Introduction

1. Introduction • Who we are: • Ted Berk (OD), eberk@mba2001.hbs.edu, 868-8577 • James Ratcliffe (OC), jratcliffe@mba2001.hbs.edu, 492-2974 • What these reviews are for: • Focus on the basic tools • i.e. what you need to know for BGIE as it’s taught at HBS • Geared towards people who feel like they aren’t “getting it” • NOT for folks with macroeconomics courses in their past • NOT for debating the arcane details of macroeconomic theory • Slides are on the web at: www.mba2001.hbs.edu/jratcliffe/bgie.html

2. Agenda • What we’ll cover today: understanding math and data in BGIE • CAGRs • Real vs. nominal • National income and product accounts • Q&A • What we’ll cover in future sessions: • Fiscal policy • Balance of payments • Exchange rates • Interest rates / monetary policy

3. Why data matters(i.e. why should I read the exhibits?) • BGIE is different from a traditional economics course in that the emphasis is on action, not on complex theoretical debates • A great deal of the debate over BGIE topics centers around the implications of what the data say • “Given falling output and deflation, what should Hoover do?” • In BGIE, to make or defend your position, you usually need to back it up with numbers • Rhetoric is only a part of what counts here

4. CAGRs • Why do they matter? • CAGRs are used to summarize economic performance over a period of time • GDP growth, population growth, etc. • Often helpful in comparing different time periods, different countries • They are your best friend in BGIE (and they keep on popping up in Finance, too!) but can be misused • Low initial values, short time periods, selection of start and end points will all impact CAGRs • How do you calculate them? • [ ( Ending value / Beginning value ) ^ (1 / number of periods) ] - 1

5. CAGR example: Singapore

6. Real vs. nominal • Why does it matter? • Need to distinguish between changes in price levels and changes in “real” economic activity • Earnings, spending, investment, etc. • Did your standard of living really go up with your raise? • If you got a 100% raise in the US last year, you’d be excited. • If you got a 100% raise in Germany in 1923, you’d be less happy. • What is “nominal”? • Conceptually equivalent to the quantity (e.g. of output) multiplied by current prices • Usually BGIE data are in nominal terms, unless otherwise noted • What is “real”? • Data that have been adjusted to remove the impact of changes in the price level, i.e. the quantity multiplied by prices of some base year • You see only the impact of “real” changes in economic factors

7. Calculating real metrics • To calculate “real” metrics, you need to remove the impact of changes in the price level • Not measuring dollar sales of cars, but how many cars are sold • General rule for determining real measures: Real = Nominal x (base year prices / current prices) • Choice of a base year does not really matter – the goal is to compare different years using the same price level • Bob’s salary increased from $50k to $60k, and price levels increased 10% this year. • What was the real and the nominal increase in Bob’s salary? • Company X’s sales in 1982 were $50m, in 1992 they were $100m. The price index for 1982 was 70.2, and the price index for 1992 was 100. • How did Company X’s sales change in real and nominal terms? • Nominal U.S. GNP in 1929 was $103.1b, in 1930 it was $90.4b. The price level in 1929 was 50.6, in 1930 it was 49.3, and in 1958 it was 100. • How did US GNP change in real terms between 1929 and 1930?

8. Country example: India

9. National income and product accounts • National Income Accounts – Why Bother? • They let us know what’s actually going on with the economy • Ignorance is bliss (Hoover), but not if you’re an economic planner • National Income Equation: Y = C + I + G + (X – M) • Y = total output (production) of a country’s economy • A measure of the level of economic activity • GDP is the output created domestically (within a country’s borders) and is more commonly used • GNP is created by a country’s nationals (citizens) wherever they live in the world • C = consumption by private individuals • I = investments by private business (capital expenditures + inventories) • G = government spending on goods and services, i.e. government consumption and investment • X = exports, M = imports  (X – M) = net exports

10. Issues in national income accounting • Y includes only current production of new, “final” goods and services • Excludes intermediate goods or transfers of existing assets (and thus most financial transactions) • Only includes market transactions • Investment by private individuals (consumer durables) is considered C • Exception: residential construction is considered I • I includes investment by private business, while government investment is included in G • G does not include transfer payments but only government spending on goods and services

11. NIPA examples • McDonald’s buys ground beef. • McDonald’s sells a hamburger. • James buys a crappy used car. • Ted buys a spanking new car. • Hilton outfits a new hotel kitchen with dishwashers. • James buys a dishwasher for his apartment. • The U.S. government pays Bechtel for building a new dam. • The U.S. government sends my grandparents a Social Security check. • James finally sells his Ventro stock (to Ted). • Ted gives James a lift to the airport. • James takes a taxi to the airport. • McDonald’s buys a new inventory tracking system from Oracle.

12. Questions?