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EW LECTURE 1EW LECTURE 1

MACRO 510*MACRO 510*

Professor Abdul BayesProfessor Abdul Bayes((abdulbayes@yahoo!o"abdulbayes@yahoo!o"##

01$115%&5&$01$115%&5&$

*Ada'ed fro" )arous sour!es*Ada'ed fro" )arous sour!es

mailto:abdulbayes@yahoo.commailto:abdulbayes@yahoo.commailto:abdulbayes@yahoo.com

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THE FOUNDATION OF

ECONOMICS

SOCIETY HAS VIRTUALLY 

UNLIMITED WANTS...

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Wha +s E!o,o"!s-

Economics sudes he !ho!esha !a, be "ade .he, here s

s!ar!y

Scarcity s a suao, , .h!hresour!es are l"ed , /ua,y

a,d !a, be used , dffere,

.ays

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Wha +s E!o,o"!s-

Be!ause our resour!es are

l"ed .e "us sa!rf!e o,e

h, for a,oher

E!o,o"ss are al.ays

re",d, us ha here s

s!ar!y2ha here are radeoffs

, e)eryh, .e do

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Pos)e )ersus 3or"a)e

 A,alyss

4 Positive economics 'red!s he

!o,se/ue,!es of aler,a)ea!o,s a,s.er, he /ueso,s

Wha s-6 or Wha .ll be-6

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Pos)e )ersus 3or"a)e

 A,alyss

4 Normative economics a,s.ers he /ueso, Wha

ouh o be- 3or"a)e/ueso,s le a he hear of

'ol!y debaes

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7e!so,s , a Moder,

E!o,o"y4 E!o,o"! de!so,s are "ade a e)ery le)el ,

so!ey

4 The !ho!es "ade by ,d)duals fr"s a,d

o)er,"e,s a,s.er hree /ueso,s8

1 Wha 'rodu!s do .e 'rodu!e-

9 :o. do .e 'rodu!e he 'rodu!s-

; Who !o,su"es he 'rodu!s-

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E!o,o"! A,alyss

a,d Moder, Proble"s

E!o,o"! a,alyss 'ro)des

"'ora, ,shs ,o real

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TE3 PR+3C+PLE= O> ECO3OM+C=

HOW PEOPLE MAKE DECISIONS 

1 Peo'le fa!e rade

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$o)er,"e, !a, so"e"es "'ro)e "are ou!o"es ?far"ers,eed safe

 !ro's resaura,s ,eed 'ay"e, by !uso"ers

HOW THE ECONOMY AS A WHOLE WORKS 

DCou,rys sa,dard of l), de'e,ds o, ably o 'rodu!e a,d'ro!ess oods

a,d ser)!es ? )arao,s due o 'rodu!)y

F Pr!es rse .he, o)er,"e, 'r,s oo "u!h "o,ey

10 =o!ey fa!es a shor

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MICRO AND MACROMICRO AND MACROECONOMICSECONOMICS

• Macroeconomics is the branch of economics that deals with anation’s economy as a whole

• Microeconomics deals with firm, hosehold and indi!idal

• Macroeconomics focses on the economic isses"nem#loyment,inflation, $rowth, trade, and the $ross domestic #rodct"that aremost often discssed in the media and in #olitical debates%

• As a biolo$y teacher teaches anatomy with #lastic re#licas of hmanbody, economists se models &styli'ed facts not details & sim#le

economy interactions by circlar flow dia$ram• (he second model is )rodction #ossibility frontier *))+ & e$% cars

in hori'ontal a-is *./// and com#ters */ or cars */, com#ters*0/// or cars 1//, com#ters 2///%

• )ositi!e !s normati!e3 doctor !s economist3 bro4en window fallacy

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BUSINESSES HOUSEHOLDS

RESOURCEMARKET

RESOURCES INPUTS

$ COSTS $ INCOMES

PRODUCTMARKET

OODS !SER"ICES

OODS !SER"ICES

$ CONSUMPTION$ RE"ENUE

CIRCULAR FLOW MODEL

http://highered.mcgraw-hill.com/sites/0072819359/student_view0/chapter2/origin_of_the_idea.html

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(he Circlar +low of (he Circlar +low of )rodction and Income)rodction and Income

• (he circlar flow shows how #rodction of $oods and ser!ices $enerates income forhoseholds and how hoseholds #rchased $oods and ser!ices #rodced by firms%

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COUR=E CO3TE3T

Ma!ro e!o,o"! !o,!e's ? 7P3P +,flao, ro.h rae e!

