Introduction

Introduction

The macroeconomic approachNational accounting

Organisation of the semester

Same organisation as last term: Same marking system for the seminars Same split on conference mark / final exam

The exam will have the same format: Multiple choice Questions on lecture material 2 Exercises


Seminar marks will be the same 2 class tests counting for 50% Exercise mark counting for 30% Attendance and participation for 20%

As for last term, you are free to hand in your work when you wish.

The exercise mark is the average of the best 6 marks


Part 1 : Equilibrium in the goods and money market Weeks 2-6

Part 2 : Relaxing the fixed price hypothesis Weeks 7-10

Part 3 : Extending the model : international trade and growth Weeks 11-12

Macroeconomic questions

Why are incomes higher today than in 1950 ? Why do certain countries have high rates of

inflation? Is money neutral or can it influence economic

activity? What causes recessions ? How can public intervention reduce the size

and duration of unemployment ? How can public intervention increase the well-

being of the population?

Introduction

The Macroeconomic approach

Gross domestic product

The rate of inflation

The macroeconomic approach

The Macro approach is different than the micro approach It’s not just a question of scale: macro can look

at individual markets, micro can involve “general equilibrium” analysis

It’s more a question of the methodology used:

Micro looks to understand the decision process of individual agents

Macro looks to understand the flows of goods and services in the economic circuit


So macro still uses models and maths, but not in the same way as micro: In particular, Keynesian macroeconomics has

no optimisation behaviour. This is actually a criticism that was made in the

70’s, (Lucas critique): macroeconomic knowledge is not supported by individual decision making.

As a result, more modern approaches (like “rational expectations”) are micro founded, so they do have optimising behaviour as well.


The aim is to understand the behaviour of certain aggregate variables : income, prices, unemployment, etc.

The main approach is to solve a system of equations : An equation needs to be provided for each

variable to be explained. Each “equation” is provided by a market

equilibrium condition. You need as many markets as variables to

solve for the equilibrium


Modelling strategy

Aggregate supply curve

Aggregate demand curve

Model of macroeconomic

fluctuations

IS-LM model

IS Curve LM Curve

Keynesian Equilibrium

Money market equilibrium

Labour market Equilibrium

Introduction




Gross Domestic Product

GDP allows us to evaluate, with a single number the market value of economic activity

This is possible because of the existence of accounting identities, which underpin national accounting

Each transaction has a seller and a buyer so we have ⇒ Income = Expenditure

GDP is equal to the sum of all the incomes paid to members of an economy

GDP is also equal to the sum of all the expenditures on the goods and services produced by this economy


Expenditure can be broken down into:

C Consumption : Durable goods, non durables, services

I Investment : Fixed capital formation, non residential & residential,

G Public expenditure : Goods and services purchased by the administrations

(X-M ): Net value of exchange with the rest of the world MXGICGDP

109×€ Per Cap. €

Gross Domestic Product (2008) 1 950.1 25 210.2

Consumption 1 565.7 22 696.7

Final consumption expenditure of households 1 086.8 17 499,1

Investment 427.2 6 878,6

Gross formation of fixed capital (households and firms) 345.5 5 563,1

Changes in Inventory 5.3 85,3

Public expenditure

Final consumption expenditure of public admin. 514.0 8 276,2

Net Exports -48.2 -776,1

Exports 515,6 8 302,0

Imports 563,8 9 078,0

Sources: Comptes nationaux INSEE 2008



A few national accounting identities:

GNP: Gross National Product = GDP + factor incomes from the rest of the world- factor incomes paid to rest of the world

NNP: Net National Product = GNP - depreciation

NI: National Income = NNP – Indirect taxes on productions (VAT)


GDP also measures the value produced This is because the value of a good is conserved in a

transaction Therefore GDP = sum of incomes = sum of

expenditures = sum of value added produced.

Two equivalent methods exist GDP is the value of the final outputs (difficult to

calculate) GDP is the sum of value added at each stage of

production (the one used in practice)

GDP only measures the value produced in a given period (1 year), not in earlier periods


Example: an economy has produced 4 apples and 3 oranges during the year

These products are added, weighted by their respective market prices in order to obtain the market values

Imagine that apples are sold at 0.5€ and oranges are sold at 1€

GDP = (0,5€ × 4) + (1€ × 3) GDP = 5 €


The general formula for year t is:

i

it

itt QPGDP

QPQPGDP

QPQPGDP

nominal

Oranges2008

Oranges2008

Apples2008

Apples2008

nominal2008

Oranges2007

Oranges2007

Apples2007

Apples2007

nominal2007



GDP is used to measure the overall level of economic activity in a country

If GDP increases from year to year, then the economy is said to be experiencing growth

If GDP is falling from year to year, then the economy is said to be experiencing a recession (or a depression, for extended periods of time)


However, nominal GDP can change for two reasons A change in the level of economic activity A change in the level of prices

Therefore, before we are able to use GDP to measure changes in economic activity, we must make sure we use a single set of prices. That way GDP is measured in constant €s Application of “Ceteris Paribus”

i

it

ibaset QPGDP

QPQPGDP

QPQPGDP

real

Oranges2008

Oranges2000

Apples2008

Apples2000

2000 basereal,2008

Oranges2007

Oranges2000

Apples2007

Apples2000

2000 basereal,2007


Real GDP is always expressed with respect to an arbitrarily chosen base year


nominal2000

2000 basereal,2000

Oranges2000

Oranges2000

Apples2000

Apples2000

2000 basereal,2000

GDPGDP

QPQPGDP

?2000 basereal,2000 GDP



Real GDP is usually calculated by using a deflator on Nominal GDP

Oranges

2008Oranges

2000Apples2008

Apples2000

Oranges2008

Oranges2008

Apples2008

Apples20082000 base

2008

basebase

Deflator GDP

GDP Real

GDP NominalDeflator GDP

QPQP

QPQP

t

tt

i

it

ibase

i

it

it

t QP

QPbaseDeflator GDP


By construction, the GDP deflator is always equal to one for the base year.

Introduction





The most well known measure of prices is the Consumer Price Index (CPI) Inflation is a general increase in the level of

prices (measured by the index) To calculate the index, the prices of thousands

of goods and services are collected The CPI then aggregates these into a single

measure of the level of prices The prices are weighted by the shares of the

various goods in the “representative basket”


o CPI in 2008 based on a basket of 3 apples and 2 oranges in 2000 (base year)

i

ibase

ibase

i

ibase

it

t QP

QP

PP

PP

QPQP

QPQP

base

Oranges2002

Apples2002

Oranges2008

Apples20082000 base

2008

Oranges2002

Oranges2002

Apples2002

Apples2002

Oranges2002

Oranges2008

Apples2002

Apples20082000 base

2008

CPI

23

23CPI

CPI


Dis

infla

tion

polic

y

Firs

t Oil

Sho

ck

Sec

ond

Oil

shoc

k

Cre

atio

n of

the

Eur

o

CPI Inflation in France


Is the CPI the same as the GDP deflator ?These indices are similar...

Both measure the level of prices Both are based on a “basket” of goods

... but not identical The weights don’t change in the CPI, they do in

the deflator The baskets are different : the deflator includes

all goods, the CPI consumer goods The CPI includes imported goods, not the deflator The methodology is not the same.


i

it

ibase

i

it

it

t

i

ibase

ibase

i

ibase

it

t

QP

QP

QP

QP

base

base

Deflator GDPindex Paasche

CPIindex Laspeyres


CPI and GDP deflator for France

Documents

Introduction