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Individual choice
the decision by an individual of what to do, which necessarily involves a decision of what not to do
Basic principles behind the individual choices:
1. Resources are scarce. 2. The real cost of something is what you must give up to get it. 3. “How much?” is a decision at the margin. 4. People usually take advantage of opportunities to make themselves better off.
resource
is anything that can be used to produce something else.
scarce
the quantity available isn’t large enough to satisfy all productive uses.
opportunity cost
what you must give up in order to get it.
a trade-off
when you compare the costs with the benefits of doing something
marginal analysis.
Making trade-offs at the margin: comparing the costs and benefits of doing a little bit more of an activity versus doing a little bit less.
Principles that underlie the interaction of individual choices:
1. There are gains from trade. 2. Markets move toward equilibrium. 3. Resources should be used as efficiently as possible to achieve society’s goals. 4. Markets usually lead to efficiency. 5. When markets don’t achieve efficiency, government intervention can improve society’s…
specialization
This increase in output is due to specialization: each person specializes in the task that he or she is good at performing
equilibrium
when no individual would be better off doing something different.
An economy’s resources are used efficiently when
they are used in a way that has fully exploited all opportunities to make everyone better off.
economy is efficient
if it takes all opportunities to make some people better off without making other people worse off.
§Why do markets fail?
§Individual actions have side effects not taken into account by the market (externalities). §Some goods cannot be efficiently managed by markets. §Ex.: Traffic, Pollution § §Government intervention
Principles that underlie economy-wide interactions:
1. One person’s spending is another person’s income. 2. Overall spending sometimes gets out of line with the economy’s productive capacity. 3. Government policies can change spending.
Long-run economic growth
is the sustained upward trend in the economy’s output over time
business cycle
is the short-run alternation between economic downturns and economic upturns. Irregular and Unpredictable
depression
is a very deep and prolonged downturn.
Recessions
are periods of economic downturns when output and employment are falling.
Expansions
sometimes called recoveries, are periods of economic upturns when output and employment are rising.
stabilization policy
Policy efforts undertaken to reduce the severity of recessions are called
monetary policy
One type of stabilization policy. changes in the quantity of money or the interest rate. -uses changes in the quantity of money to alter interest rates and affect overall spending.
fiscal policy
The second type of stabilization policy: changes in tax policy or government spending, or both. -uses changes in government spending and taxes to affect overall spending.
self-regulating economy (Classical economics)
problems such as unemployment are resolved without government intervention, through the working of the invisible hand
Keynesian economics
economic slumps are caused by inadequate spending and they can be mitigated by government intervention
inflation.
A rising aggregate price level
deflation
A falling aggregate price level
inflation rate
is the annual percent change in the aggregate price level.
price stability
when the aggregate price level is changing only slowly.
open economy
an economy that trades goods and services with other countries
trade deficit
when the value of goods and services bought from foreigners is more than the value of goods and services it sells to them.
trade surplus
when the value of goods and services bought from foreigners is less than the value of the goods and services it sells to them.
GDP
measures the total value of all final goods and services produced in the economy during a given year.
THE MEASUREMENT OF GROSS DOMESTIC PRODUCT
GDP is the Market Value -Output is valued at market prices. Of All Final -It records only the value of final goods, not intermediate --goods (the value is counted only once). Goods and Services -It includes both tangible goods (food, clothing, cars) and intangible services (haircut…
Real GDP
is the total value of the final goods and services produced in the economy during a given year, calculated using the prices of a selected base year.
Nominal GDP
is the value of all final goods and services produced in the economy during a given year, calculated using the prices current in the year in which the output is produced.
GDP deflator
deflator is a measure of the price level calculated as the ratio of nominal GDP to real GDP times 100. It tells us the rise in nominal GDP that is attributable to a rise in prices rather than a rise in the quantities produced.
aggregate price level
level is a measure of the overall level of prices in the economy.
price index
is the ratio of the current cost of that market basket to the cost in a base year, multiplied by 100.
Consumer Price Index (CPI)
is a measure of the average change over time in the prices paid by urban consumers for a market basket of consumer goods and services.
inflation rate
is the yearly percentage change in a price index, typically based upon Consumer Price Index, or CPI, the most common measure of the aggregate price level.
Employment
is the number of people currently employed in the economy, either full time or part time.
Unemployment
is the number of people who are actively looking for work but aren’t currently employed. .
labor force
is equal to the sum of employment and unemployment.
labor force participation rate
is the percentage of the population aged 16 or older that is in the labor force.
unemployment rate
is the percentage of the total number of people in the labor force who are unemployed.
Discouraged workers
are nonworking people who are capable of working but have given up looking for a job given the state of the job market.
Marginally attached workers
would like to be employed and have looked for a job in the recent past but are not currently looking for work
Underemployment
Underemployment is the number of people who work part time because they cannot find full-time jobs.
