2.1.

The level of overall economic activity

Economic Activity
Macroeconomics is the study of the economy as a whole. Its goal is to explain the
economic changes that affect many households, firms, and markets at once.

The circular flow of income model

National income, output, and expenditure are generated by the activities of the
two most vital parts of an economy, its households and firms, as they engage in
mutually beneficial exchange.

Households
The primary economic function of households is to supply domestic firms with
needed factors of production - land, human capital, real capital and enterprise.
The factors are supplied by factor owners in return for a reward:

Land is supplied by landowners,

Human capital by labour,
Real capital by capital owners (capitalists) and
Enterprise is provided by entrepreneurs.

Entrepreneurs combine the other three factors, and bear the risks associated
with production.

Firms
The function of firms is to supply private goods and services to domestic
households and firms, and to households and firms abroad. To do this they use
factors and pay for their services.

Factor incomes
Factors of production earn an income, which contributes to national income.
Land receives rent, human capital receives a wage, real capital receives a rate of
return, and enterprise receives a profit.

Members of households pay for goods and services they consume with the
income they receive from selling their factor in the relevant market.

Production function
The simple production function states that output (Q) is a function (f) of: (is
determined by) the factor inputs, land (L), labour (La), and capital (K), i.e.
Q = f (L, La, K)

1
The Circular flow of income
Income (Y) in an economy flows from one part to another whenever a transaction
takes place. New spending (C) generates new income (Y), which generates
further new spending (C), and further new income (Y), and so on. Spending and
income continue to circulate around the macro economy in what is referred to as
the circular flow of income.

In another respect, for an economy as a whole, income must equal expenditure

because:
Every transaction has a buyer and a seller.
Every dollar of spending by some buyer is a dollar of income for some
seller.

The equality of income and expenditure can be illustrated with the circular-flow
diagram.

2
Injections and withdrawals

The circular flow will adjust following new injections into it or new withdrawals
from it. An injection of new spending will increase the flow. A net injection relates
to the overall effect of injections in relation to withdrawals following a change in
an economic variable.

Savings and investment

The simple circular flow is, therefore, adjusted to take into account withdrawals
and injections. Households may choose to save (S) some of their income (Y)
rather than spend it (C), and this reduces the circular flow of income. Marginal
decisions to save reduce the flow of income in the economy because saving is a
withdrawal out of the circular flow. However, firms also purchase capital goods,
such as machinery, from other firms, and this spending is an injection into the
circular flow. This process, called investment (I), occurs because existing
machinery wears out and because firms may wish to increase their capacity to
produce.

The public sector

In a mixed economy with a government, the simple model must be adjusted to

include the public sector. Therefore, as well as save, households are also likely to
pay taxes (T) to the government (G), and further income is withdrawn out of the
circular flow of income.

3
Government injects income back into the economy by spending (G)
on public and merit goods like defence and policing, education,
and healthcare, and also on support for the poor and those unable to work.

Including international trade

Finally, the model must be adjusted to include international trade. Countries that
trade are called open economies, the households of an open economy will spend
some of their income on goods from abroad, called imports (M), and this is
withdrawn from the circular flow.

Foreign consumers and firms will, however, also wish to buy domestic products,
called exports (X), and this is an injection into the circular flow.

Source:
http://www.economicsonline.co.uk/Managing_the_economy/The_circular_flow_
of_income.html

4
Summary of Injections & Leakages

Leakages (withdrawals) from the circular flow

Not all income will flow from households to businesses directly. The circular flow
shows that some part of household income will be:

1.Put aside for future spending, i.e. savings (S) in banks accounts and other
types of deposit
2.Paid to the government in taxation (T) e.g. income tax and national
insurance
3.Spent on foreign-made goods and services, i.e. imports (M) which flow
out of the economy

Withdrawals are increases in savings, taxes or imports so reducing the circular

flow of income and leading to a multiplied contraction of production (output)

Injections into the circular flow are additions to investment, government

spending or exports so boosting the circular flow of income leading to a
multiplied expansion of output.

