Chapter 6 Every Macroeconomic Word You Ever Heard: Gross Domestic Product, Inflation, Unemployment, Recession, and DepressionChapter OutlineYou Are HereMicroeconomics vs. MacroeconomicsGross Domestic ProductMeasuring PricesPrice IndexMeasuring InflationProblems Measuring InflationBureau of Labor Statistics AdjustmentsAlternative Measures of InflationSlide 12The CPI and Inflation in Selected Year Base Years (1982-1984)Cost of Living AdjustmentsInflation’s Winners and LosersInterest and Expected InflationReal Gross Domestic ProductPost WWII RGDP 2000 in billionsProblems With RGDPMeasuring UnemploymentProblems Measuring UnemploymentAnnual Unemployment RatesTypes of UnemploymentThe Business CycleSlide 25The Business Cycle 1981 to 2009If Inflation is Bad How can Deflation be Worse?DepressionKick It Up A Notch:Alternative Approaches to GDP CalculationsChapter 6Every Macroeconomic Word You Ever Heard: Gross Domestic Product, Inflation, Unemployment, Recession, and DepressionCopyright © 2010 by The McGraw-Hill Companies, Inc. All rights reserved.McGraw-Hill/Irwin6-2Chapter Outline•Measuring the Economy•Real Gross Domestic Product and Why it is Not Synonymous with Social Welfare•Measuring and Describing Unemployment•Business Cycles6-3You Are Here6-4Microeconomics vs. Macroeconomics•Microeconomics: that part of the discipline of economics that deals with individual markets and firms•Macroeconomics: that part of the discipline of economics that deals with the economy as a whole6-5Gross Domestic Product•Gross Domestic Product: the dollar value of all of the goods and services produced for final sale in the United States in a year–“Final Sale” avoids double counting of intermediate production–“Sale” implies exclusively market activities–“produced..in the United States” implies that Hondas produced in the US count but Fords produced in Mexico do not.6-6Measuring Prices•Market Basket: what average people buy and in what quantities they buy it•Base Year: year in which the market basket is established and year to which all other prices are compared •Price of the Market Basket in the Base Year: (PBYMB) national average of the total cost of the market basket for the first month in the first year.6-7Price Index•Price Index: a device that centers the price of the market basket around 100•Consumer Price Index: the price index based on what average consumers buy1001998ofYearBasetheinBasketMarkettheofPrice2008inBasketMarkettheofPrice2008inCPI x6-8Measuring Inflation•Inflation Rate: the percentage increase in the consumer price index%10020081,JanuaryonCPI20081,JanuaryonCPI20091,JanuaryonCPI2008duringInflation x6-9Problems Measuring Inflation•Changes in the Market Basket occur every two years which is too infrequent for some goods (like consumer electronics).•The treatment of improvements in the quality of goods is inadequate.•People change the places they buy frequently.•No accounting for substitutions6-10Bureau of Labor Statistics Adjustments•The BLS is dealing with–Consumer electronics issues by pricing an index of quality rather than a specific item.–The “infrequent updates problem” by moving to a two-year chain-based index, a price index that is based on an biannually adjusted market basket.•The CPI still overstates the cost-of-living by 0.8%.6-11Alternative Measures of Inflation•Core CPI: The consumer price index that has had the impact of food and energy costs removed.•Personal Consumption Expenditures deflator: A chain-based price index that adjusts for the substitution problem. •Core PCE: The Personal Consumption Expenditures deflator that has had the impact of food and energy costs removed.•Producer Price Index: A price index based on what firms buy.6-12Alternative Measures of Inflation6-13The CPI and Inflation in Selected Year Base Years (1982-1984)Year CPI Inflation Rate1930 16.11950 25.01970 39.81990 133.8 6.11995 153.5 2.52000 174.0 3.42005 196.8 3.42006 201.8 2.52007 210.0 4.12008 210.2 0.16-14Cost of Living Adjustments•Cost of Living Adjustment or COLA: a device that compensates people for the fact that inflation makes the spending power of their income less6-15Inflation’s Winners and Losers•Losers–People on fixed incomes–Lenders•Winners–Borrowers6-16Interest and Expected Inflation•If inflation exceeds expectations then borrowers win and lenders lose•If inflation is less expectations then borrowers lose and lenders win6-17Real Gross Domestic Product•Real Gross Domestic Product: an inflation adjusted measure of GDP•GDP Deflator: the price index used to adjust GDP for inflation, including all goods rather than a market basketRGDP= *100GDPGDP Deflator6-18Post WWII RGDP 2000 in billions6-19Problems With RGDP•GDP only counts market sales so it ignores home production.•GDP ignores the value of leisure•GDP ignores the composition of output•GDP should be a per capita measure•GDP ignores environmental measures•GDP ignores the “underground economy”6-20Measuring Unemployment•Work Force: all those non-military personnel who are over 16 and are employed or are unemployed and actively seeking employment•Unemployment Rate: the percentage of people in the work force who do not have jobs and are actively seeking them6-21Problems Measuring Unemployment•Underemployed : the state of working significantly below skill level or working fewer hours than desired•Discouraged worker effect: when bad news induces people to stop looking for work causing the unemployment rate to fall•Encouraged worker effect: when good news induces people to start looking for work causing the unemployment rate to rise (until they succeed in finding work)6-22Annual Unemployment Rates6-23Types of Unemployment•Cyclically Unemployed: people lose their jobs because of a temporary downturn in the economy•Seasonally Unemployed: (a subset of the cyclically unemployed) people who lose their jobs predictably every year at the same time•Structurally Unemployed : people who lose their jobs because of a change in the economy that makes their particular skill obsolete•Frictionally Unemployed: people who are unemployed for a short time in the transition to an equal or better job6-24The Business Cycle•Business Cycle: regular pattern of ups and downs in the economy•Trough: the lowest point in the business cycle•Recovery: the part of the growth period of the business