Macroeconomics

December 10 2011

Concept of National Product

Capacity to produce goods and services over

a period of time

GNP growth rate is a powerful indicator of

the growth rate of an economy

Sum of all final goods and services produced

during a specified time period

Output can be measure at Market Prices of

Factor Cost

Concept of value addition

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Relationship
GNPMP NNPMP
- Net income from abroad - Net income from abroad

GNPFC
- Net income from abroad

GDPMP

NNPFC
- Net income from abroad

NDPMP

GDPFC

NDPFC
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Real Vs. Nominal GNP

Real refers to prices or values that have

been adjusted for inflation or price level fluctuations

Real GNP is the GNP in current rupees

deflated for changes in the prices of items included in GNP

Nominal GNP is just expressed as current

rupees

Doesnt indicate change in price levels

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Real Vs. Nominal GNP

Over time Nominal values reflect changes in Real size of an economic variable

General level of prices

For example, if nominal GNP in 1998-99 was
16 crores compared to 7 crores in 93-94.
Does this mean output has doubled?

Real GNP for 93-94 is only 10 crores. What

does this imply?
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Real Vs. Nominal GNP

What are the situations in which Nominal

GNP increases?

If more output is produced

If prices rise

What are we more interested in and why?

Concept of GNP Deflator

Real GNP = Nominal GNP *(GNP deflator for

base year/GNP deflator for current year)
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Price Indices

2 aspects of movements in prices change

in relative prices, change in overall price level

Consumer Price Index (CPI) What is CLI? Concept of utility The compromise called CPI Compared to the base year (Laspeyre)
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CPI

(Cost of purchasing the base year basked in

current year*100) / Cost of purchasing the base year basket in the base year

Factors considered Consumption basket in the base year Prices of items in the basket in the base
year

Price relatives in the current year

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CPI
Item Rice Wheat Milk Cotton Cloth Qty 197071 15 kg 10 kg 30 ltrs 5 mtrs Price 19771 Rs. 3/kg Rs. 2/kg Rs. 3/ltr Rs. 8/mtr Price 1980-81 Rs. 4/kg Rs. 3/kg Rs. 5/ltr Rs. 12/mtr Price Relative

Housing

A two room house

Rs. 100 p.m.

Rs. 200 p.m.

Calculate Total expenditures, weights, price

relatives, CPI
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Wholesale Price Index

Similar principles of construction Differences:

Items included
Wholesale prices

Weights calculation
Published by the Office of the Economic
Adviser to the GoI

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National Income Deflators

Ratio of current price GDP to constant price

GDP

Covers all final goods and services

Difference from CPI Includes investment
goods

Difference from WPI - ??? Can deflators be calculated for other product
measures?
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Index Numbers of Production

Index Number of Agricultural Production Covers mining, manufacturing, electricity

generation; excludes construction
incorporates 352 items

Current problems? Index of agricultural production 42 crops under 2 groups Similar construction methodology
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Money and Credit

Instruments of growth monetary and

fiscal policy

Liquidity
Money stock measures:

M1: RBI currency notes with public +

Rupee coins and notes with public + Small coins + DD with banks + Other deposits with RBI

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Money and Credit

M2: M1 + PO Savings Deposits

M3: M1 + TD with banks

M4: M3 + All PO Deposits

These money measures are in the

descending order of liquidity

Money supply stock or flow? Why?

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Money and Credit

Monetary liabilities of banking system +

Non-monetary liabilities = Financial Assets + Other assets

Net non-monetary liabilities = Other assets

Non-monetary liabilities

Monetary liabilities = Financial assets Net

non-monetary liabilities

Changes in monetary liabilities ~ changes in

financial assets + Net non-monetary liab.
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Measurement of National Income

3 methods, ideally yielding the same result Output method

Expenditure method
Income method

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Output method

Aggregates values of all final goods and

services produced during a year or by aggregating the values of all intermediate products

Yields GDPFC and GNPFC Used especially for primary sectors Example: Agricultural and extractive
industries + Manufacturing Industries + Services and Construction = GDPFC
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Expenditure method

Aggregates all money spent by private

citizens, firms and government

Excludes values of intermediate goods

Yields GNPMP

Example: Consumers expenditure +

Government current expenditures on goods and services + Fixed capital formation + Exports Imports = GNPMP
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Income method

Aggregates incomes of only the residents

incomes that obtain income directly from the current production of goods and services

Yields GDP at factor cost Example: Income from employment +

Income from self-employment + Gross profits of companies + Rents = GDPFC

Conceptually, should yield the same result

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Alternative measures of National Output

Gross National Product Net National Product

National Income
Personal Income

Disposable Income

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Alternative measures of National Output

Net Export (E-M) + C + I + G

GNPMP Depreciation = NNPMP

NNPMP Net Indirect Taxes + Wages

+Proprietors Income + Interest + Rents + Corporate Profits = NI = NNPFC

NI Corporate Profits and Social Security

Insurance taxes + Transfer Payments = PI

PI Personal Taxes = PDI Personal

Savings = Personal Consumption
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Difficulties in measuring NI