Co,su"'o, +,)es"e, fu,!o,s

+,flao,

 Areae de"a,d a,d su''ly

+,flao, a,d u,e"'loy"e,

Mo,eary a,d fs!al 'ol!y

+,er,ao,al rade BOP fore, e!ha,e "are a,d e!ha,e rae

>,a,!al "are

Mo,ey a,d "o,ey "are

Labor Mare

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RE>ERE3CE=

Ma,.8 Ma!roe!o,o"!s

Paul R Hru"a, a,d Maur!e

Obsfeld8 +,er,ao,al e!o,o"!s

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7+=TR+BUT+O3 O> MARH=

Class Ae,da,!e8 05

IuJClass Tes8 10

Md

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MACRO ECONOMICMACRO ECONOMIC)RINCI)5ES)RINCI)5ES

• MICRO ECONOMICS AND MACROECONOMICS

• 6OA5S O+ MACRO ECONOMICS 6rowth7 #

Inflation7 down

8nem#loyment7 down

+lctations7 Small

+orei$n sector7 E-#ansion

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• Macroeconomics focses on two basic isses7

.%5on$9rn economic $rowth, or the factorsbehind the rise in li!in$ standards in moderneconomies%

2%+lctations in economic #erformance7

• An economy is considered to be in a recession whenit fails to $row for at least si- consecti!e months%

• At other times, nem#loyment may not be a

#roblem, bt we become concerned abot sstainedincreases in #rices, or inflation%

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Gross domestic product (GDP) is a measure of the total(aggregate) market value of _______________________produced by all ________________________ of aterritory or an economy over a specified period of time,usually a year or a quarter.

!"ample# $n %&&%, 'ong ongs GDP as *+,%-. billion.

$n %&&/0&, 1angladesh2s GDP 3k.,4+- 5illion (6urrentPrices) or roughly */- billion

What is GDP ?

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Key Points Parade

monetary va#e

E%ame'

Three 'a!s of !or, flaes a,d s

!a,s of !or, sou' !a,,o be added u'

oeher 

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National Ot#t and :aleNational Ot#t and :aleAddedAdded

• National Ot#t7 is the sm of allot#t #rodced by all firms in theeconomy %

;t, one firm’s ot#t cold beanother firm’s in#t, which means

that some firms #rodce ot#t thatare sed as in#t by other firms %

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  (herefore, if we add the(herefore, if we add theot#t of all firms, we willot#t of all firms, we will

obtain a total ot#t thatobtain a total ot#t thate-ceeds the !ale of thee-ceeds the !ale of theeconomy’s actal ot#t , soeconomy’s actal ot#t , so

we will o!erestimate thewe will o!erestimate the!ale of the ot#t #rodced!ale of the ot#t #rodcedby the economy %by the economy %

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E-am#leE-am#le

• / .?/

(otal !ale of ot#t .// .0/ .?/ @./

  ere, we ha!e a #roblem of Doble Contin$

(o a!oid this #roblem, we measre the !ale of ot#t by sin$

The Value Added Concept 

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(he :ale Added(he :ale Added

• It is the the mar4et !ale of the ot#t #rodcedby the firm mins the #rchases from other firms7 (herefore

• :ale Added B Mar4et :ale & #rchases

by a firm of ot#t from other

#rodced firms 

lE l

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E-am#leE-am#le

• :ale added B mar4et !ale of & #rchase from

by a firm ot#t other firms

• :ale added by

 /

(otal !ale added B = @./ 9 = 20/ B =.?/

by all firms in the economy

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Measrement of National IncomeMeasrement of National Income

and )rodct * 6D) and )rodct * 6D)  

• If we add # the total flow ofe-#enditre on domestic ot#t, thisis called the E-#enditre

A##roach %

• If we add # the total flow of income

$enerated by the flow of domestic#rodction, this is called the IncomeA##roach %

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I% 6D) from the E-#enditreI% 6D) from the E-#enditresideside

• (he 6D) for a $i!en year is calclated by,

  addin$ # the e-#enditre needed to#rchase the final ot#t #rodced in the

year % (herefore, the !ale of ot#t or6D) is the sm of for cate$ories 7

Consm#tion In!estment 6o!ernment e-#enditre Net

E-#ort

6D) B C I 6 * & M

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• Consumption expenditure:

• Incldes e-#enditre on all $oods and ser!ices

#rodces and sold to their final sers drin$ the yearsch as7 hairct, dental care, food, drable $oods,non9drables $oods, and clothes%

• Investment expenditure:

• incldes e-#enditre on $oods not for #resent

consm#tion% (his incldes7 in!entories *stoc4s ofin#ts, ca#ital $oods sch as factories, machines,warehoses, and residential hoses%

• Gross investment7 is the total in!estment that

occrs in the economy which is di!ided into two#arts7 replacement investment  and net investment. 