1. Capital spending by firms, i.e. investment expenditure (I) e.g. on new

technology
2. The government, i.e. government expenditure (G) e.g. on the NHS or
defense
3. Overseas consumers buying UK goods and service, i.e. UK export
expenditure (X)

An economy is in equilibrium when the rate of injections = the rate of

withdrawals from the circular flow.

Source: http://www.tutor2u.net/economics/reference/circular-flow-of-income-
and-spending

5
Task 1: Questions on Circular flow of Income

1. Refer to the following circular flow diagram to answer the question below.
What do X and Y represent?

2. What are the leakages from the circular flow of income in an open
economy?
3. Which of the following are injections into the circular flow of income in an
open economy?
[-A-] Government taxation
[-B-] Imports
[-C-] Savings
[-D-] VAT
[-E-] Exports
[-F-] Income tax
[-G-] Investment

4. Which of the following are leakages out of the circular flow of income in an
open economy?
[-A-] exports
[-B-] taxes
[-C-] government spending
[-D-] investment
[-E-] imports
[-F-] creation of real capital goods
[-G-] machinery and factories

6
5. What would be the effect of an increase in investments in an economy?
[-A-] The level of the national income would rise, as investments are
injections.
[-B-] The economic situation in the country would worsen.
[-C-] National income would decrease, as investments are leakages.
[-D-] National income would fall and then remain constant for a period of
time.
[-E-] Increased investment in an economy would not affect national
income.
[-F-] National income would increase, since Y = C + I.
[-G-] Investments would be equal to leakages; therefore national income
would not be affected.

6. Which of the following factors would lead to an increase in national

income?
[-A-] A 15% increase in value added tax
[-B-] Increased investment in domestic-made capital goods
[-C-] Purchasing a foreign-made video camera
[-D-] An increase in the exports of locally produced machinery
[-E-] A decrease in goods sold abroad
[-F-] Imposing a progressive tax on individuals income
[-G-] Increased investment in a foreign country

7. Which of the following factors will reduce the level of national income?
[-A-] Increase in government spending
[-B-] Increase in investment
[-C-] Increase in exports
[-D-] Increase in savings
[-E-] Decrease in taxation
[-F-] Increase in imports
[-G-] Decrease in savings

7
8. The diagram below shows the circular flow of income in a two sector
economy.

This closed economy has two sectors, households and firms. If factor rewards are
$200m, and consumer spending is $180m, assuming the economy is in
equilibrium, what is the level of the leakages of the circular flow?

8
Measures of Economic activity

Gross Domestic Product (GDP)

Gross domestic product (GDP) is a measure of the income and expenditures of an

economy.

It is the total market value of all final goods and services produced within a
country in a given period of time.

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
(haircuts, housecleaning, doctor visits).

. . . Produced . . .
It includes goods and services currently produced, not transactions
involving goods produced in the past.

. . . Within a Country . . .
It measures the value of production within the geographic confines of a
country.

. . . In a Given Period of Time.

It measures the value of production that takes place within a specific
interval of time, usually a year or a quarter (three months).

Legal vs illegal
GDP includes all items produced in the economy and sold legally in markets. GDP
excludes most items that are produced and consumed at home and that never
enter the marketplace. It excludes items produced and sold illicitly, such as illegal
drugs.

See - Two more Chinese provinces found faking economic data -

http://www.scmp.com/news/china/economy/article/2098007/two-more-
chinese-provinces-found-faking-economic-data

9
Gross National Product (GNP)

GNP and GDP both reflect the national output and income of an economy. The
main difference is that GNP (Gross National Product) takes into account net
income receipts from abroad.

GDP (Gross Domestic Product) is a measure of national income / national

output and national expenditure produce in a particular country.
GNP = GDP + Net property income from abroad. This net income from
abroad includes, dividends, interest and profit.
GNP includes the value of all goods and services produced by nationals
whether in the country or not.

Example of GNP
If a Japanese multinational produces cars in the UK; this production will be
counted towards UK GDP. However, if the Japanese firm sends 50m in profits
back to shareholders in Japan. Then this outflow of profit is subtracted from GNP.
UK nationals dont benefit from this profit.

