Economic Growth (1st Part)

Economic Growth
The Scope of Macroeconomics
1. The scope of macroeconomics

The major macroeconomic issues
Government macroeconomic policy
2. The circular flow of income
The inner flow, withdrawals and injections
Relationship between withdrawals and
injections
The circular flow of income and the four
macroeconomic objectives
Equilibrium in the circular flow
3. Measuring national income and
output
Three ways of measuring GDP
Taking account of inflation
Taking account of population
Taking account of exchange rates
Do GDP statistics give a good indication of a
countrys standard of living?
Main questions that Macroeconomic Theory can
answer
Why do economies sometimes grow rapidly, while at other

times they suffer from recession?
Why, if people want to work, do they sometimes find
themselves unemployed?
Why do economies experience inflation (rising prices), and
does it matter if they do?
Why do exchange rates change and what will be the
impact of such changes on imports and exports?
From Micro to Macro
Microeconomics on individual markets

Demand for and supply of good and services
Choices people make between goods
What determines their prices and quantities

produced
Macroeconomics on national or international
markets
Aggregated demand and supply of good and
services (total spending and production)
National output and its rate of growth, national
employment and unemployment, and the general
level of prices and their rate of increase
The scope of macroeconomics from a
goverments point of view
economic growth
High rates in long term or stable economic growth.
Why?
unemployment
Reducing unemployment. Why?
inflation
keep inflation both low and stable. Why?
The balance of payments and the exchange rate
The avoidance of balance of payments deficits
Question: Do governments can predict always these factors? Any example?

Objectives
High and stable economic growth.
Low unemployment.
Low inflation.
The avoidance of balance of payments deficits and
excessive exchange rate fluctuations.
Complementary or in conflict?
Economic growth & low inflation In conflict
Economic growth & low unemployment Complements
Economic growth & balance of payments In conflict
Nominal GDP and constant-price GDP, UK 19502012
Nominal
1.500
GDP at constant 2006 prices
1.250 GDP: is defined as the total value of all

goods and services produced within that
territory during a given year
1.000
billions
750
500
250
0
1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010
Note: Years 2011 and 2012 figures based on forecasts
Source: Based on data from UK Economic Accounts, (Office for National Statistics)
Economic growth (average % per annum),
Unemployment (average %), Inflation (average % per annum)
France Germany Japan UK USA EU (12) OECD Brazil Malaysia Singapore China
Growth
19609 5.6 4.4 10.4 2.9 4.3 5.8 5.5 5.9 6.5 9.5 3.0
19709 4.1 3.1 5.4 2.4 3.3 3.8 3.7 8.5 7.7 9.2 7.4
19809 2.3 2.0 3.7 2.4 3.1 2.3 2.9 3.0 5.9 7.5 9.8
19909 1.9 2.3 1.5 2.1 3.1 2.2 2.5 1.6 7.2 7.6 10.0
20009 1.4 0.9 0.7 1.7 1.8 1.3 1.8 3.3 4.8 5.1 10.3
Unemployment
19609 1.5 0.9 1.3 2.2 4.1 2.5 2.5 n.a. n.a. n.a. n.a.
19709 3.7 2.3 1.7 4.5 6.1 4.0 4.3 n.a. n.a. 3.6 n.a.
19809 8.9 7.0 2.5 10.2 7.3 9.3 7.2 3.9 7.2 3.7 2.6
19909 11.1 8.1 3.1 8.1 5.8 10.5 7.0 6.9 3.3 2.8 2.8
20009 8.8 8.6 4.7 5.4 5.5 8.4 6.7 9.9 3.4 2.9 4.0
Inflation
19609 3.8 3.2 5.5 3.8 2.4 3.7 3.1 46.1 0.8 1.2 n.a.
19709 8.9 5.0 9.1 12.6 7.1 9.5 9.2 30.6 5.5 5.9 n.a.
19809 7.4 2.9 2.5 7.4 5.6 6.5 8.9 354.5 3.7 2.8 7.5
19909 1.9 2.4 1.2 3.7 3.0 2.9 4.4 843.3 3.7 1.9 7.8
20009 1.7 1.6 0.3 1.8 2.6 1.9 2.7 6.9 2.1 1.5 1.9
The scope of macroeconomics
Microeconomics and macroeconomics

economic growth
unemployment
inflation
balance of payments and exchange rates
choosing between macroeconomic theories
choosing the order of priorities
The National Economy
The Circular Flow of Income
Economic
Growth
Unemployment
Aggregated Inflation
Demand
Balance of
Payments
The circular flow of income
The inner flow