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• Replacement investment7 is theamont of in!estment that Fstmaintain the le!el of e-istin$ ca#ital

stoc4 *it is called the capitalconsumption allowance ordepreciation%

• Net investment B $ross in!estment9re#lacement in!estment%

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• Government purchases of goods

and services:• (his incldes $o!ernment #rchases of

crrently #rodced $oods and ser!ices %

• Note that not all $o!ernment e-#enditreis conted as a #art of 6D)%

• All transfer paymentsare e-clded sincethey are not made in retrn for crrently

#rodced $oods and ser!ices% +ore-am#le7 social secrity #ayments forretired #eo#le *#ensions%

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• Net exports:

•

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E-am#leE-am#le

• 6i!en the followin$ data, calclate the6D)

  C B = 02G. 3 I B = 110 3 6 B = H>>

  B = 1/ 3 M B = .>/

6D) B 02G. 110 H>> * 1/ &.>/

B = @H/H

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• Interest7 incldes interest earnedon ban4 de#osits and on loans tofirms%

• "rofit7 incldes both di!idends*#rofits #aid to the owners of firmsand retained #rofits by firms%

 

• No factor paments:

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• No factor paments:• (hese #ayments incldes indirect taxes and

de#reciation%

• Note that ta-es will be inclded when we calclate 6D)from the income side since they re#resent incomeclaimed by the $o!ernment%

• Note also that we ha!e to sbtract governmentalsubsidies on $oods and ser!ices since these #ayments

allow incomes to e-ceed the mar4et !ale of ot#t%• So, indirect taxes net of subsidies will be added to the

for com#onents of factor #ayments in order to $et theNet #omestic "roduct$

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• #epreciation7 is the !ale of ca#italthat has been sed # in the #rocessof #rodcin$ final ot#t% It is the!ale that mst be rein!ested%

• It is #art of $ross #rofits bt becase

it is needed to com#ensate forca#ital sed # in the #rodction#rocess, it is not #art of net #rofit%

• Addin$ de#reciation to net domestic#rodct $i!es Gross #omestic"roduct %G#"&%

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6D) from the Income Side6D) from the Income Side• E-am#le7• Factor paments B

  wa$es rent interest #rofit

2H00 2/ 0HG G>2 B = @//.

• Net #omestic "roduct B factor #ayments * indirectta- & 6o!t% sbsidies B @//. *@2@ 9 ./ B =@@.>

• G#" B net domestic #rodct De#reciation

  B @@.> >/? 9 *statistical discre#ancy .@

B = @H/H 

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6D) :S 6N)6D) :S 6N)• 6D) 7 Measres the !ale of total

ot#t produced domestically  bysmmin$ the !ale added by each

indstry%

• 6N) 7 Measres the income recei!ed

by residents of the country nomatter where that income was$enerated%

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Sorces of differences betweenSorces of differences between6D) and 6N)6D) and 6N)

• .% Some local #rodction creates factor income forforei$ners which will be sent *at least #artiallyabroad and ths, it is not a #art of the contry’s 6N)*and it will be conted as a #art of the contry’s

6D)%

• 2% Some of the local residents earn income as areslt of forei$n in!estments which will be conted asa #art of the contry’s 6N) *bt not in the contry’s

6D)%

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6D) :S% 6N)6D) :S% 6N)

• 6D)  J !ale of domestic based assets  owned by forei$ners KK%

  !ale of forei$n based assets

  owned by local residents % KK%

 JJJJJJJJJ

B 6N)KK%

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E-am#leE-am#le• 6i!en that the !ale of 6D) B = @H/H

and the !ale of domestic based assetsowned by forei$ners eLals to = 2/// ,and the !ale of forei$n based assets

owned by the local residents eLals to =0/// % +ind the !ale of the 6N)