If a UK firms makes profit from insurance companies located abroad, then if this
profit is sent back to UK nationals, then this net income from oversees assets will
be added to GNP.

Note if a Japanese firm invests in the UK, it will still lead to higher GNP, as some
national workers will see higher wages. However, the increase in GNP will not be
as great as GDP.

If a county has similar inflows and outflows of income from assets, then
GNP and GDP will be very similar.
However, if a country has many multinationals that repatriate income from
local production, then GNP will be lower than GDP.

For example, Luxembourg has a GDP of $87,400 but a GNP of only $45,360.

A country like Ireland has received significant foreign investment. Therefore, for
Ireland, there is a net outflow of income from the profits of these multinationals.
Therefore, Irish GNP is lower than GDP.

10
Gross National Income (GNI)
GNI (Gross national Income) is based on a similar principle to GNP. The World
Bank define GNI as
The sum of value added by all resident producers plus any product taxes (minus
subsidies) not included in the valuation of output plus net receipts of primary
income (compensation of employees and property income) from abroad

The World Bank now uses GNI rather than GNP.

UK GNI

This shows a small net income from abroad so the GNI 715,028m is greater than
GDP (713,980)

Source: http://www.economicshelp.org/blog/3491/economics/difference-
between-gnp-gdp-and-gni/

11
Task 2: Questions on GDP
1: Classify each of the following items as a final good or service or an
intermediate good or service:
(a) Banking services bought by a student.
(b) New cars bought by Hertz, the car rental firm.
(c) Newsprint bought by USA Today from International Paper.
(d) Ice cream bought by a diner and used to produce sundaes.

2: GDP does not include the value of used goods that are resold. Why would
including such transactions make GDP a less informative measure of economic
well-being?

12
Nominal and real GDP/GNP/GNI

Taking GDP as an exemplar

Nominal GDP values the production of goods and services at current prices.
Real GDP values the production of goods and services at constant prices.

An accurate view of the economy requires adjusting nominal to real GDP by using
the GDP deflator.

13
GDP Deflator

The GDP 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.

Formula

Nominal GDP
GDP deflator = 100
Real GDP

14
Distinguish between total GDP/GNP/GNI and per capita GDP/GNP/GNI

Per capita GDP is a measure of the total output of a country that takes the gross
domestic product (GDP) and divides it by the number of people in the country.
The per capita GDP is especially useful when comparing one country to another
because it shows the relative performance of the countries. A rise in per capita
GDP signals growth in the economy and tends to translate as an increase in
productivity.

The gross domestic product (GDP) is one of the primary indicators of a country's
economic performance. It is calculated by either adding up everyone's income
during the period or by adding the value of all final goods and services produced
in the country during the year. Per capita GDP is sometimes used as an indicator
of standard of living as well, with higher per capita GDP being interpreted as
having a higher standard of living.

Source: http://www.investopedia.com/terms/p/per-capita-gdp.asp

Relevant Statistics

GDP per capita (current prices US$) -

http://data.worldbank.org/indicator/NY.GDP.PCAP.CD

GDP per capita (constant 2005 prices) -

http://data.worldbank.org/indicator/NY.GDP.PCAP.KD

GNI per capita (constant 2005 prices) -

http://data.worldbank.org/indicator/NY.GNP.PCAP.KD

15
Task 3: Questions on Nominal GDP & Real GDP
1: Why is the growth of per capita real national income a better measure of living
standards than the growth of real national income?

2: What is the level of output after four years if initial output is $1000 and the
economy grows at a rate of 10% a year?

3: Use the data in the table to determine the 5-year growth rate for each country
in terms of real GDP growth and per capita real GDP growth. Which country grew
at the fastest rate?
1985 1990
Country Real GDP Population Real GDP Population
(millions of (millions of (millions of (millions of
domestic people) domestic people)
currency) currency)
Ghana 343,000 12.72 433,700 15.03
Nigeria 72,355 95.69 94,850 108.54
Panama 4,901 2.18 4,559 2.42
Sri 162,375 15.84 191,785 16.99
Lanka

4: If Kenyas economy grew at a rate of 4% during 1998 and real GDP at the
beginning of the year was 170,000 shillings (million), what was the real GDP
value at the end of the year?