Aggregate demand :Total spending on goods and services produced in the
economy. It consists of four elements:
consumer expenditures (C),
investments (I),
government expenditures (G)
the expenditures on exports (X),

less any expenditure on foreign goods and services (M)
Thus AD = C + I + G + X M,
or AD= Cd + I + G + X.
Firms
What if prices increase?

Consumption of
Factor domestically
payments produced goods
and services (Cd) Does this model
reflects the reality?
Households
Withdrawals: Incomes of households or firms that are not passed on

round the inner flow.
net saving
net taxes
import expenditure
Injections: Expenditure on the production of domestic firms coming from
outside the inner flow of the circular flow of income.
investment
government expenditure
export expenditure
INJECTIONS
Export
expenditure (X)
Investment (I)
Government
expenditure (G)
Consumption of
Factor domestically
BANKS, etc GOV. ABROAD
payments produced goods
and services (Cd)
Import
Net expenditure (M)
Net taxes (T)
saving (S)
WITHDRAWALS
Equilibrium Level of National Income
Effect on national income of a change in

injections and/or withdrawals
J > W : national income rises
W > J : national income falls
The Keynesian diagram: the withdrawals

and injections approach
the withdrawals curve
Are the following net injections, net withdrawals or neither? If there is
uncertainty, explain your assumptions.
a) Firms are forced to take a cut in profits in order to give a pay rise. Neither
b) Firms spend money on research. Injection Increase
c) The government increases personal tax allowances. Withdrawal Decrease
d) The government purchases US military aircraft. Neither
e) People draw on their savings to finance holidays abroad. Neither
f) People draw on their savings to finance holidays in the UK. Withdrawal Decrease
g) The government runs a budget deficit and finances it by printing more money.
Injection Increase
The relationship between injections and

withdrawals
the links between them
planned
injections may not equal planned
withdrawals
The circular flow and the four macroeconomic

objectives
Question: If planned injections are not equal to planned

withdrawals, what will be the consequences? How will
affect the four macroeconomic objectives?
For example: Increase/Decrease
Import/exports
If injections exceed withdrawals?
Higher Higher
Production Payments
Higher
e.g Higher expenditures Aggregated Demand
Higher Higher Higher

Growth Employment Inflation
Question
If planned injections are not equal to planned

withdrawals how can we reach again the
equlibrium?
Section Summary
1. The circular flow of income model depicts the flows of money
round the economy. The inner flow shows the direct flows
between firms and households. Money flows from firms to
households in the form of factor payments, and back again as
consumer expenditure on domestically produced goods and
services.
2. Not all incomes get passed on directly round the inner flow.
Some is withdrawn in the form of net saving, some is paid in net
taxes, and some goes abroad as expenditure on imports.
3. Likewise, not all expenditure on domestic firms is by domestic

consumers. Some is injected from outside the inner flow in the
form of investment expenditure, government expenditure and
expenditure on the countrys exports.
Section Summary
4. Planned injections and withdrawals are unlikely to be the

same.
5. If injections exceed withdrawals, national income will rise,

unemployment will tend to fall, inflation will tend to rise,
imports will tend to rise and exports fall. The reverse will
happen if withdrawals exceed injections.
6. If injections exceed withdrawals, the rise in national

income will lead to a rise in withdrawals. This will continue
until W = J. At this point, the circular flow will be in
equilibrium.
The National Economy
Measuring National Income

Measuring national income
The three ways of measuring GDP

GDP (Gross Domestic Product) Definition: Gross domestic product (GDP) The value of
output produced within the country over a 12-month period.
the product method
the income method
the expenditure method