• 6N) B @H/H & 2/// 0/// B = >H/H

• If 6N) 6D) the contry is a netcreditor

• If 6N) 6D) the contry is a net debtor

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Dis#osable )ersonal IncomeDis#osable )ersonal Income

• It is the #art of national income that isa!ailable to hoseholds to s#end or tosa!e%

• (o calclate the dis#osable income weha!e to sbtract from 6D) the #artsthat are not a!ailable to hoseholds

sch as7 de#reciation, ta-es, retained#rofits, interest #aid to instittions, andadd transfer #ayments%

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(otal :ale, )rodcti!ity and )er(otal :ale, )rodcti!ity and )erCa#itaCa#ita

• 6D) B #er ca#ita 6D) or how mchtotal #o#lation  there is on a!era$e for each

#erson

• 6D) Ba!era$e ot#t #er em#loyedwor4er

P of #eo#le em#loyed

 

• 6D) Bot#t #er hor of labor in#t

(otal P of wor4in$ hors 

RealReal

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 RealRealNational IncomeNational Income

• 6i!en the followin$ data below, calclate both thenominal and the real national income for 2 years%Assmin$ that year 2 is the base year%

  Qantity #rodced )rices

  >

Calclation of NominalCalclation of Nominal

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Calclation of NominalCalclation of NominalIncomeIncome

• Nominal income B crrent crrent

Lantities #rices

(herefore 7

• Nominal income for year . eLals to 7* .// ./ * 2/ >/ B = 2///

• Nominal income for year 2 eLals to 7

  * ../ .2 * .G >> B = 22//

Calclation of RealCalclation of Real

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Calclation of RealCalclation of Realincomeincome 

• Real income B crrent #rices ofthe Lantities baseyear

(herefore 7

  Real income for year . eLals to 7

* .// .2 * 2/ >> B = 20//

Real income for year 2 eLals to 7

* ../ .2 * .G >> B = 22//

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REA5 :S NOMINA5 6D)REA5 :S NOMINA5 6D)• )rices and Qantities

• 6D) may rise becase*a the economy is #rodcin$ lar$erLantities of $oods and ser!ices3 *b the $oods and

ser!ices are sold at a hi$her #rice% Se#arate the two effects

• ear )rices of D Qantity )rice of ;; Qantity

• 2//> =. .// =2 >/

• 2//G =2 .>/ =0 .//

• 2//1 =0 2// =@ .>/

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• Calculating nominal G#":

• 2//>7 *=. #er D .// D *=2 #er ;; >/ ;;B=2//

• 2//G*=2 #er D .>/ D *=0 #er ;; .//;;B=G//

• 2//17*=0 #er D 2// D *=@ #er ;; .>/ ;;B=.,2//

• Calculating Real G#" %'ase ear ())*&

• 2//>7 *=. #er D .// D*=2 #er ;;>/ ;;B=2//• 2//G7 *=. #er D .>/ D *=2 #er ;; .// ;;B=0>/

• 2//1=. #er D 2// D *=2 #er ;; .>/ ;;B=>//

• G#" #eflator:

• 2//>7 *=2//=2//.//B.//

• 2//G7*=G//=0>/.//B.1. *ow mch #rice rose• 2//1=.2//=>//.//B2@/

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Im#licit 6D) DeflatorIm#licit 6D) Deflator

• Is an implicit price index  that com#aresthe nominal and the real 6D) o!er a$i!en #eriod of time%

• (his inde- measres the change in prices o!er that #eriod % (herefore,

• Im#licit 6D) B 6D) at crrent #rices J.//

  deflator 6D) at base year #rices

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E-am#leE-am#le• 6i!en that 7

  S##ose, 6D) at crrent #rices for year . B = 2///

* Nominal 6D) of year ., and

6D) at base year #rices for year . B = 20//

* Real 6D) for year . , therefore

• Im#licit 6D) Deflator B 2/// .//  for year . 20//

  B ?G%H

• (his means that the #rice le!el of year . is ?G%HT of the #ricele!el of year 2 *the base year%

• Note that we can se year . as or base year%

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6D) AND NA(IONA5INCOME

6D) B >>.0%?