5: Suppose a country has a real GDP equal to $1 billion today. If this economy
grows at a rate of 10% a year, what will be the value of real GDP after 5 years?

6: How would each of the following affect productivity in the US?

(a) The quality of education increases in secondary schools
(b) The number of patents issued falls significantly
(c) A cutback in oil production by oil-exporting nations raises oil prices.
(d) A large number of unskilled immigrant labourers moves into the country

7: Mexicos real GDP was 1,448 billion pesos in 1998 and 1501 billion pesos in
1999. Mexicos population growth rate in 1999 was 1.8%. Calculate:
(a) Mexicos economic growth rate in 1999.
(b) The growth rate of real GDP per person in Mexico in 1999.
(c) The approximate number of years it takes for real GDP per person in Mexico
to double if the 1999 economic growth rate and population growth rate are
maintained.

16
(d) The approximate number of years it takes for real GDP per person in Mexico
to double if the 1999 economic growth rate is maintained but the population
growth rate slows to 1% a year.

8: The table below provides some data on the Canadian economy in 1998 and
1999.

Item 1998 1999

Aggregate hours (billions) 25.0 25.2
Real GDP (billions of 1992 $) 840 880
Capital per hour of labour (1992 $) 127 130

(a) Calculate the growth rate of real GDP in 1999.

(b) Calculate the labour productivity in 1998 and 1999.
(c) Calculate the growth rate of labour productivity in 1999.
(d) If the one-third rule applies in Canada, what were the sources of labour
productivity growth in 1999? Explain.

9: The table below provides some data on the US economy in 1990 and 1991.

Item 1990 1991

Aggregate hours (billions) 203.4 200.4
Real GDP (billions of 1996 $) 6684 6669
Capital per hour of labour (1996 $) 92.85 95.77

(a) Calculate the growth rate of real GDP in 1991.

(b) Calculate labour productivity in 1990 and 1991.
(c) Calculate the growth rate of labour productivity in 1991.
(d) If the one third rule applies in the United States, what were the sources of
labour productivity growth in 1991? Explain.

10: Below are some data from the land of milk and honey
Year Price of Milk Quantity Price of Honey Quantity
2013 1 100 2 50
2014 1 200 2 100
2015 2 200 4 100

(a) Compute nominal GDP, Real GDP and the GDP deflator for each year using
2013 as the base year
(b) Compute the percentage change in nominal GDP, Real GDP and the GDP
deflator in 2014 & 2015
(c) Did economic well-being rise more in 2014 or 2015?

17
11: An island economy produces only bananas and coconuts. Table 1 gives the
quantities produced and prices in 2014 and 2015. The base year is 2001.

2014 2015
Item Quantity Price Item Quantity Price
Bananas 100 $10 a Bananas 110 $15 a
bunch bunch

Coconuts 50 $12 a bag Coconuts 60 $10 a bag

Calculate:
(a) Nominal GDP in 2014
(b) Nominal GDP in 2015
(c) The value of 2015 production in 2014 prices
(d) Percentage increase in production when valued at 2014 prices
(e) The value of 2014 production in 2015 prices
(f) Percentage increase in production when valued at 2015 prices
(g) Real GDP in 2014 and 2015.
(h) The GDP deflator in 2015.

12: Consider the following data on US GDP

Year Nominal GDP GDP Deflator
1996 7,662 billion 110
1997 8,111 billion 112
(a) What was the growth rate of nominal GDP between 1996 & 1997?
(b) What was the growth rate of the GDP deflator between 1996 and 1997?
(c) What was real GDP in 1996 measured in 1992 prices?
(d) What was real GDP in 1997 measured in 1992 prices?
(e) What was the growth rate of real GDP between 1996 & 1997?
(f) Was the growth rate of nominal GDP higher or lower than the growth rate of
real GDP? Explain

18
Methods of measuring output

Some government statistics agencies use the Income Approach by collecting data
from sources (including tax agency) on the incomes that firms pay households for
the services of factors of production they hire wages for labour, interest for the
use of capital, rent for the use of land and profit for entrepreneurship and
summing those incomes. This approach is like attaching a meter to the circular
flow of income diagram on all the flows of factor incomes from firms to
households and measuring the magnitude of those flows.

