The Global Economy

Introduction

Roadmap

• Weekly discussion

• Trends

• Trade in goods and services

• Fluctuations

• Inflation and output

• Course information

Weekly discussion

• First 10-15 minutes of class• Focus on topic from Bb discussion

– More on this later• A hook into current events

– Be reading! (The Economist, FT, …)– Interesting articles, anecdotes?

FOMC Statement (9/13/12)

• “To support a stronger economic recovery … the Committee agreed today to increase policy accommodation by purchasing additional agency MBS at a pace of $40 billion per month.”

• “If the outlook for the labor market does not improve substantially, the Committee … will undertake additional asset purchases … until such improvement is achieved in a context of price stability.

• “The Committee … currently anticipates that exceptionally low levels for the federal funds rate are likely to be warranted at least through mid-2015.”

• Why such an aggressive policy?

Where do we Stand?Output by cycle

Productivity by cycle

Labor by cycle

U.S. vs. Europe

Class participation

• A part of class – I expect everyone to participate: expect cold

calls– Answer a question– Make a comment– Share an experience– Post to Bb discussion

• Broad range of backgrounds– Expert: keep it short– Non-expert: don’t panic

Roadmap

• Weekly discussion

• Trends

• Trade in goods and services

• Fluctuations

• Inflation and output

• Course information

The big picture

Long-Run Performance

Production, Saving & Investment, Productivity, Institutions, Capital & Labor Markets, International Trade

Short-Run Performance

Inflation, Economic Indicators, Aggregate Supply & Demand,

Monetary Policy, Taxes & Deficits, Exchange Rates, Capital Flows,

Emerging Market Crises

First half:

Second half:

Long run: GDP per capita

USA Japan Ar-gentina

China India Ghana Burundi0

5,000

10,000

15,000

20,000

25,000

30,000

35,000

40,000

45,000

ppp g

dp p

er

capit

a

Source: Penn World Tables 7.0.

Short run: US real GDP growth

Jan-00 Jan-02 Jan-04 Jan-06 Jan-08 Jan-10 Jan-12-6.0

-4.0

-2.0

0.0

2.0

4.0

6.0

an

nu

al

gro

wth

rate

(%

)

?

Trends

The wealth of nations

• U.S. GDP/capita > 100 x Burundi GDP/capita

• What explains these differences?

Long-run economic growthGDP per capita in Year 2000 international dollars

Source: Maddison, 2001; 2008 estimate based on Maddison tables.

Trends are important

1700 1750 1800 1850 1900 1950 20008

9

10

11

12

13

14

15

gdp p

er

capit

a (

1990 G

K$,

log b

ase

2)

United States

Argentina

China

Germany

Ghana

Source: Maddison, “Historical Statistics for the World Economy”

Do institutions matter?

500 5000 500001

2

3

4

5

6

7

8

9

10

per capita income (2008 U.S.$)

corr

up

tion

in

dex

China

Note: Size of circle is proportional to population. Data sources: World Bank and Transparency International.

U.S.

India

Do institutions matter?

499.999999999999 4999.99999999999 5000030

40

50

60

70

80

90

per capita income (2008 U.S.$)

con

tractu

al

freed

om

in

dex

India

Note: Size of circle is proportional to population. Data sources: World Bank and Heritage Foundation.

U.S.

China

Common culture, different institutions

Trade in Goods and Services

Who trades what, and why?

How do trade patterns evolve?

• Who are the U.S.’s largest trade

partners?

• What good is most traded? (value-

wise)

• How are trade patterns changing?

• Why are they changing?

