deals with "what is"- no value judgments are made.

ex. the price of apples is $1 per pound. consumbers bought 250 pounds of apples at a local supermarket last week at that price 

deals with "what should be"- value jugments are made

ex. consumers deserve more apples and the price of the apple should be $1.50 per pound 

1. what to produce

2. for who to produce

3. how to produce 

-land

-labor

-capital (physical *machines, factories; human capital* knowledge, training)

-sometimes entrepreneurship 

-given time period

-fixed technology

-fixed resources

-efficient use of said resources 

a variable which can be measured over time.

-gdp is one

-income is one 

a variable which can be measured at a point in time

-money is one

-wealth is one 

1. purchases & sales of stocks & bonds

2. government transfer payments

3. private transfer payments

4. sales of preowned items

5. illegal activities

6. do-it-yourself production

7. legal but unreported activities 

net investment = gross investment - depreciation

gross investment: total spending on firms

net investment: better measure of the increase in the ability to produce 

C+I+G+NX= GDP

consumption

investment

government purchases

net exports

Y=C+I+G+NX=C+S+T-TR

where s=savings

t=taxes

tr= government transfers 

Yd=C+S

c=consumption

s=savings 

Yd=C+S=Y+TR-T 

1. consumper price index (CPI)

2. Producer Prince Index (PPI)

3. GDP deflator 

weighted average of prices of some goods that urban consumers pay

measures change in price over "basket of goods" over time 

∏_t+1=   P_t+1-P_t

                                      ---------

                                          P_t

Pi= (price level in period t+1)-(price level in period t)

----------------------------------------------------

(price level in period t) 

inflation is the percentage change in the price level between two price periods

what is the formula for inflation? 

Real GDP

because  

What is a better measure of production?

nominal or real GDP? 

(nominal GDP/Price Level) x 100

-GDP deflator uses all goods produced in an economy. CPI uses a fraction

-GDP Deflator bundle of goods changes frequently based on what is produced. CPI bundle changes infrequently

-GDP deflator changes automatically. CPI is changed

-CPI includes import prices. GDP Deflator does not because imports are not a part of the GDP 

1. substitution bias (cheaper altnernatives when prices rise)

2. introduction of new goods (new goods increase variety, leading to increase in the value of dollar. consumers need fewer dollars to reach given living standard)

3. unmeasured qaulity change (when tech. improves; it is possible to produce higher quality goods. if quality improves, but price stays the same, value of dollar decreases)

late 1800s UK was the richest nation

today...

the US, Canada, Japan, and Germany have higher per capita GDP than the UK

Japan has the fastest growing rate of per capita real GDP 

-investment allows a country to produce more by expanding its PPF

-opportunity cost of investment means fewer consumption goods today

-countries w/high investment usually have high growth in Real GDP. It is also true that countries with high growth in real gdp have high investment

1. Investment tax credit

2. Public education improves human capital

3. Govt subsidies and grants promote research and development

4. Patents, copyrights, property rights, and political stability

5. Promoting saving to make it easier for firms to borrow if needed to invest

6. Atrracting investment from other countries

7. Political Stability reduces the threat of losing investments 

makes predictions about how much an economy can produce as it continues to add more and more units of physical capital where each unit of physical capital has an identical quality.

*we assume that the economy is adding more and more machines that are exactly the same 

Convergence Theory or Absolute Convergence Theory

decades of data suggest:

still very long way away from this (50+ years)

probably will not occur  

states that at some future point, all economies will have roughly the same per capita real GDP

$1

someone will save and someone will spend

it will even out over the long run 

MPC= (C2-C1)

--------

(Y2-Y1)

(change in c) divided by (change in y) 

formula for marginal propensity to consume

mpc and mps are interchangeable 

1

*change in y is usually relatively small 

Y=MX+B

*b=y intercept

m=slope

M=change in Y/change in X= rise/run 

autonomous consumption

consumption determined completely independently of income

C= C-Bar + mpc*Y = C-bar + c*Y

y=income

because even if someone had NO income, they would have to have necessities which would cause them to borrow.

this would create economy even if income was zero.  

-income (movement along line)

shift: 1. wealth

2. price levels

3. interest rates

4. expectation of future variables (more/less income)

5.  Autonomous consumption

1. doesn't change

2. 70%, 20% 

 1. If MPC doesn't change then slope _____.

2. Consumption accounts for ____ % of GDP and Investment accounts for _____ % of GDP.  

I=I-Bar+Φ*Y

I=I-Bar 

Investment Formula

I-Bar is autonomous investment and phi is a variable that can be estimated

phi=0 

1. interest rates

2. expectation of future sales/profit

3. available production capacity with existing capital 

government purchases are made independently of income...

therefore... G=G-bar 

net exports are determined autonomously

therefore...

NX=NX-Bar 

1. income in other countries

2. price levels domestically v. abroad

3. exchange rates

4. interest rates domestically v. abroad

-occurs when no party in a market or economy has an incentive to change behavior

-a point toward which the economy is moving unless something is preventing this movement.

-economy will stay at equilibrium unless something changes 

used to calculate resulting change in equilibrium GDP

formula 

-change in price levels

-change in taxes

-change in interest rates

-price levels are constant

-taxes are constant

-interest rates are constant 

-law of demand

-affordability

-substitutability 

1. law of supply (as price increases, quantity supply increases)

2. higher prices create incentives for greater production 

3. producing larger quantities often creates a higher per unit cost of production  

+: number of firms, technology & productivity, subsidies

-: input costs, taxes, price expectations 

-income

-tastes and preferences (+)

-prices of related goods

-number of buyers  (+)

-expectations of future prices (+) 

-foreign price

-exchange rate

US Price=(foreign price)/(exchange rate) 

Availibility of resources

technology

availability of labor

expectation of future inflation or future prices 

(1) at each price level, producers can produce less due to less oil or other input

(2) at each output level, producers require higher prices due to increased production costs 

-SRAS shifting left

-price levels increase but real GDP is constant or decreasing 

-a medium of exchange

-a unit of account

-a store of value 

-commodity money (extra value besides monetary)

-Fiat money (paper currency)