Lecture 2 Notes, Part 1

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This lecture covers

1. Key Data Variables: There's a need to measure economic output

This is what the National Income Accounting and GDP are all about.

2. Savings & wealth – how they're related.

3. Real GDP

4. Price Index, what is it and how does it move to inflation?

5. Interest Rate.

NATIONAL INCOME ACCOUNT (I will refer to it as NIA hereafter) – It is a counting mechanism for what's going on in the economy.

There are three approaches to calculate:

1. Product Approach: Measures how much production/output takes place.
   
2. Income Approach: Tells us how much income is being earned.
   
3. Expenditure Approach: Tells us how much is actually being spent.
   

If a business produces they of course want to sell the products they sell, therefore the value of what gets produced also has to represent value of income earned in that production.

Everything that gets produced has to be owned by somebody, so that's what gets spent. We find that all spending in the aggregate or production in the current year will equal the income that's earned in that current year which measures our measure of output or production in that year. So all three of these will be the same.

Total Production (aggregate production) = Total Income = Total Expenditures

So it's possible to use the words output, production, income, expenditures, GDP interchangeably.

The event that we try to measure from the product approach is the GDP (Gross Domestic Product)

GDP = The market value of all final goods & services newly produced within a nation in a fixed period of time. (Generally a year), the US measures on a quarterly basis. (Called Gross because it measures before depreciation rather than after).

MARKET VALUE = Think of it as the MSRP (Manufacturer's Suggested retail price), Multiply production by the price (retail) this will tell us the total revenue being generated. For government, calculate everything at its cost.

FINAL GOODS & SERVICES: It's not an intermediate goods & services (leather, rubber, steel, wires that goes into a car), it's the final product.

VALUE ADDED = What's the revenue you get from selling your goods & services minus the value of all the inputs other than labor that goes into it (another word for profit, perhaps? Let me know guys).

Two exceptions of Final Goods & Services:

1. Capital goods/capital equipment: Refers to the buildings, structures, machinery (think accounting class people).
   
2. Inventory Investment/Change in Inventories: e.g. unsold house by builder, very small part of overall GDP yet leads to biggest swings in GDP, many recessions aggravated by or caused by excessive inventory investment.
   

Gross National Product (GNP), GDP is within a country regardless of the nationality of the companies/persons.

1. Net Factor Payment – If a foreign company wants to repatriate their funds. This is a representation of the "Where's the income earned outside the country vs. inside the country"
   
   1. Net Factor Payment Inflow – When funds (profits) are repatriated to the original country (IBM -> USA). (Country earnings)
      
   2. Net Factor Outflow – When foreign companies repatriate their funds.
      
   3. Net Factor Payment = Inflow minus Outflow
      
2. GNP – Production that takes place by the country's factors of production regardless of where they're located, e.g. if IBM produces something in Europe, the increment that IBM has provided to the VALUE ADDED (profits) counted in the GNP, not the GDP. Where's the income earned vs. where's the production take place.
   

EXPENDITURES – Measuring the spending that takes place on FINAL GOODS & SERVICES. There are 4 agents:

1. Consumption by households (consumer spending) 70% of US GDP
   
   1. Durable Goods – Something that last 3 years or longer.
      
   2. Non Durable goods – Things w/ shelf life, less than 3 years.
      
   3. Services – Consumed immediately (rent, electricity, transportation, education, medical services)
      
2. Investment by businesses About 1/6 of US GDP
   
   1. Spending for capital goods(fixed investments)/software
      
      1. Non-Residential (Business Side) Fixed Investments – buildings, structures, machinery, furniture, software.
         
      2. Residential – construction of new homes & apartment buildings. Houses fall under the investment category not consumption.
         
   2. Inventory Investment
      
3. Government purchases of goods & services by all units of gov't. About 1/5 of US GDP, also excludes some gov't expenditures, e.g. transfer payment, gov't debt.
   
   1. Transfer payment – e.g. pension, social security, disability, where one entity to another where no goods & services are exchanged.
      
   2. Government debt – e.g. bonds
      
4. Net exports (exports about 10% – imports 16.2%) – Need to subtract them out to get measure of GDP about
   

This leads to INCOME EXPENDITURE IDENTITY. This is the single most important identity in Macroeconomics.

Y = Income (or GDP), therefore Y = 1+2+3+4 (the above)

NOT AN EQUATION BUT AN IDENTITY, REMEMBER THIS IDENTITY, EQUATION, FORMULA, WHATEVER YOU WANT TO CALL IT.