US imports

1996 2001 2006 20110.00

0.05

0.10

0.15

0.20

0.25

shar

e of

tot

al im

por

ts

US imports

1996 1998 2000 2002 2004 2006 2008 20100.00

0.05

0.10

0.15

0.20

0.25

share

of

tota

l im

port

s Canada

Japan

China

Mexico

US exports

1996 2001 2006 20110.00

0.05

0.10

0.15

0.20

0.25

share

of

tota

l export

s Canada

Japan

China

Mexico

Short-run Fluctuations:

Business Cycles

Business cycles

Jan-50 Jan-60 Jan-70 Jan-80 Jan-90 Jan-00 Jan-102000

4000

6000

8000

10000

12000

14000

bil

20

00

US

D

Business cycles

0

2

4

year-

on

-year

gro

wth

rate

(%

)

avg. 1950q1-2012q2 = 3.2%

Inflation and Output

US inflation (annual)

Jan-80 Jan-85 Jan-90 Jan-95 Jan-00 Jan-05 Jan-10-2

0

2

4

6

8

10

12

14

16

perc

en

t

Argentina inflation (annual)

1986 1987 1988 1989 1990 1991 19920

500

1000

1500

2000

2500

3000

3500

perc

en

t

Inflation and output: evidence 1959-69

-1 -0.8 -0.6 -0.4 -0.2 0 0.2 0.4 0.6 0.8-4

-3

-2

-1

0

1

2

3

4

f(x) = 3.25651157957769 x + 1.1930126369759R² = 0.393335294253362

surprise inflation (%)

GD

P d

evia

tion

s fr

om

tre

nd

(%

)

Inflation and output: evidence 1959-99

-2 -1.5 -1 -0.5 0 0.5 1 1.5 2 2.5 3-6

-4

-2

0

2

4

6

f(x) = − 0.0136658099866183 x + 0.00708330177807901R² = 4.34617038901353E-05

surprise inflation (%)

GD

P d

evia

tion

s fr

om

tre

nd

(%

)

About the course

• Main data sources– Blackboard– Syllabus: on Bb– Announcements: on Bb– Course by session: on Bb

About me

• Originally from Madison, WI• PhD in Economics, U. Minnesota• Previous: U. Texas-Austin, Minneapolis FED • Research interests:

– International trade policy – Firm level export decisions – Emerging market crises

• Other interests:– Computers, running, beer

About the teaching assistant

• M: Saahil Sajnani– sps362@stern.nyu.edu

• T: Deger Atay– da1188@stern.nyu.edu

• W: Jasper Cooper– jc3850@stern.nyu.edu

About class notes

• No textbook!• Theoretical background to class

discussion• Executive summaries: more concise than

a textbook• Custom designed for this course • Read them – preferably before class • Entire PDF is available for download from

Bb– Perfect for phone, tablet, etc.

About your grade

Participationoutliers/tiebreakers

Assignments 33%

Exam 1 30%

Exam 2 37%

About assignments

• 5 problem sets• PS #0: individual problem set• PS #1-4: group work is fine

– You chose the group– No more than 5 to a group– Group of 1 is fine

• Drop lowest score, average the rest• Submit via Bb dropbox

About assignments

• Weekly discussion board• A way to

– Participate– Keep up on current issues

• Once during the semester, you will post a “lead” comment– Details in handout

About help!

• Problem set help– Post to discussion board, I will answer

there

• Other help– Send me an email

– Stop by

– See the teaching assistant

About helping me

• Course works best if communication goes both ways

• If you have ideas, comments, questions, whatever: – Send an email – Speak to the teaching assistant – Post on the discussion board

Summary

As Haiku:

read notes before classif you need help ask for itBlackboard is knowledge

The Global Economy

Measurement

Roadmap

• FRED• Headline Data

– Gross Domestic Product (GDP)– Inflation

• How are they measured?• What are the basic facts?• Why care about GDP?

Your friend FRED

• Federal Reserve Economic Database (FRED)– Basic tutorials– Mobile apps– Excel add-ins for Windows and Mac

• Basic graph: Enter code in FRED search box

• Edit graph to change dates, frequency, appearance, units, etc.

• PDF of graph for homework• Download data into Excel spreadsheet

FRED data in Excel• Start at FRED home page• Graph the first data series that you wish

to download• Click “Edit Graph”

– (1) Adjust the date range, frequency, units– (2) Click “Add data series”– (3) Enter new data code in the search box, repeat step

1 and click “Redraw Graph”– (4) Repeat steps (1) to (3) until the series are all

graphed

• Click “Download Data in Graph” • Save the Excel file for further analysis of

data

Why worry about measurement?