The circular flow of national income and expenditure
The circular flow of national income and expenditure
(1) Production
(2) Incomes (3) Expenditure

The product method

value of product and services industry by industry
The income method
wages, salaries, profits, rent and interest
The expenditure method
Expenditures necessary to purchase the nations
production
National product= National Income= National Expenditure

The product method

the problem of double counting
the measuring of value added
gross value added (GVA)
some qualifications
stocks
government services
ownership of dwellings
taxes and subsidies on products
UK GVA (product-based measure): 2009
Agriculture, forestry and fishing 8909
Mining, energy and water supply 47 658
Manufacturing
139 889
Construction 72 994
Wholesale and retail trade; repairs 140 344

Hotels and restaurants 35 100
Transport and communication 87 410
Banking, finance, insurance, etc.

125 987
Renting and business activities 298 518
Public administration and defence 65 375
Education, health and social work 170 279
Other social and personal services 63 261
Total GVA= 1.255.724

Agriculture, forestry and fishing 8909 0.7
Mining, energy and water supply 47 658 3.8
Manufacturing
139 889 11.1
Construction 72 994 5.8
Wholesale and retail trade; repairs 140 344 11.2
Percentage of GVA
Hotels and restaurants 35 100 2.8
Transport and communication 87 410 7.0

125 987 10.0
Renting and business activities 298 518 23.8
Public administration and defence 65 375 5.2
Education, health and social work 170 279 13.6
Other social and personal services 63 261 5.0
Total GVA 1.255.724 100.0

Agriculture, forestry and fishing 8909 0.7
Mining, energy and water supply 47 658 3.8
Manufacturing
139 889 11.1
Construction 72 994 5.8
Wholesale and retail trade; repairs 140 344 11.2
Percentage of GVA
Hotels and restaurants 35 100 2.8
Transport and communication 87 410 7.0

125 987 10.0
Renting and business activities 298 518 23.8
Public administration and defence 65 375 5.2
Education, health and social work 170 279 13.6
Other social and personal services 63 261 5.0
Total GVA 1.255.724 100.0 GDP=GVA+VAT

The income method

adding factor earnings
some qualifications
stock appreciation
transfer payments
direct taxes; taxes and subsidies on products
GVA=SUM( All values added)
GVA= SUM(Revenues from sales- Costs)= SUM(Wages, salaries, interests and profits)=SUM(Income)
UK GVA by category of income: 2009
Compensation of employees
(wages and salaries)
769 779
Operating surplus
(gross profit, rent and interest of firms
government and other institutions)
385 755
Mixed incomes
84 189
Tax less subsidies on production
(other than those on products) plus
statistical discrepancy 16 001
Total GVA 1 255 724
(wages and salaries)
769 779
Percentage of GVA
Operating surplus
government and other institutions)
385 755
Mixed incomes
84 189
(other than those on products) plus
Total GVA 1 255 724
(wages and salaries) 61.3
769 779
Percentage of GVA
Operating surplus
government and other institutions) 30.7
385 755
Mixed incomes 6.7

84 189
(other than those on products) plus 1.3
Total GVA 1 255 724 100.0
From GVA to GDP: 2009
GVA (gross value added at basic prices) 1,255,724m
plus VAT and other taxes on products 142,784m
less Subsidies on products 5,803m
GDP (at market prices) 1,392,705m



Question
If a retailer buys a product from a wholesaler for 80 and sells

it to a consumer for 100, then the 20 of value that has been
added will go partly in wages, partly in rent and partly in
profits. Thus 20 of income has been generated at the retail
stage. But the good actually contributes a total of 100 to GDP.
Where then is the remaining 80 worth of income recorded?
The expenditure method

C + G + I + EX IM
(C): consumption expenditures by households

(I): gross private investment spending principally by firms
(G):government purchases of goods and services
(EX IM): net exports (exports minus imports)
UK GDP by category of expenditure, GNY and NNY: 2009
million
Consumption expenditure of households and NPISH (C) 908 788