Frictional unemployment
is unemployment due to the time workers spend in job search
Structural unemployment
is unemployment that results when there are more people seeking jobs in a labor market than there are jobs available at the current wage.
Efficiency wages
wages that employers set above the equilibrium wage rate as an incentive for better performance.
Cyclical unemployment
is a deviation in the actual rate of unemployment from the natural rate
isreal wage
is the wage rate divided by the price level.
Real income
is income divided by the price level
Shoe-leather costs
are the increased costs of transactions caused by inflation.
Menu cost
cost is the real cost of changing a listed price.
Unit-of-account costs
arise from the way inflation makes money a less reliable unit of measurement.
Rule of 70
tells us that the time it takes a variable that grows gradually over time to double is approximately 70 divided by that variable’s annual growth rate.
aggregate production function
function is a hypothetical function that shows how productivity (real GDP per worker) depends on the quantities of physical capital per worker and human capital per worker as well as the state of technology.
Growth accounting
estimates the contribution of each major factor in the aggregate production function to economic growth.
aggregate demand curve shows …
1.the relationship between the aggregate price level and the quantity of aggregate output 2.demanded by households, businesses, the government and the rest of the world.
what effects AD curve
Tax, Gov spending Investment Consumer confidence, Credit, residential wealth, financial wealth, biz confidence, competition, Exchange Rate
short run aggregate supply curve
shows the relationship between the aggregate price level and the quantity of aggregate output in the economy. sticky wages sticky prices Productivity : Labor, Capital, Natural Resources, Technology) Cost of Resources : Commodity prices (Nominal Wage, Oil Price etc.) •Expected Prices…
long-run aggregate supply curve
shows the relationship between the aggregate price level and the quantity of aggregate output supplied that would exist if all prices, including nominal wages, were fully flexible.
long-run macroeconomic equilibrium
when the point of short-run macroeconomic equilibrium is on the long-run aggregate supply curve
recessionary gap
when aggregate output is below potential output.
inflationary gap
when aggregate output is above potential output.
Stagflation
Adverse shifts in aggregate supply cause stagflation (= Stagnation + inflation)—a period of recession and inflation output falls, prices rise
Active stabilization policy
using fiscal or monetary policy to offset shocks
Stabilization policy
is the use of government policy to reduce the severity of recessions and rein in excessively strong expansions.
expansionary fiscal policy
-closes a recessionary gap by increasing a aggregate demand -leads to an increase in real GDP larger than the initial rise in aggregate spending caused by the policy.
contractionary fiscal policy
-eliminate a inflationary gap by reducing aggregate demand -leads to a fall in real GDP larger than the initial reduction in aggregate spending caused by the policy.
crowding-out effect
An increase in government purchases causes the interest rate to rise. Supply of bonds increases à Bond prices fall à interest rate rises à less private spending (especially I)
limits to fiscal policy
1.Crowding out 2.A drop in the bucket 3.A matter of timing 4.Real Shocks
deficit
is the difference between the amount of money a government spends and the amount it receives in taxes over a given period.
debt
is the sum of money a government owes at a particular point in time.
Implicit liabilities
are spending promises made by governments that are effectively a debt despite the fact that they are not included in the usual debt statistics.
medium of exchange
is an asset that individuals acquire for the purpose of trading rather than for their own consumption.
store of value
is a means of holding purchasing power over time.
unit of account
is a measure used to set prices and make economic calculations.
Commodity money
Intrinsic value
Fiat Money
Without intrinsic value
commodity-backed money
Without intrinsic value with guarantee of converting into valuable goods
The most important assets that serve as money in the U.S. today are
1.Currency: Paper bills and coins. 2.Total reserves held by banks at the Fed. 3.Checkable deposits: your checking or debit account. 4.Savings deposits, money market mutual funds, and small-time deposits.
“liquid asset"
An asset that can be used for payments, or, quickly and without loss of value, be converted into an asset that can be used for payments.
The monetary base
currency outstanding and total reserves at the Fed. is the sum of currency in circulation and bank reserves.
M1
currency outstanding and checkable deposits Currency in circulation + Bank Deposits
M2
M1 plus saving deposits, money market mutual funds, and small-time deposits.
Open market operations
buying and selling of U.S. government bonds on the open market.
Discount rate
lending and the term auction facility: Federal Reserve lending to banks and other financial institutions.
Required reserves
.and payment of interest on reserves: Changing the minimum RR; paying interest on any reserves held by banks at the Fed.
money demand curve
shows the relationship between the quantity of money demanded and the interest rate. shifts: -changes in aggregate price level -changes in Real GDP -Changes in Technology Changes in Institutions
money supply curve
shows how the nominal quantity of money supplied varies with the interest rate.
liquidity trap
A situation in which monetary policy can’t be used because nominal interest rates cannot fall below the zero bound

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