• Need a common vocabulary• Small changes in definition make big

differences• Accurate forecasting requires

consistent measurements

GDP per capita (PPP adj, 2006 USD)

US France Japan China India Brazil Mexico0

10000

20000

30000

40000

50000

Source: PWT 7.0

Growth of GDP per capita (forecast for 2013)

US Japan France Mexico Brazil China India0

2

4

6

8

10

Source: OECD Economic Outlook, April 2012.

GDP

• GDP = Gross Domestic Product • Total value of production in an

economy– Sum of value-added by production units

• Equals: – payments to labor and capital (owners) – sales of final goods, minus imports – (almost) income

Expenditure flows

• Allocate GDP among purchasers of final goods:

Y = C + I + G + NX– Y = GDP

– C = sales to households

– I = sales of capital goods to firms

– G = purchases of goods and services by government

– NX = X-M net exports (net sales to other countries)

GDP identitiesFarmer

Sales = $10

Farm Rent = $3

Net Income = $7

Value Added =??

Brewer

Sales = $110

Factory Rent = $30

Wages = $70

Barley = $10

Value Added =??

Landlord’s income +wages + profits = ??

Value added farming + value added brewing = ??

Final production farming + final production brewing = ??

GDP identitiesFarmer

Sales = $10

Farm Rent = $3

Net Income = $7

Value Added =??

Brewer

Sales = $110

Factory Rent = $30

Wages = $70

Barley = $10

Value Added =??

Landlord’s income +wages + profits = ??

(3+30) + (70) + (7) = 110

Value added farming + value added brewing = ??

(10) +(100) =110

Final production of barley + final production of beer = ??

(0) +(110) =110

GDP identities: extended example

GDP C I G X M

GDP Ford Goodyear Spock LIC

GDP Ford Goodyear Spock LIC

GDP by expenditure:

GDP by value added:

GDP as payments to labor and capital:

GDP by industry

1950 1960 1970 1980 1990 2000 20100

5

10

15

20

25

30

shar

e of

GD

P (

%) manufacturin

g

FIRE

bus. services

agriculture

GDP by income type

1950 1960 1970 1980 1990 2000 20100

0.1

0.2

0.3

0.4

0.5

0.6

0.7

shar

e of

GD

P (

%)

labor compensation

corp. profits interest

rental income

GDP by expenditure

1950 1960 1970 1980 1990 2000 2010-0.1

0.0

0.1

0.2

0.3

0.4

0.5

0.6

0.7

0.8

share

of

GD

P (

%)

private consumption

government consumption

investment

net exports

Savings flows I

Allocate flows of assets:

Y – C – G = I + NX

S = I + NX • S = (gross) national saving (purchases of

assets)

• NX = net purchases of foreign assets

Savings flows II

• Allocate flows of assets:

(Y–C–T) + (T– G) = I + NX

Sp + Sg = I + NX – T = taxes net of transfers paid by households

to govt

• Beware: many measures of saving • Later in the course

– We’ll include income and transfers with foreign countries and replace NX with the “current account”

Saving

1980 1985 1990 1995 2000 2005 2010-0.10

-0.05

0.00

0.05

0.10

0.15

0.20

shar

e of

GD

P (

%) saving

investment

net exports

Personal saving

1980 1985 1990 1995 2000 2005 20100

2

4

6

8

10

12

14

share

of

dis

posa

ble

in

com

e

(%)

saving=personal income-taxes-personal consumption+net transfers

Household net worth

1960 1970 1980 1990 2000 20102.5

3.0

3.5

4.0

4.5

5.0

net

wort

h /

GD

P

Source: flow of funds

Household net worth

1960 1970 1980 1990 2000 20100.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0 350

400

450

500

550

600

650

savi

ngs

rat

e (%

)

net

wor

th /

dis

p. i

nco

me

(%)

Source: BEA

What about prices?

Nominal GDP (at current prices):

What happens when prices change?

...ipod ipod pizza pizza espresso espressoY P Q P Q P Q

Prices and quantities

• GDP measures output at market prices

• What if prices change? – If GDP rises, how much is higher quantity, how

much higher prices?

