Introduction to Economics

1. Introduction to Economics The US Economy

2. Economics in the News

3. Los Angeles Times October 29, 2002 Page A-1 California State Budget and the UC Budget, Lecture Nine

4. Wall Street Journal October 30, 2002 Page

5. Chapter 25 • Keynesian Economics

6. Determining GDP • GDP is determined where the C + I line intersects the 45˚ line. • At that level of output, y*, desired spending equals output.

7. Chapter 30 • The Dynamics of Inflation and Unemployment

8. Nominal rate of interest = Real rate of interest + Expected rate of inflation Money Growth, Inflation,and Interest Rates • When the public holds expectations of inflation, real and nominal rates of interest will differ. • In the long run, changes in the money supply do not affect real variables, including the real interest rate. But nominal rates, which depend on the rate of inflation, will be affected by the growth of the money supply.

9. The Quantity Equation • The equation of exchange, or quantity equation, links the money supply and velocity to nominal GDP: • If velocity is predictable, we can use the quantity equation and the supply of money to predict nominal GDP, or the value of spending, on the right side of the equation.

10. Chapter 27 • Money, the Banking System and the Fed

11. The Role of the Federal Reservein the Money Creation Process • Open market purchases: The Fed’s purchase of government bonds, which increases the money supply. • Open market sales: The Fed’s sales of government bonds to the public, which decreases the money supply.

12. Using Concepts to Illustrate the US Economy in Fall 2002 • Production Possibility Frontier Tool: Illustrate the War on Terrorism • Lecture Eight

13. Guns or Butter War Front: “Guns” This year Last Year Production Possibility Frontier: Real GDP Govt.: Tax it away or borrow to buy it away Opportunity cost of war in“butter” Home Front: “Butter”

14. Using Concepts to Illustrate the US Economy in Fall 2002 • Production Possibility Frontier Tool: Illustrate that the Government wants more guns and butter, and spends on both increasing nominal GDP faster then real GDP • Lecture Eight

15. Guns or Butter War Front: “Guns” Government. Wish Nominal GDP Production Possibility Frontier: Real GDP Govt.: Tax it away or borrow to buy it away Home Front: “Butter”

16. Is Inflation on the Way? • Measure GDP in current (nominal) $ • But how much of the change from year to year is a change in output and how much is a change in prices? • GDP(nominal) = GDP Deflator x GDP(real)

18. GDP Deflator: Percentage Change Lecture Eight Source: http://www.yardeni.com

19. Inflation Lecture 5 Http://stats.bls.gov/eag/eag.us.htm

20. Using Concepts to Illustrate the US Economy in Fall 2002 • Production Possibility Frontier: Real GDP Could be Getting Ready to Decline-Double Dip Recession?

21. Less Guns and Butter? War Front: “Guns” Production Possibility Frontier: Real GDP Home Front: “Butter”

22. Lab Five: Http://www.economagic.com

23. Using Concepts to Illustrate the US Economy in Fall 2002 • What are the Policy Options to Fight Recession • Fiscal Policy: Lecture Seven

24. Bust Income = expenditure I.e. Y = GDP Consumption, C Investment, I GDP GDP = C + I +G Total Expenditure GDP Line Aggregate Expenditure Unemployment Rate Oct. 2000 = 3.9% 450 GDP = Y National Income, Y Unemployment Rate Sept 2001 = 4.9 %

25. Bust Income = expenditure I.e. Y = GDP Consumption, C Investment, I GDP GDP = C + I +G Total Expenditure GDP Line Aggregate Expenditure 450 GDP = Y National Income, Y Lecture Seven

27. National Income and Product Accounts (NIPA)-Ch. 20 Percent Change in Real (Constant $) GDP with Component

28. Federal Government Spending Source: http://www.yardeni.com

30. Personal Savings Rate: Income = Consumption + Savings Source: http://www.yardeni.com

31. Retail Sales in Trillions of Dollars Source: http://www.yardeni.com

32. Policy Option: Reassure the Public “The only thing we have to fear is fear itself” Franklin Delano Roosevelt Lecture Seven

33. Bust Income = expenditure I.e. Y = GDP Consumption, C Investment, I GDP GDP = C + I +G Total Expenditure GDP Line Aggregate Expenditure Unemployment Rate Oct. 2000 = 3.9% 450 GDP = Y National Income, Y Unemployment Rate Sept 2001 = 4.9 % Lecture Seven

34. Using Concepts to Illustrate the US Economy in Fall 2002 • What are the Policy Options to Fight Recession • Monetary Policy: Lecture Nine

35. The Federal Reserve System: Purposes & Functions http://www.bog.frb.fed.us/ PDF format: Adobe Acrobat

36. The Federal Reserve System: Purposes & Functions http://www.bog.frb.fed.us/ PDF format: Adobe Acrobat

37. Impact of the Supply of Reserves on the Federal Funds Rate Demand for Reserves by Banks FFR, price of reserves Supply of Reserves: Fed quantity of reserves

38. Fed: Lender of Last Resort to Banks at Discount Rate, 00-02 Source: Federal Reserve Bank of Minneapolis

39. The Federal Reserve • Maintaining Liquidity: The Growth of the Money Supply

40. The Annual Rate of Growth of M1 Source: http://www.yardeni.com

41. Definitions of Money • M1(a measure of media of exchange) = • currency held by the public, outside of banks • checkable deposits • demand deposits • NOW (negotiable order of withdrawal) accounts • savings & loans, mutual savings banks • traveler’s checks • M2 = M1 + • money market accounts at banks • money market mutual fund accounts • certificates of deposit, CD’s, less than $100,000 • M3 = M2 + CD’s over $100,000 Lecture Nine

42. Consumer Credit Outstanding as a % of Disposable Personal Income (Ch. 25) Source: http://www.yardeni.com

43. Using Concepts to Illustrate the US Economy in Fall 2002 • What has been the economic impact of the “War on America”? • Destruction of income (flow) • Destruction of wealth (stock)

44. The Direct Loss of Income • 3000 fatalities • @ $100,000 per year income • $ 0.3 billion

45. The Indirect Loss of Income: Potential GDP • Full employment of labor • Full employment of capital

47. Lab Three: National Income and Product Accounts (NIPA)-Ch. 20 Billions of Current $, Seasonally Adjusted at Annual Rates GDP is Gross Domestic Product

48. The Indirect Loss of Income: Potential GDP • Full employment of labor • unemployment rate has gone from 4 % to 5% • Say we lost 1 % of national income, 2002II $10377 billion, would be $104 billion • Full employment of capital

49. Capacity Utilization Source: http://www.yardeni.com

50. How Much of the Loss is Attributable to the Attack • As of August 22, the Survey of Professional Forecasters were still relatively optimistic • Calling for a growth rate in real GDP of 2.4% in 2002QIII • calling for a growth rate in real GDP of 2.6% in 2002 QIV