Unit 6

International trade allows nations to specialize in production increasing productivity

• nations trade because of uneven distribution of resources
• Absolute advantage- country produce more goods than another
• Comparative Advantage- country can produce goods at lower opportunity cost
• Free trade- government does not interfere
• Trade protection- policies that limit imports
• tariffs- tax on imports
• raises domestic price above international price which leads to fall in trade and consumption and a rise in domestic production
• domestic producers gains because they get assistance to compete internationally
• government gains by collecting higher tax revenue
• consumers lose because prices are higher
• foreign producers lose because there will be less consumption of their goods
• import quotas- limit how much imports can come into the country
• effects similar to tariff, but no revenue to government
• subsidies- government provides assistance to lower production cost
• causes supply to increase which decreases price, so consumers benefit
• Arguments for trade protection
• national security- we have to protect the steel industry because we need steel to make weapons
• job creation- factories create tons of jobs
• infant industry argument- we want to foster new industries here because they might grow to be extremely prosperous

Financial Account- buying/selling of real assets and financial assets

• real asset- house, land, building, something that can't be moved
• financial asset- stocks/bonds

Credit- when money comes into countries like through exports

Debit- when money goes out like through imports

Foreign Exchange Graph

•  this shows the relationship between two countries' currencies
• x axis= quantity of the country's currency focused on
• y axis= the exchange rate
• depreciation=when the exchange rate of the currency goes down
• appreciation= when exchange rate of currency goes up
• ***increase demand of one country's currency will increase supply of another country's currency and vise versa. REMEMBER demand of one country's currency will shift in the same direction as supply of the other country's currency!!!
• For example, if European goods become substantially cheaper than American goods, American import of European goods will increase. In order to purchase European goods, we need Euros, so the demand of Euros increase. But, we need dollars to exchange for Euros. So, the more Euros we demand, the more dollars we need to supply.
• Remember that MONEY CHASES HIGH INTEREST RATES because foreign investors can get more in return when interest rates (rate of return in this case) is higher. 
• So, if a country has higher interest rates relatively to the rest of the world, then there will more financial investment in the country which means higher demand for its currency causing the currency to appreciate or increase in value.

Unit 5

Output gaps- difference between actual and potential output

• inflationary gap- actual > potential
• recessionary gap- actual < potential

Phillips Curve

• Inverse relationship between inflation and unemployment
• ***Long run Phillips curve shows that there is NO TRADE OFF between inflation and unemployment in the long run after expectations of inflation have had time to adjust

Productive efficiency- producing most amount of goods with least amount of resources

Allocative efficiency- efficiently using factors of production to produce desirable goods

Loanable Funds Model

• Factors that affect demand of credit
• rising interest rates (-)
• budget deficits (+)
• inflationary expectations (-/+)
• Factors that affect supply
• rising interest rates (+)
• savings (+)
• inflationary expectations (+)
• DON'T FORGET CROWDING OUT- when government spending increases, the demand for credit increases which increases real interest rates. This leads to less investment spending which leads to less economic growth in the long run. REMEMBER increased investment spending will shift LRAS to the right and the PPC outward!!!

Economic Theories

• Keynes- manipulate economy by shifting AD, wages sticky in short term
• Classical- economy self corrects
• Rational Expectations- there's no need to do anything because economy would adjust instantaneously. If people think that inflation is higher, then they adjust their spending.
• Monetarism- economy is stable unless there's inappropriate monetary policy

Unit 4

Equation of Exchange: MV=PQ

• M=money supply
• V= velocity of money: average # of times per year a certain dollar bill is spent
• P= price level
• Q= quantity
• MV= total amount spent by consumers
• PQ= NGDP

M1= money supply

• most liquid
• currency, coins, demand/ checkable deposits, traveler's checks

M2- less liquid, M1+savings

Demand for money: Total demand= Transaction+Asset

• Transaction demand- demand for money as medium of exchange, so like cash. As GDP/PL increase, transaction demand increase
• Asset demand- demand for money as a store of value, so like savings. Varies inversely with interest rate.

Money Market

• supply of money does not change unless the Federal Reserve changes it through monetary policy
• equilibrium NIR is intersection of supply and demand of money

International investors chase less expensive goods and high interest rates. High interest rates will assure that they get more money back for their financial investments.