Government final consumption (G) 327 682
Gross capital formation (I) 190 667
Exports of goods and services (EX) 386 648
less Imports of goods and services (IM) 418 671
Statistical discrepancy 2 409
Gross domestic product (GDP) (at market prices) 1 392 705

million

Exports of goods and services (X) 386 648
less Imports of goods and services (M) 418 671

plus Net income from abroad 30 431
Gross national income (GNY) 1 423 436

million

Exports of goods and services (X) 386 648
less Imports of goods and services (M) 418 671

plus Net income from abroad 30 431
Gross national income (GNY) 1 423 436

less Capital consumption (depreciation) 152 672
Net national income (NNY) 1 270 464

Households' disposable income
Taking account of:
Inflation (comparing between two years)

Population (comparing between countries)
purchasing power (PPP measures)
Nominal GDP and constant-price GDP, UK 19502012
Nominal GDP
1.500
Real GDP at constant 2006
prices
1.250
Question: Does an increase of 10% in GDP means that
the average person is better off?
1.000
billions
750
500
250
0
1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010
Note: Years 2011 and 2012 figures based on forecasts
Source: Based on data from UK Economic Accounts, (Office for National Statistics)
GDP per head as a percentage of the EU15 average: 2012
GDP per head GDP (PPS) per head
Australia
Canada
Czech Republic
Denmark
France
Germany
Greece
Ireland
Italy
Japan
Luxembourg
Netherlands
Poland
Portugal
Spain
Sweden
UK
USA
Australia 181.3
Canada 119.0
Czech Republic 51.7
Denmark 150.4
France 105.5
Germany 108.8
Greece 66.7
Ireland 120.8
Italy 89.4
Japan 114.1
Luxembourg 286.9
Netherlands 123.9
Poland 35.8
Portugal 54.3
Spain 78.9
Sweden 138.4
UK 96.3
USA 117.5
Australia 181.3 134.5
Canada 119.0 111.4
Czech Republic 51.7 75.1
Denmark 150.4 106.8
France 105.5 96.5
Germany 108.8 109.4
Greece 66.7 74.7
Ireland 120.8 113.7
Italy 89.4 90.4
Japan 114.1 95.9
Luxembourg 286.9 245.9
Netherlands 123.9 117.2
Poland Question: which 35.8 59.1
Portugal countries actual 54.3 68.5
Spain exchange rates would 78.9 91.3
Sweden seem to understate the 138.4 115.2
UK purchasing power of 96.3 105.2
USA their currency? 117.5 132.5
National income statistics: suitable measures of living

standards?
Yes if we take into acount:
Inflation
Population
Real GDP and GDP PSS measures
But still is not a perfect measure

National income statistics: suitable measures of living

standards?
items that are excluded
non-marketed items (do-it yourself activities)
the underground economy
production: poor indicator of welfare?

production does not equal consumption
human costs of production
externalities
the production of certain bads
distribution of income
Question
If we were trying to get a true measure of national production, which of the

following activities would you include:
a) washing-up?
b) planting flowers in the garden?
c) playing an educational game with children in the family?
d) playing any game with children in the family?
e) cooking your own supper?
f) cooking supper for the whole family?
g) reading a novel for pleasure?
h) reading a textbook as part of studying?
i) studying holiday brochures?
Is there a measurement problem if you get pleasure from the do-it-yourself activity
itself as well as from its outcome?
Contributions to the Index of Sustainable Economic
Welfare (ISEW) ( per capita, 1990 prices)
Year 1950 1973 1996
Consumer expenditure 2435 4067 6402

Adjustment for inequality 201 316 917
Services of household labour 948 1470 2368
Public expenditure on health and education 89 192 365
Difference between expenditure on & services from goods 206 446 1160
Defensive private expenditures on health & education 14 25 109
Costs of commuting 52 127 206
Costs of personal pollution control 8 58
Costs of car accidents 30 43 36
Costs of water and air pollution 504 537 376
Costs of noise pollution 36 36 39
Costs of loss of habitat and farmlands 35 28 88
Depletion of non-renewable resources 332 920 1812
Long-term environmental damage 292 718 1321
Ozone depletion costs 8 209 621
Net capital growth 382 1
Change in net international position 37 52 41
Per capita ISEW 1799 2713 2349
Per capita GDP 3507 6151 8890