The National Income Account divide incomes into five categories:

Compensation of employees
Net interest
Rental income of persons
Corporate profits
Proprietors income

Explanation of income categories

1. Compensation of employees is the payment for labour services. It

includes net wages and salaries plus fringe benefits paid by employers such
as health care, insurance, social security payments and pension fund
contributions
2. Net Interest is the interest households receive on loans they make minus
the interest households pay on their borrowing.
3. Rental income of persons is the payment for the use of land and other
rented inputs. It includes payments for rented housing and imputed rent
for owner-occupied housing (Imputed rent is an estimate of what
homeowners would pay to rent the housing they own and use themselves)
4. Corporate profits is a combination of interest on capital and profits for
entrepreneurship
5. Proprietors Income people who run their own business. Their income
is a mixture of the previous four items.

19
GDP: The Income Approach

The sum of all incomes equals net domestic product at factor cost. GDP equals net
domestic product at factor cost plus indirect taxes less subsidies plus capital
consumption (depreciation).

US GDP 2000 Income Approach

Item Amount in billions Percentage of GDP
of dollars
Compensation of 5639
employees
Net Interest 564
Rental income 140
Corporate profits 957
Proprietors income 711
Net domestic product 8011
at factor cost
Indirect taxes less 698
subsidies
Capital Consumption 1257
GDP 9966 100.0

From Factor Cost to Market Price

The expenditure approach values goods and services at market process and the
income approach values them at factor cost the cost of the factors of production
used to produce them. Indirect taxes and subsidies make these two values differ.
Sales taxes make market price exceed factor cost, and subsidies make factor cost
exceed market prices. To convert the value at factor cost to the value at market
prices, we must add indirect taxes and subtract subsidies.

From Gross to Net

The expenditure approach measures gross product and the income approach
measures net product. The difference is deprecation, the decrease in the value of
capital that results from its use and from obsolescence also called capital
consumption.

Expenditure includes investment which is the purchase of new capital. Because

some new capital is purchased to replace depreciated capital, the expenditure
approach gives a gross measure. So to get gross domestic product from the
income approach we must add depreciation to total income.

20
Task 4: Questions on Income & Expenditure methods
1:
US GDP values 1998
Item Amount (trillions of dollars)
Compensation of employees 5.0
Consumption Expenditure (C) 5.9
Indirect taxes less subsidies 0.7
Net interest 0.5
Corporate profits 0.8
Capital Consumption 1.1
Rental income 0.1
Investment (I) 1.6
Net Exports (NX) -0.2
Proprietors Income 0.6

a. How much did capital in the United States depreciate in 1998?

b. Calculate US GDP in 1998 using the Income Method
c. How much did the US Government spend on goods and services (G) in
1998? Use the expenditure method to calculate this figure

2:
US GDP values 1995
Item Amount (trillions of dollars)
Compensation of employees 4.2
Consumption Expenditure (C) 4.97
Government Purchases 1.37
Net interest 0.40
Corporate profits 0.67
Capital Consumption 0.89
Rental income 0.11
Investment (I) 1.14
Net Exports (NX) -0.08
Proprietors Income 0.50

a. Use the Expenditure Method to calculate US GDP in 1995

b. Use the Income Method to calculate US net domestic product at factor cost
in 1995
c. Calculate indirect taxes less subsidies in 1995

21
Green GDP
The Green Gross Domestic Product is an economic growth index that quantifies
and calculates the environmental consequences of that growth.

What is it?
China's the only major nation that's used Green Gross Domestic Product to
measure its economic viability. Chinese premier Wen Jiabao announced in 2004
that the Green GDP would replace the traditional GDP as a financial productivity
measure. Published back in 2006, the Chinese Green GDP showed that the
financial loss caused by pollution in China was 511.8 billion yuan ($66.3 billion),
which was 3.05 percent of the nation's economy.

What does it measure?

Green GDP monetizes the effects of the loss of biodiversity and the costs of
climate change.

How do they get there?