Banks create money by:

• Fractional Reserves- the Fed sets reserve ratio (RRR) that requires the reserve requirement for each bank, but the bank can lend out its excess reserves allowing it to make loans not fully backed up by reserves. Banks create money through loans.
• Increase in money supply= initial cash deposit x multiplier (1/RRR)

Monetary Policies

• Open Market Operations
• buying securities- increase money supply by increasing bank excess reserves
• selling securities- decrease money supply by decreasing bank excess reserves
• raising reserve ratio- decrease money supply because bank allowed to loan out less reserves
• lowering reserve ratio- increase money supply because bank allowed to loan out more reserves
• lowering discount rate- increase money supply because commercial banks encouraged to obtain more reserves by borrowing from fed
• raising discount rate- decrease money supply because commercial banks discouraged from obtaining more reserves by borrowing from fed
• Easy Money policy- increase money supply
• Tight money policy- decrease money supply
• Fed funds rate- interest rates that member banks charge one another for overnight loans of reserves that are established by interaction of lenders and borrows

Nominal Interest Rate= Inflation Rate + Real Interest Rate

Unit 3

Disposable Income= Consumption + Personal Savings

• For people, money earned after taxes
• For gov, GDP

Average Propensity to Consume= C/DI

Average Propensity to Save= S/DI

APC+APS=1

MPC=Change in C/Change in DI

MPS= Change in S/Change in DI

MPC+MPS=1

Spending Multiplier= 1/MPS

Change in Spending x Multiplier= Change in GDP

Keynsian Model

• Consumption=disposable income anywhere on 45 degree line
• Determinants of Consumption and Savings:
• Wealth- if our wealth goes up, we buy more stuff
• Expectations- if prices are going down in the future, we wait and save our money to buy stuff later 
• Real Interest Rates- if the cost of borrowing goes up, then we're going to borrow less and spend less
• Household debt- as our debt goes up, consumption goes up and savings go down until we reach a certain point when we can know longer build up more debts
• Taxes- consumption and savings move in same direction because increase in taxes is paid for out of future consumption and savings

Aggregate Demand/ Aggregate Supply model: Probably the most important graph of the entire course so LEARN IT!!! ***DON'T FORGET LABELS

Aggregate Demand= C+G+I+Xn (Yes, it's like GDP)

• An increase in interest rates (cost of borrowing) will cost consumption of durable goods, business investment, exports to fall
• A change in C, G, I, or Xn will shift AD

Long Run Aggregate Supply- output is the same despite rising or lowering of prices

• In the long run, as rate of inflation increases, wages increase too offsetting any change in production
• Any change in economy that alters the natural rate of output (PPC curve) shifts LRAS which are the the factors of production

Short Run Aggregate Supply

• In the short run, an increase in overall level of prices in the economy tends to raise quantity of goods and services supplied
• Sticky Wage Theory- NGDP are slow to adjust or are sticky in the short run due to wage control, etc. So in the short term, wages don't change.
• Selft Correcting Theory
• In the short run, real wages will change depending on inflation. As inflation goes up, real wages goes down because purchasing power of money goes down
• In the long run, nominal wages are flexible and are adjusted according to inflation

Fiscal Policy- enacted by Congress to alter RGDP, employment, inflation, and economic growth, only effect demand side economics

• Discretionary Fiscal Policy- deliberate manipulation of taxes and gov spending by Congress
• Expansionary Fiscal Policy- used to combat recession
• increase gov spending
• reduce taxes which is less effective because part of the extra money that doesn't go towards taxes is saved
• leads to government budget deficit (deficit spending)
• Deficit spending financed by borrowing money
• leads to Crowding out which means government demand for credit lead to higher interest rates thus choking off investment spending and consumer durable spending
• create more money, but might lead to higher levels of inflation
• Contractionary Fiscal Policy- used to combat inflation
• decrease gov spending
• increase taxes
• leads to gov budget surplus
• surplus leads to debt reduction and impounding
• Supply Side Fiscal Policy- expansionary tax cuts to shift SRAS to right
• increase of savings and investments
• increasing capital stock
• incentive to work, to take new jobs
• increasing productivity
• risk taking
• Non-discretionary Fiscal Policy-built-in automatic stabilizers to temper effects of business cycle swings
• Transfer payments (welfare)- used during recession
• Progressive tax system- higher % taxed on rich
• Regressive tax system- higher % taxed on the poor
• Timing problems- Recognition/Administration/Operational lags

Unit 2

Gross Domestic Product- total market value of all final goods and services produced within a country in a given year

• Intermediate goods that go into the making of the final good are not counted
• Only goods that are produced within a country count towards GDP. Therefore, production for an American company in China would only count towards China's GDP
• Financial Transactions are not included in GDP
• Secondhand sales are not included
• Underground economy not included which can mean the illegal drugs, black market, or babysitting

Expenditures Approach: GDP= C+I+G+Xn

• Consumption- durable/ non-durable consumer goods, services
• Investment- machinery, equipment, tools, construction, changes in inventory
• Government Spending- spending for public services, social capital. DOES NOT include transfer of payments like Social Security, etc
• Net exports= Exports-Imports

Simple Circular Flow- This is actually a simplified version

Inflation- rise in general level of prices

• Anticipated- built into economic decisions
• Unanticipated inflation- not expected
• Helps
• wages increase, so government receives more
• businesses raise prices prior to raising wages
• debtors technically have to pay back less than what's owed
• Hurt
• people on fixed income
• Creditors and savers

Nominal GDP- not adjusted for inflation

• NGDP= current year outputs x base year prices

Real GDP- adjusted for inflation

• RGDP= NGDP/ CPI (in hundredths)