Non-market Production Imputed Values

Underground Economy
Side Effects and Economic Bads

Leisure and Human Costs

Double Counting

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Uses of NI Statistics

As an instrument for Economic Planning and

Review

As a means of indicating changes in a

countrys standard of living

To indicate changes in economic growth of a

country

As a means of comparing economic

performance of different countries

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Practice Problems
Particulars GNP at FC Indirect taxes Rupees 95023 14723

NDP at MP
NNP at MP GNP at MP

100422
100575 107226

Calculate Depreciation Net Factor Income from Abroad Subsidies

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NDP at FC

Solution
Particulars GNP at FC Indirect taxes Rupees 95023 14723

NDP at MP
NNP at MP GNP at MP

100422
100575 107226

Depreciation = 107226 100575 = 6,651 NFIA = 107226-(100422+6651) = 100575100422 = 153

Subsidies = 95023 + 14723 -107226 = 2520

NDPFC = 100575 (14723-2520) = 88,372
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Practice Problems
Particulars GDP at FC Corporate Income Tax Personal Income Tax Subsidies Factor Income Received from abroad Factor Income Paid abroad Undistributed Profits Indirect Taxes Depreciation Rupees 6000 1200 800 400 1500 1800 250 800 400

Calculate GNP at MP, National Income,

Personal Disposable Income
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Solution
Particulars GDP at FC Corporate Income Tax Personal Income Tax Subsidies Factor Income Received from abroad Factor Income Paid abroad Undistributed Profits Indirect Taxes Depreciation Rupees 6000 1200 800 400 1500 1800 250 800 400

GNPMP = 6000
(1500-1800) + (800-400) = 6100

NI = NNPFC =
6100 400 800 +

400 = 5,300

PDI = Personal
Income Personal
Tax = 5300 250 1200 800 = 3,050

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Practice Problems
Particulars Net Factor Income from abroad Depreciation Indirect Taxes Subsidies Rupees (-)500 2000 1900 1000

Difference between GDP at MP and NNP at

FC is?

GDPMP + NFIA Dep +Subsidies Indirect

Taxes = 2000 + 500 +1900 1000 = 3,400

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Practice Problems
Particulars NNP at FC Depreciation Subsidies Rupees 4,73,246 61,809 19,431

Net Factor Income from abroad

Indirect Taxes Personal Income Tax Corporate Taxes Retained Profit

(-)6,833
87,043 9,759 7,300 6,758

Calculate GNP at MP, NNP at MP, NDP at MP,

NDP at FC, GNP at FC
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Practice Problems
Particulars NDP at MP Net factor income from abroad Depreciation Subsidies Indirect taxes Rupees 88,750 (-)260 5,220 1,820 10,825

Calculate GNP at FC

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Aggregate Demand and Supply

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Aggregate Demand and Aggregate Supply

Some countries are rich and some are not! Aggregate Demand and Aggregate Supply
answer questions about equilibriums in
goods, money market, unemployment, GDP levels etc

Provides a big picture view of the

economy

Describes the overall relationship between

overall price level and output
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Aggregate Demand and Aggregate Supply

Aggregate Supply (AS) curve describes, for

each given price level, the quantity of output firms are willing to supply

Aggregate Demand (AD) curve shows the

combinations of the price level and level of output at which the goods and money

markets are simultaneously in equilibrium

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Aggregate Demand and Aggregate Supply

Difference in the micro and macro economic

concepts of demand and supply

Equilibrium state of AS and AD Shift in AD curve Shift in AS curve

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Aggregate Supply curve

Classical Supply curve: Vertical indicating that the same

amount of goods will be supplied
whatever be the price level

Assumption: Labor market equilibrium Long term possibility Why should supply curve be vertical in
long run? Recall how it was in microeconomics!
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Aggregate Supply curve

Classical Supply curve: Potential GDP

Shift of vertical AS curve

Does potential GDP grow over time?

Changes in potential GDP do not depend

on the price level

Potential GDP changes very little over

time
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Aggregate Supply curve

Keynesian Supply curve: Horizontal indicating that firms will supply

whatever amount of goods is demanded at the existing price level

Assumption: Unemployment

Why should supply curve be horizontal in the

short run?

Short-run price stickiness

Price level does not depend on GDP - inflation
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Aggregate Demand curve

AD curve shows the combination of the price

level and level of output at which the goods and money markets are simultaneously in equilibrium

Expansionary policies effects? Do consumer and investor confidence have

an effect on AD?

Depends on real money supply

AD curve slopes downwards and shifts
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AD in Alternative Supply assumptions

Equilibrium under Keynesian case Given perfectly elastic supply, shifting AD

to the right will increase output but leave
the equilibrium price level unchanged

Equilibrium under Classical case Given perfectly inelastic supply, shifting

AD to the right results in an increase in

the price level but no change in output

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Supply side economics

Some supply-side policies: Removing regulations, maintaining an

efficient legal system, technological
progress

What is the effect of cutting tax rates? Does it have an effect on AD or AS? Only supply-side policies permanently
increase output

AS and AD in the long run

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Questions???

Have a happy Sunday!