Like other alternative indicators, such as the Sustainable Development Index or
the Genuine Progress Indicator, the Green GDP quantifies the costs of pollution,
climate change, waste and other factors likely to cause costly damages in the
future.

What can it tell us (really)?

This is just another way to try to quantify and measure the monetary impact of
the environmental damage caused by a country's economic growth. The idea is
that, while the economy might look like it's growing now, the damages caused by
that growth will inevitably drag it downward in the future. The preciseness of the
Green GDP's measurement methods is debatable; after all, since the future costs
are not actually known, those calculations are based on speculation - well-
informed speculation, but still. What it really gives us is another way of looking at
economic growth, putting it in perspective alongside its potential future
economic consequences.

But nobody's perfect

Now that you've read all this, we'll let you know that no one uses Green GDP as
an economic indicator anymore. Chinese officials put a stop to that back in 2007,
after it was found that the Green GDP caused their economic growth rate to drop
to unattractively low levels, nearly zero in some provinces. The government
thereby withdrew its support for the index and went back to the old school Gross
Domestic Product.
Source: http://www.marketplace.org/topics/business/economy-
40/alternative-indicator-green-gdp

22
23
Relevant articles

Chinas train wreck economy mysteriously stays on track -

http://www.scmp.com/business/article/2018926/chinas-train-wreck-
economy-mysteriously-stays-track

Can wasteful China walk the fine line between stability and stagnation? -
http://www.scmp.com/comment/insight-opinion/article/2082471/can-
wasteful-china-walk-fine-line-between-stability-and

NPC signals Beijing is aiming for stable but more balanced growth -
http://www.scmp.com/business/global-economy/article/2078990/npc-signals-beijing-
aiming-stable-more-balanced-growth

24
The Business Cycle

Parkin and Bade's text Economics gives the following definition of the business
cycle:

"The business cycle is the periodic but irregular up-and-down movements in

economic activity, measured by fluctuations in real GDP and
other macroeconomic variables."

To put it simply, the business cycle is defined as the real fluctuations in economic
activity and gross domestic product (GDP) over a period of time.

The fact that the economy experiences these ups-and-downs in activity should be
no surprise. In fact, all modern industrial economies like that of the United States
endure considerable swings in economic activity over time.

The ups may be marked by indicators like high growth and low unemployment
while the downs are generally defined by low or stagnant growth and high
unemployment. Given its relationship to the phases of the business cycle,
unemployment is but one of the various economic indicators used to measure
economic activity. For most detailed information about how various economic
indicators and their relationship to the business cycle, check out A Beginner's
Guide to Economic Indicators.

Parkin and Bade go on to explain that despite the name, the business cycle is not
a regular, predictable, or repeating cycle. Though its phases can be defined, its
timing is random and, to a large degree, unpredictable.

25
The Phases of the Business Cycle
While no two business cycles are exactly the same, they can be identified as a
sequence of four phases that were classified and studied in their most modern
sense by American economists Arthur Burns and Wesley Mitchell in their text
Measuring Business Cycles.

The four primary phases of the business cycle include:

1. Expansion: A speedup in the pace of economic activity defined by high
growth, low unemployment, and increasing prices. The period marked
from trough to peak.
2. Peak: The upper turning point of a business cycle and the point at which
expansion turns into contraction.
3. Contraction: A slowdown in the pace of economic activity defined by low
or stagnant growth, high unemployment, and declining prices. It is the
period from peak to trough.
4. Trough: The lowest turning point of a business cycle in which a
contraction turns into an expansion. This turning point is also
called Recovery.

These four phases also make up what is known as the "boom-and-bust" cycles,
which are characterized as business cycles in which the periods of expansion are
swift and the subsequent contraction is steep and severe.

Source: http://economics.about.com/cs/studentresources/f/business_cycle.htm

26
Short term fluctuations and long term trend phases of the cycle
There should be no difficulties for you in finding your way through figure 3.3.12.
The long run trend (potential real GDP) is upward sloping and in keeping with
empirical evidence, which suggests a long run trend of around 1.5 to 3.5% yearly
growth. (Yet note that the cycles are highly stylized.) The cycle is discernible as
reoccurring expansions and contractions. Economic activity measured by real
GDP at its lowest point is called a trough, followed by recovery, boom and
peak. When economic activity slows and then falls over a period of time, one
speaks of recession. When the bottom of the cycle is reached once more a cycle
has been completed which is also measured as the time periods from peak to
peak.