Price Index- measure of price of a "market basket" in a given year compared to price of identical "market basket: in a reference year

• CPI= Price of market basket in specific year/ Price of same basket in base year   x 100
• CPI (in hundredths) = NGDP/ RGDP

Unemployment- Natural rate is about 4~5% or 5~6%

• Employed
• Currently working
• Part time workers
• Noninstitutionalized civilian population 16 and over
• work in family business, 15 hours or more per week with no pay
• DOES NOT include working under the table or in the underground economy
• Unemployed
• must be looking for work in last 4 weeks
• temporarily laid off from work
• Labor Force= Employed + Unemployed
• Unemployment Rate doesn't include Marginally attached workers who have given up looking for work, discouraged workers who no longer have required skills, and underemployed workers who has jobs below their still set
• Types
• Frictional- when workers move from one job to another, new entrants/ re-entrants to labor force-----NORMAL part of healthy economy
• Structural- change in technology will take away people's jobs like machines taking over factory labor
• Season- seasons or holidays like Mall Santas are unemployed when it's not Christmas season
• Cyclical- results from recessions and economic downturns----HARMFUL. Healthy economy= no cyclical unemployment= FULL EMPLOYMENT

Unit 1

Economics- social science that examines how individuals, institutions, and society make optimal choices under conditions of scarcity. REMEMBER SCARCITY. Something is scarce if there's limited amount of it and it is valuable.

Macro vs Microeconomics:

• Macro looks at economy as a whole or major aggregates
• i.e. We might lump together all consumers in US economy and treat them as one unit called "consumers"
• Micro looks at specific economic units
• i.e. We might look at decision making of individual consumers, households, etc

Positive vs Normative Economics:

• Positive: focuses on facts and cause/effect relationships, deals with what economy is actually like
• Ex: Employment in France is higher than US
• Normative: incorporates value judgments on what economy should be like
• Ex: France ought to make labor market more flexible to reduce unemployment

Economizing problem

• Constant struggle between our unlimited wants and our limited resources
• Whenever unlimited wants chases limited resources, there will necessarily be a cost
• ***Cost doesn't have to be money.

Opportunity Cost

• Opportunity cost is the next best alternative
• Ex. If John can either watch a movie, party, or study. If he chooses to study, then his opportunity cost is next best thing which is a personal one because it might differ from person to person. The trade-off is everything aside from his choice which would be watching a movie and partying.

Resources: (Factors of Production)

1. Land (Natural resources)- water, air, raw materials which are scarce. We make products out of natural resources
2. Labor (Human resources/capital)- limited amount of people in labor force
3. Capital- man-made goods that produce goods for future consumption like equipment, machinery, etc. It does NOT mean money
4. Entrepreneurship- individual willing to take risk to start a business

Production Possibilities Curve- shows possible combinations of goods and services that can be produced

 

• Points on the frontier represent efficiency and full employment
• Points inside the frontier represent inefficiency, unemployment
• Points outside the frontier are currently unattainable
• An increase in productive resources will shift curve outward.

Absolute vs Comparative Advantage

• Absolute- a country can produce more of a commodity than another country
• Comparative- a country can produce a commodity at a lower opportunity cost than another country

Specialization- more efficiency: If a country can produce a commodity at a lower opportunity cost than it should produce it. If there isn't comparative advantage, then there is no incentive to trade.

Law of Demand- If price rises, then quantity demanded decreases and if price falls, then quantity demanded increases

Determinants of Demand: (Remember TIMER)

• Change in Taste/preferences
• Change in consumer Income
• If income goes up, demand for inferior goods go down
• Change in Market size
• Change in Expectations
• If we think future incomes will go up, then our demand goes up today
• If we expect future prices to go up, then we increase demand for goods today
• Change in Related goods
• Complementary goods- goods that purchased together like hamburgers and buns
• Substitute goods- goods that can substitute each other like Coke and Pepsi

Law of Supply- If price of goods rises, then quantity supplied increases and if price falls then quantity supplied decreases

Determinants of Supply: (Remember ITGONE)- Anything that increases cost of production decreases supply!

• Changes in prices of Inputs
• Changes in Technology
• Government tools
• taxes- if gov increase taxes on businesses, profits go down, so supply goes down
• subsidies- gov give money to lower production cost, profits go up, so supply goes up
• regulations- increases cost of production, so supply goes down
• Changes in the price of Other goods
• if you make more of one good, you're going to make less of another
• Changes in Number of suppliers
• if there are more suppliers, there will be more goods supplied
• Changes in producer Expectations
• future prices might cause a supplier to decrease or increase supply

Market Equilibrium- where demand equals supply

Surplus- quantity supplied is greater than quantity demanded

Shortage- quantity demanded is greater than quantity supplied

Government Regulations:

• Price floors- gov sets market price above the equilibrium price creating a surplus. Ex. min wage
• Price Ceilings- gov set price below the equilibrium price creating a shortage. Ex. rent control creates shortages because everyone wants them