Download Economics 154b Spring 2006 National Income

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Economics 122a
Fall 2012
Agenda for next two classes:
1. The classical macro model
2. How economists measure output/income
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Some announcements
• Course is limited to those on course list on web page plus juniors
(appeals are under consideration and should be decided early next
week).
• There will be an optional section on logs and math review next
Friday.
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The great chasm of macroeconomics
This is our
topic for today:
classical
approach
Classical macro:
- perfect markets
-rational individuals
- flexible wages and
prices
- full employment
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Keynesian macro:
- imperfect
competition
-bounded
rationality
- sticky wages and
prices
- unemployment
Basics of Static Classical Model:
Production Theory
Classical production model. The basic model is simplest
representation of the classical approach. When dynamized, it
becomes the neoclassical growth model.
Factor markets: capital and labor inputs (K and L)
One sector for output (Y).
Aggregate production function (for real GDP, Y)
What is a production function? Recipe for combining inputs into
outputs for given technology.
(1) Y = F( K, L)
Standard assumptions: positive marginal product (PMP), diminishing
returns (DR), constant returns to scale (CRTS):
CRTS: mY = F( mK, mL)
PMP: ∂Y/∂K>0; ∂Y/∂L>0
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DR: ∂2Y/∂K2<0; ∂2Y/∂L2<0
Production function for popovers
Courtesy of Florence Kling Harding , Twentieth Century Cookbook, 1921
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Potential Output
Potential output. With exogenous labor force (LF), inherited
capital (K) , unemployment at the NAIRU (u*), this gives
potential output (Yp):
(2) Yp = F[K, (1-u*)LF]
Potential output critical for unemployment theory and growth
theory and for medium and long-run forecasts.
u* = Jones “long-run or natural rate of unemployment”
= non-accelerating inflation rate of unemployment (NAIRU)
= unemployment rate at which inflation neither rises or falls
= lowest sustainable rate of unemployment
= around 5-6 percent today
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Real GDP over the cycle
15,000
Real GDP (billions of 2005 $)
14,500
Real GDP (Actual)
Real Potential GDP
14,000
13,500
Large
GDP “gap”
13,000
12,500
12,000
2004
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2005
2006
2007
2008
2009
2010
2011
2012
Example: Cobb-Douglas production function
Very important production function: Cobb-Douglas (log linear)
F( K, L) = AKαL1-α
Properties:
MPL = ∂[AKαL1-α]/∂L=(1-α)AKαL1-α /L = (1-α)Y/L = (1-α) x APL
(and similarly for MPK)
L
MPL
(discrete)
Y
0.00
0.00
MPL
(continuous/
derivative)
na
1.00
1.00
1.00
0.50
0.41
2.00
1.41
0.35
0.32
3.00
1.73
0.29
0.27
4.00
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2.00
0.25
Y, MPL
F( K, L) = 1.5L1-.5
2.0
1.8
1.6
1.4
1.2
1.0
0.8
0.6
0.4
0.2
0.0
Y
MPL
0
0.5
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Labor inputs (L)
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Factor Markets
Factor markets: capital and labor inputs (K and L):
- Capital inherited from past investments
- Labor inputs exogenous (from biology, health, customs, pharma)
Real wage rate: = W/P = MPL = ∂Y/∂L = ∂[F( K, L)]/∂L (see Fig. 1)
Real rental rate on capital (like apartment rental as $ per month):
= R/P = MPK = ∂Y/∂K = ∂[F( K, L)]/∂K
National income = labor income + capital income = WL + RK
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Distribution with the Cobb-Douglas production function
National income
Y = MPL x L + MPK x K = L[(1-α)Y/L] +K[αY/K ] = Y
(exhaustion of product theorem)
Shares of capital and labor:
share of K = RK/Y = (αY/K ) x (K/Y) = constant = α
Why do economists like Cobb-Douglas? See next slides on historical
data on factor shares.
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Incomes in the National Income Accounts
Table 1.12. National Income by Type of Income
[Billions of dollars]
Bureau of Economic Analysis
Last Revised on: August 29, 2012
1929
National income
Compensation of employees
Proprietors' income
Rental income of persons
Corporate profits after tax
Net interest and misc
Taxes on production and imports
2011
93.9
13,359
51.1
14.1
6.2
9.3
4.6
6.8
8,295
1,157
410
1,448
527
1,098
Source: U.S. Bureau of Economic Analysis (www.bea.gov)
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Share, 2001
62.1%
8.7%
3.1%
10.8%
3.9%
8.2%
Near-constancy of labor’s share of national income
80%
70%
?
60%
50%
40%
30%
Share of compensation
Share of wages
20%
10%
0%
1929
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1939
1949
1959
1969
1979
1989
1999
2009
1929
1932
1935
1938
1941
1944
1947
1950
1953
1956
1959
1962
1965
1968
1971
1974
1977
1980
1983
1986
1989
1992
1995
1998
2001
2004
2007
2010
Other sources of national income
20%
Interest
-5%
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Proprietors
Rental
Corporate profits
15%
10%
5%
0%
Applications of static neoclassical model
Impact of immigration: problem set
Impact of foreign investment:
• Assume that foreign firms build a factory in US. What is effect in
simple neoclassical model?
• Answer: Same as immigration, but reverse the factors.
Impact of government debt: later in course
• What is the effect of a growing government debt?
• Slightly more complicated, but might crowd out capital stock.
This then reduces output. Note effects on wages and rentals.
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What are the
macroeconomic
effects of
immigration?
Alfred Stieglitz
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W/P
Real wages and MPL:
graphics
(W/P)*
MPL
L*
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L
W/P
(W/P)1
Effect of immigration
E1
E2
(W/P)2
Assume immigrants are
perfect substitutes for L
Results:
1. Wage rate falls.
2. Output and national
income rise.
3. Capital income rises.
4. More generally, income of
substitutes fall and
complements rise.
5. Empirical studies suggest
that low-skilled and
Hispanic workers are hurt
by Mexican immigration.
MPL
L*
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L
National Academy of Sciences study
(The New Americans)
“Immigration over the 1980s increased the labor supply of all workers
by about 4 percent. On the basis of evidence from the literature on
labor demand, this increase could have reduced the wages of all
competing native-born workers by about 1 or 2 percent. Meanwhile,
noncompeting native-born workers would have seen their wages
increase…”
“Based on previous estimates of responses of wages to changes in
supply, the supply increase due to immigration lowered the wages
of high school dropouts by about 5 percent…”
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What we missed at the end of last lecture…
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International macro
In a world of rapid globalization, international macro becomes
increasingly important.
Role of exchange rates, international trade, currencies.
The biggest issues today are:
8. What are “global imbalances?” Why does the US have such a
huge current trade deficit while China has such a large surplus?
How will these resolve?
9. What is the reason for the Euro crisis? Will the Eurozone fall
apart, or evolve closer to a standard fiscal union? Is disaster
waiting around the corner?
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So this leads to the biggest question
of them all…
Why study macroeconomics?
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Because you may be the next Ben Bernanke – in charge
of rescuing the world economy from the wreckage of
some future depression!
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A puzzler for the next class
Assume there are two goods (computers and shoes)
Period 1
PShoes = Pcomputers = $1
Qshoes = Qcomputers = 1
Nominal GDP = $2
Period 2
Pshoes = 1; Pcomputers = $0.01
Qshoes = 1; Qcomputers = 100
Nominal GDP = $2
What is the growth of real GDP from period 1 to period 2?
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