The cycle in figure 3.3.12 also shows the difference between potential and actual
output in the output gaps. The output gap is defined as actual real GDP minus
potential GDP, and one therefore speaks of negative output gaps when de facto
real GDP is lower than potential and positive output gaps when real GDP is
higher than long run potential. Over the cycle, the components of aggregate
demand and variables within the main macro objectives will be affected in many
ways.

See - Singapores October exports slump, raising recession risks -

http://www.scmp.com/business/global-economy/article/2046958/singapores-
october-exports-slump-raising-recession-risks

27
Decrease in GDP growth (slowdown) and decrease in GDP

One common mistake seen in many an exam paper is when students fail to
distinguish clearly between a decrease in GDP (e.g. negative growth) and a
decrease in the rate of growth. In figure 3.3.12, the period just before the peak
is characterized by a slower rate of growth the slope of the business cycle curve
falls. The period from t1 to t2 shows a slower rate of growth while t2 to t3 shows
a decrease in growth.

During the period 2006 to 2007, the US growth rate (in GDP terms) fell from
2.7% to 1.9% - a fall in the rate of growth. During the economic crisis of 2008 and
2009, US growth went from 0% in 2008 to a low of-3.5% in 2009 e.g. the US
economy contracted by 3.5% during 2009. Thus in the latter period, the US
economy experienced an absolute fall in GDP; this is because the economy
experienced negative GDP growth i.e. a contraction.

US real GDP by quarter 2000 2009

28
Measuring changes in real GDP: Yearly % change

Task 5: Questions on Business Cycle

1: Table 1 shows real GDP in Canada from the first quarter of 1989 to the fourth
quarter of 1993.
Billions of 1996 Dollars
Year Quarter
1 2 3 4
1989 700 703 705 706
1990 711 709 705 698
1991 689 691 694 696
1992 696 697 699 702
1993 708 712 716 722

(a) In which quarter was Canada at a business-cycle peak?

(b) In which quarter was Canada at a business-cycle trough?
(c) Did Canada experience a recession during these years?
(d) In what period did Canada experience an expansion?

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2: Taking the information in the tables below:
(a) Calculate the % change in real GDP for Canada. Highlight quarters of
negative economic growth
(b) Using a spread-sheet application graph real GDP versus time

Canadian economic growth (billions CS$)

Year Real GDP % change
1989 1 700 ----
1989 2 703
1989 3 705
1989 4 706
1990 1 711
1990 2 709
1990 3 705
1990 4 698
1991 1 689
1991 2 691
1991 3 694
1991 4 696
1992 1 696
1992 2 697
1992 3 699
1992 4 702
1993 1 708
1993 2 712
1993 3 716
1993 4 722

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3: Table 2 shows real GDP in Mexico from the first quarter of 1994 to the last
quarter of 1996.

Trillions of 1993 Pesos

Year Quarter
1 2 3 4
1994 1.25 1.19 1.29 1.27
1995 1.21 1.16 1.28 1.27
1996 1.27 1.29 1.25 1.27

(a) In which quarter was Mexico at a business-cycle peak?

(b) In which quarter was Mexico at a business-cycle trough?
(c) Did Mexico experience a recession during these years?
(d) In what years did Mexico experience an expansion?

4: Taking the information in the tables below:

(a) Calculate the % change in real GDP for Canada. Highlight quarters of
negative economic growth
(b) Using a spread-sheet application graph real GDP versus time

Mexican economic growth (trillions Pesos)

Year Real GDP % change
1994 1 1.25 ----
1994 2 1.19
1994 3 1.29
1994 4 1.27
1995 1 1.21
1995 2 1.16
1995 3 1.28
1995 4 1.27
1996 1 1.27
1996 2 1.29
1996 3 1.25
1996 4 1.27

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