• Two measures– GDP at current prices

– GDP at constant prices (e.g. 2005 prices)

• Problem: many ways to do this

Two ways to measure inflation• Approach 1 (“fixed price”)

– Compute GDP at current prices (“nominal GDP”) – Compute GDP at constant prices (e.g., 1990) (“real

GDP”) – Compute price deflator = ratio of first to second – Inflation is rate of change of deflator

• Approach 2 (“fixed basket/quantity”)– Compute GDP at current prices (“nominal GDP”) – Compute price index as cost of a fixed “basket” of

products– Compute real quantity as ratio of nominal quantity to

index– Inflation is rate of change of index

Example

Fish Chips

Date PriceQuantit

yPrice

Quantity

2004 0.50 10 0.25 10

2005 0.75 12 0.50 8

What is the inflation rate?

What is real output growth?

Fixed price method (GDP deflator)

Fish Chips

Date Price Quantity Price Quantity

2004 0.50 10 0.25 10

2005 0.75 12 0.50 8

DateNominal

GDPReal GDP

Price Deflator

2004

2005

Growth rate

Base year: 2004

Fixed price method (GDP deflator)

Fish Chips

Date Price Quantity Price Quantity

2004 0.50 10 0.25 10

2005 0.75 12 0.50 8

DateNominal

GDPReal GDP

Price Deflator

2004 7.50 7.50 1.000

2005 13.00 8.00 1.625

Growth rate 55% 6.5% 48.6%

Base year: 2004

Fixed price method (GDP deflator)

Fish Chips

Date PriceQuantit

yPrice

Quantity

2004 0.50 10 0.25 10

2005 0.75 12 0.50 8

Base year: 2005

Date Nominal GDP Real GDPPrice

Deflator

2004

2005

Growth rate

Fixed price method (GDP deflator)

Fish Chips

Date PriceQuantit

yPrice

Quantity

2004 0.50 10 0.25 10

2005 0.75 12 0.50 8

Base year: 2005

Date Nominal GDP Real GDPPrice

Deflator

2004 7.50 12.50 0.600

2005 13.00 13.00 1.000

Growth rate 55% 3.92% 51.1%

How important was IT in the 1990s?

• Features: – Output grew rapidly (60%/year)– Prices fell– Output quality improved

• Result: when base year was updated, real growth fell– Why?

• Approaches: – Chain weighting – Adjust prices for quality change (easier said than done)

Fixed quantity method (CPI)

Fish Chips

Date PriceQuantit

yPrice Quantity

2004 0.50 10 0.25 10

2005 0.75 12 0.50 8

DatePrice Index

(2004 Basket)Price Index

(2005 Basket)

2004

2005

Growth rate

Fixed quantity method (CPI)

Fish Chips

Date PriceQuantit

yPrice Quantity

2004 0.50 10 0.25 10

2005 0.75 12 0.50 8

DatePrice Index

(2004 Basket)Price Index

(2005 Basket)

20047.50/7.50*100=100

.08.00/13.00*100=61

.5

200512.50/7.50*100=16

6.713.00/13.00*100=1

00.0

Growth rate 51.1% 48.6%

Details, details

• Not in GDP – Capital gains, (houses, equity) – Interest on government debt

• Government services are valued at cost• Home production not counted• Black market transactions not counted• GNP = GDP + net foreign factor income

– Difference a fraction of a percent in US – Larger for countries with substantial foreign investment

Why worry about GDP?

• The obvious– GDP is income

– GDP is correlated with employment, investment,…

• The less obvious– GDP is highly correlated with

human development

– GDP is (inversely) correlated with poverty rates

GDP and quality of life

Per capita GDP: $41,000 Per capita GDP: $31,000

Avg weekly hours: 35 Avg weekly hours: 29

Summary

• GDP is: output, income, and expenditure

• Measuring real GDP is tricky– Fixed weight index– Fixed price index– Neither is perfect

Summary

• Composition by industry – Manufacturing shrinking– Services growing

• Payments to factors– Labor share near 2/3, rest payments to

capital– Shares constant

• Expenditure– Private consumption: 60% to 70% of

GDP– Private investment: 15% to 20% of GDP

Something for the ride home

• How would you adjust social security payments to ensure a constant real payout?– What is the big picture?– What are the issues?