Year 1950 1973 1996


Year 1950 1973 1996


Year 1950 1973 1996


ISEW 1950-96 (maximum = 100)
100
90
80
ISEW: maximum = 100
70
60
50
40
30
20
1950 1955 1960 1965 1970 1975 1980 1985 1990 1995
ISEW 1950-96 (maximum = 100)
100
90
80
ISEW: maximum = 100
UK
70
60
50
40
30
20
1950 1955 1960 1965 1970 1975 1980 1985 1990 1995
ISEW 1950-96 (maximum = 100)
100
90
80
ISEW: maximum = 100
UK
70
60
USA
50
40
30
20
1950 1955 1960 1965 1970 1975 1980 1985 1990 1995
ISEW 1950-96 (maximum = 100)
100
90
80
ISEW: maximum = 100
UK
70
Netherlands
60
USA
50
40
30
20
1950 1955 1960 1965 1970 1975 1980 1985 1990 1995
Section Summary
1.National income is usually expressed in terms of gross domestic product.

This is simply the value of domestic production over the course of the year.
It can be measured by the product, expenditure or income methods.
2.Real national income takes account of inflation by being expressed in the

prices of some base year.
3.In order to compare living standards of different countries, national income

has to be expressed per capita and at purchasing-power parity exchange
rates.
4.Even if it is, there are still problems in using national income statistics for
comparative purposes. Certain items will not be included: items such as
non-marketed products, services in the family and activities in the
underground economy. Moreover, the statistics include certain bads and
ignore externalities, and they also ignore questions of the distribution of
income.

Economic Growth (1st Part)

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Economic Growth (1st Part)

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Economic Growth

The Scope of Macroeconomics

1. The scope of macroeconomics

Why do economies sometimes grow rapidly, while at other

Microeconomics on individual markets

Choices people make between goods

What determines their prices and quantities

Question: Do governments can predict always these factors? Any example?

1.250 GDP: is defined as the total value of all

Microeconomics and macroeconomics

The inner flow

government expenditures (G)

the expenditures on exports (X),

What if prices increase?

Withdrawals: Incomes of households or firms that are not passed on

Effect on national income of a change in

W > J : national income falls

The Keynesian diagram: the withdrawals

The relationship between injections and

Equilibrium in the circular flow

The circular flow and the four macroeconomic

Question: If planned injections are not equal to planned

Higher Higher Higher

If planned injections are not equal to planned

3. Likewise, not all expenditure on domestic firms is by domestic

4. Planned injections and withdrawals are unlikely to be the

5. If injections exceed withdrawals, national income will rise,

6. If injections exceed withdrawals, the rise in national

Measuring National Income

The three ways of measuring GDP

output produced within the country over a 12-month period.

the product method

the income method

the expenditure method

(2) Incomes (3) Expenditure

The product method

National product= National Income= National Expenditure

The product method

Wholesale and retail trade; repairs 140 344

Banking, finance, insurance, etc.

Renting and business activities 298 518

Public administration and defence 65 375

Education, health and social work 170 279

Other social and personal services 63 261

Total GVA= 1.255.724

Construction 72 994 5.8

Wholesale and retail trade; repairs 140 344 11.2

Banking, finance, insurance, etc.

Renting and business activities 298 518 23.8

Public administration and defence 65 375 5.2

Education, health and social work 170 279 13.6

Other social and personal services 63 261 5.0

Total GVA 1.255.724 100.0

Construction 72 994 5.8

Wholesale and retail trade; repairs 140 344 11.2

Banking, finance, insurance, etc.

Renting and business activities 298 518 23.8

Public administration and defence 65 375 5.2

Education, health and social work 170 279 13.6

Other social and personal services 63 261 5.0

Total GVA 1.255.724 100.0 GDP=GVA+VAT

The income method

Mixed incomes 6.7