  )ls7 net factor #ayments *Income from ca#italand em#loyment abroad & those sent abroad

./%1ELals 6N) B>>2@%>  5ess7 de#reciation B>H@%?ELals NN) B@H2H%?  5ess7 sales and e-cise ta- B@0H%2

  5ess bsiness transfers B 21%1  5ess statistical discre#ancyB?%.ELals National Income B @@>H%G

NA(IONA5 INCOME AND

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NA(IONA5 INCOME AND)ERSONA5 INCOME

National Income B ++*,$-

  5ess7 contribtion to social insrancesecrity B >/.%1

  5ess7 cor#orate retained earnin$ B .H@%2

  )ls7 nonbisness interest B 20.%2

  )ls7 transfer #ayments from $o!t *social secrity and bsiness BG?@%H

ELals #ersonal income B @G1H%?

  5ess7 income ta- B G2.%/

ELals7 )ersonal dis#osable income%

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Ille$al Acti!itiesIlle$al Acti!ities

•E-am#le 7

•Dr$s trade

•6amblin$•5iLor

•All sch acti!ities are notinclded in the !ale of the6D) %

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8nre#orted Acti!ities8nre#orted Acti!ities

•(hese are le$al acti!ities, btare not re#orted for ta-

#r#oses %

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Non9mar4et Acti!itiesNon9mar4et Acti!ities

•Any do it yorself acti!ity

and any !olntary wor4 %

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Economic ;adsEconomic ;ads

• )olltion, con$estion, and otherdisamenities associated with economic$rowth are called economic bads

and are not reflected *measred inthe calclation of 6D) or 6N)%

• +or e-am#le, the !ale of the dama$e

done by the acid rain is not dedctedfrom the 6D) or 6N)%

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Do the Omission Matter Do the Omission Matter

• If we wish to measre the flow of $oods andser!ices through the market sector  of theeconomy, then most of these omissions willnot matter%

• ;t, If we wish to measre the overall flow ofgoods and services available to satisfy the#eo#le’s wants re$ardless of the sorces of

$oods and ser!ices , then the omissionsare ndesirable%

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6rowth !erss De!elo#ment6rowth !erss De!elo#ment

• Economic $rowth may be one as#ectof economic de!elo#ment bt is notthe same

• .conomic gro/th:&A measre of the !ale of ot#t of

$oods and ser!ices within a time #eriod

• .conomic #evelopment:&A measre of the welfare of hmans in asociety

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• Other considerations of hman welfare7

• )olitical freedoms

• Sstenance

• Sstainable de!elo#ment• Self esteem

• )ro#ortion of acti!ity in different sectors ofthe economy7

& )rimary& Secondary

& (ertiary

Measrin$ Real :erss NominalMeasrin$ Real :erss Nominal

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Measrin$ Real :erss NominalMeasrin$ Real :erss Nominal6D)6D)

G#" #ata for a 0imple .conom

1uantit "roduced "rice

Nominal G#"2ear Cars

Computers Cars Computers

2//G @ . =./,/// =>,/// =@>,///2//1 > 0 =.2,/// =>,/// =1>,///

• (o calclate real 6D) we se constant#rices% 1uantit

"roduced

"rice

2ear Cars Computers Cars Computers Real G#"

2//G @ . =./,/// =>,/// =@>,///

2//1 > 0 34)5)))

3*5))) =G>,///

ro.h of real 7P8

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)ROD8C(I:I()ROD8C(I:I(• )rodction and #rodcti!ity & income differential

• Daniel Defoe’s famos no!el Robinson Crsoe & a sailorstranded on a desert island

• Catches own fish, $rows own !e$etables, ma4es own cloth& a sim#le closed economy%

• If Crsoe is $ood at all acti!ities, he is well3 if not li!es#oorly%

• )rodcti!ity is the 4ey in Crsoe’s li!in$ standard%

• Americans li!e better than than ;an$ladesh not becase

America is bi$$er bt becase America’s labor is more#rodcti!e%

DE(ERMINAN(S O+DE(ERMINAN(S O+

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DE(ERMINAN(S O+DE(ERMINAN(S O+)ROD8C(I:I()ROD8C(I:I(

• )hysical ca#ital #er wor4er & saws, lathes anddrill for wood wor4er3 so#histicated than basictools%

• man ca#ital #er wor4er & 4nowled$e, s4ills

• Natral ca#ital #er wor4er &land, ri!ers, mineralde#osits%

• Renewable *forest and non9renewable *oil

• (echnolo$ical 4nowled$e7 nderstandin$ of howworld wor4s3 hman ca#ital transmits it to laborforce

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SO8RCES O+ 6RO

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SO8RCES O+ 6RO

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SO8RCES O+ 6RO

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SO8RCES O+ 6RO