
2001
Production Sectors of Hong Kong
P: Price level
Deflator (Pt) ratio of nominal GDP to real GDP (weighted average of the prices of goods produced using current expenditures as weights).
CPI (CPIt) cost of a fixed market basket of consumer goods relative to the cost in a base year (weighted average of the prices of goods consumed using fixed expenditures as weights).
Inflation: Growth rate of price level1
1
t tt
t
P P
P
Inflation: HK GDP Deflator
Inflation
-10.0
-5.0
0.0
5.0
10.0
15.0
20.0
Interest Rates
Nominal Interest Rate (1+it): Number of $ a borrower will pay you in one year if they borrow $1 today.
Real Interest Rate (1+rt): Number of goods a borrower will pay you in one year if they borrow 1 good today. Gross Nominal interest at the time of a loan divided
by gross inflation over course of a loan. Net real interest rate approximated by net nominal
rate minus net inflation rate.
HK Real Interest Rate
Real Interest Rate
-5
0
5
10
15
20
1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003
Time Series
Million HK $
GDP
0
200,000
400,000
600,000
800,000
1,000,000
1,200,000
1,400,000
1,600,000
Growth
Real GDP tends to grow over time. Growth Rate
Growth compounds across time
11
1
1Y Yt tt t t t
t
Y Yg Y g Y
Y
2
1 2 1 2
3
3 2
1 , 1 , 1 1 1
1 1
1
t t t t t t t
t t t
j
tt j
Y g Y Y g Y Y g g Y g Y
Y g Y g Y
Y g Y
Series with Exponential Growth
0
20
40
60
80
100
120
140
1 4 7 10 13 16 19 22 25 28 31 34 37 40 43 46 49
time
GDP
Natural Log
Empirical economists often study (natural) logarithms of series
Study yt = ln Yt
Natural log is a logarithm with Euler’s constant, e as base.
Natural logarithm is a mathematical function that takes a straight line and turns it into a concave
Most importantly, natural logarithm takes an exponential growth function and turns it into a straight line.
Natural Log of a Straight Line
-2
0
2
4
6
8
10
0.25
0.75
1.25
1.75
2.25
2.75
3.25
3.75
4.25
4.75
5.25
5.75
6.25
6.75
7.25
7.75
X
ln X
Exponential to straight line
0
1
2
3
4
5
6
7
8
0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20
Y
lnY
Properties of Natural Logarithm
1. If
2. If
3. If
ln ln lnt t t t t tX Y Z X Y Z
ln ln lntt t t t
t
XY Y X ZZ
ln lnat t t tY X Y a X
(1 ) ln ln (1 ) ln ln (1 )
ln ln(1 )
j j jt j t t j t tY g Y Y g Y Y g
tY g j
Log of exponential growth function is linear function of time
GDP vs. Log GDP
GDP
0
200,000
400,000
600,000
800,000
1,000,000
1,200,000
1,400,000
1,600,000
ln(GDP)
0
2
4
6
8
10
12
14
16
Small changes in X imply % changes in ln(X) If x = ln(X) and X changes by a small
amount dX, then x changes by
Growth Rates: Between two periods of time Y changes by an amount ΔY = Yt – Yt-1. Then
dX
X
11
1
ln ln Yt tt t t t
t
Y YYY Y g
Y Y
Continuous vs. Discrete Growth
-0.1
-0.05
0
0.05
0.1
0.15
0.2
1962
1964
1966
1968
1970
1972
1974
1976
1978
1980
1982
1984
1986
1988
1990
1992
1994
1996
1998
2000
2002
#
g
μ
GDP Growth
GDP displays exponential, but uneven, growth.
Macroeconomists split GDP into two parts: 1) trend; and 2) cycle
1. Trend – smooth, expositional growth
2. Cycle – Deviations of Actual GDP from Trend
Calculating Trend
Developed Economies: Ln(GDP) is a linear function of time. Estimate linear regression of ln(GDP) on constant and time.
Emerging Markets: Tend to experience slowing growth. Estimate linear regression of ln(GDP) on constant, trend, trend2.
Log Trend & Log Cycle
0
2
4
6
8
10
12
14
16
1961
1965
1969
1973
1977
1981
1985
1989
1993
1997
2001
ln(GDP)
TREND
HK GDP – Trend and Cycle
0
200000
400000
600000
800000
1000000
1200000
1400000
1600000
trend
GDP
Calculating Cycles
Gap (output gap) between actual ln(GDP) and trend ln(GDP).
Small difference between two natural logs can be interpreted as a % difference. Output gap is the % deviation of GDP from trend.
Output gap is variable and persistent but does not permanently grow or shrink over time.
Output GapOutput Gap
-0.2
-0.15
-0.1
-0.05
0
0.05
0.1
0.15
1961
1965
1969
1973
1977
1981
1985
1989
1993
1997
2001
%
Output Gap & Unemployment
-8
-6
-4
-2
0
2
4
6
8
10
1980
1982
1984
1986
1988
1990
1992
1994
1996
1998
2000
2002
Unemployment
Output Gap
Statistics
Standard deviation of the output gap to measure the volatility of the output gap.
Correlation to measure the movement of one stationary time series with one another.
Auto-correlation measures the persistence of stationary time series.
Point Elasticities
Elasticity: The % change in one variable caused by % change in another variable.
Given x = ln(X), y = ln(Y) and y = δ x(dy/dx) = δdy = (dY/Y), dx = (dX/X)So δ can be interpreted as the elasticity of X
with respect to Y
Main Sources of Hong Kong Statistics There are two main sources of macroeconomic statistics. 1. Census and Statistics Department:
National Income Accounts, CPI, Interest Rates, Employment, etc. See Frequently Requested Statistics
http://www.info.gov.hk/censtatd/eng/hkstat/index1.html
2. Hong Kong Monetary Authority:Money and Banking StatisticsSee Monthly Statistical Bulletinhttp://www.info.gov.hk/hkma/eng/statistics/msb/index.htm