Download document

Introduction to Economics
Macroeconomics
The US Economy
Llad Phillips
1
Outline: Lexture Six
News: Fed Cuts Interest Rates; Dow up 330
 National Income Accounting
 The Great Depression

Llad Phillips
2
News
Why did the Fed cut interest rates?
 Why did the Dow go up 330?
 What effect will lower interest rates have on
consumers?
 Is a recession coming?

 How
Llad Phillips
could you figure that out?
3
Review Part II: Chapter Three

Conceptual Framework: Circular Flow
Firms
Income
Firms
Labor
Supply
Goods
Demand
Goods
Households
Households
Income Perspective
Expenditure Perspective
Llad Phillips
4
Expenditure Perspective
Firms
Supply
Goods
Demand
For Goods
Consumption
Households
Households: Consumption of Goods and Services
Firms: Investment in Plant and Equipment
Llad Phillips
5
Expenditure Perspective: Closed
Firms
Supply
Goods
Demand
Goods
Households
Government
Households: Consumption of Goods and Services
Firms: Investment in Plant and Equipment
Government: Expenditures on Goods and Services
Llad Phillips
6
Expenditure Perspective: Open
Firms
Exports
(Sales)
Supply
Goods
Demand
Goods
Imports
(puchases)
Households
Government
Households: Consumption of Goods and Services
Firms: Investment in Plant and Equipment
Government: Purchase of Goods and Services
All Three: Exports - Imports = Net Exports
Llad Phillips
7
What has been happening to
expenditure in the last year?

Sources of information
 US
Department of Commerce: Survey of
Current Business
 The Conference Board: Business Cycle
Indicators
Llad Phillips
8
Lab Three: National Income and
Product Accounts (NIPA)-Ch. 20
Billions of 1992 $
97 II 97 III 97 IV 98 I
98 II
Consumption 4872.7 4947.0 4981.0 5055.1 5130.2
Investment
1211.3 1215.8 1241.9 1321.8 1306.5
Government 1284.4 1288.9 1289.2 1283.0 1294.8
Net Exports
-131.6 -142.4 -149.0 -198.5 -245.2
Total: GDP
7236.5 7311.2 7364.6 7464.7 7486.3
GDP is Gross Domestic Product
Llad Phillips
9
Federal Reserve Bank: Philadelphia
http://www.phil.frb.org/
Economics/Survey of Professional Forecasters
August 21, 1988
98 III 98 IV 99 I
99 II
99 III
GDP 7530.0 7587.0 7629.9 7668.8 7716.3
B 92$
2.5
2.1
2.3
3.1
GDP% 2.1
Increase
-271.8 -280.0 -287.6 -289.7 -287.3
Net
Exports
B$
Llad Phillips
10
Dr. Ed Yardeni, Deutsch Bank Securities
http://www.yardeni.com
September 24, 1998
98 98 98 98 99 99 99
I
II III IV I II III
99
IV
Real
5.5 1.8 3.0 2.5 2.2 1.5 0.0 -1.0
GDP
% Increase
Consum 6.1 6.1 3.4 2.7 1.9 1.5 0.9 0.0
-ption
% Increase
Llad Phillips
11
Index of Consumer Confidence
Lab One:http://www.mlinet.com/mle/econdata.htm
Last Recession ‘91
‘70-’95
Llad Phillips
12
Llad Phillips
Date
13
98.09
98.07
98.05
98.03
98.01
97.11
9.09
97.07
97.05
97.03
97.01
96.11
96.09
96.07
96.05
96.03
96.01
Index
Monthly Index of Consumer Confidence, 1985=100 .
140
120
100
80
60
40
20
0
How Bad Could It Get?

Great Depression
Llad Phillips
14
The Great Depression
Impact on the US Economy
 Impact on Economic Thinking as a
Consequence

Llad Phillips
15
Unemployed Persons, Millions, 1929-1997
.
14
1933 trough
1982 trough
12
1938 trough
1991 trough
8
6
4
2
1945 trough
Year
Llad Phillips
16
97
93
89
85
81
77
73
69
65
61
57
53
49
45
41
37
33
0
29
Millions
10
Unemployment
the number of unemployed persons
increased from 1,550,000 in 1929 to
12,830,000 in 1933
 in 1933, 25% of those who wanted work,
and were willing to look for work, could not
find a job
 the depression of the thirties was nearly an
order of magnitude worse than subsequent
recessions
 unemployment is cyclical, rising in bad
times and falling in good times

Llad Phillips
17
What happened in the early 30’s?
 An
aggregate expenditures perspective
gross
domestic product: its components
 personal
consumption expenditures
 gross private domestic investment
 exports minus imports = net exports
 government expenditures
Llad Phillips
18
Personal Consumption Expenditures, Billions of '92 $
.
5000
1997
4500
4000
3000
2500
2000
1500
1929
1000
500
Year
Llad Phillips
19
97
93
89
85
81
77
73
69
65
61
57
53
49
45
41
37
33
0
29
Billions
3500
Personal Consumption Expenditures, Billions of '92 $
.
10000
1000
1929
Year
Llad Phillips
20
97
93
89
85
81
77
73
69
65
61
57
53
49
45
41
37
33
100
29
Billions
1997
Why does consumption fall by
20% between 1929 and 1933?
income has fallen and a large fraction of
people are unemployed
 times are bad, sentiment and expectations
are low, and people save for a rainy day if
they can
 wealth has decreased

 for
example, the stock market crash of 1929
decreased the wealth of investors in stocks, and
decreased consumption out of wealth
Llad Phillips
21
Gross Private Domestic Investment, Millions 92 $ .
1400
1200
800
1991 trough
600
1982 trough
400
1933 trough
200
Year
Llad Phillips
22
97
93
89
85
81
77
73
69
65
61
57
53
49
45
41
37
33
0
29
Millions
1000
Why does investment fall from
$92.4 B in’29 to $9.9 B in ‘32?

Not only are many people idle, so is much
of plant and equipment
 with
existing capital redundant, there is less
urgency to invest in new equipment
times are bad, consumers are not buying,
and businesses are failing, so business
sentiment and expectations are low
 if there is any cash flow, businesses may
decide to keep it as cash reserve against the
unexpected
event
rather
than
invest
it
Llad Phillips
23

Gross Domestic Product Components
in 1929 . .
net exports
0%
investment
16%
government
9%
federal government was 1.6%, while
state & local government was 7.3%
consumption
75%
Llad Phillips
24
What were the policy options in 1933?
Llad Phillips
25
Were consumers & firms afraid to spend?
Consumers
?$
Fear
Firms
Llad Phillips
?$
26
Impact of the Great Depression on
Economic Thought
The conventional wisdom at that time was to wait,
and the economy would recover
 The Englishman John Maynard Keynes was not
only a great economist but was aware of the
political danger the depression posed to capitalism
 he realized that it would be difficult to convince
consumers and businesses to spend more in the
depths of a recession
 he emphasized the importance of uncertainty
and expectations on behavior
 he stressed an aggregate expenditures
Llad Phillips
27
perspective and a role for government spending

A simple Keynesian model

The aggregate demand emphasis
 for
simplicity, ignore net exports and government
expenditure, small in ‘29

Aggregate expenditures, GDP, equals
consumption, C, plus investment, I
 GDP =


C+I
National Income, Y, equals consumption, C, plus
savings, S
In Equilibrium, Aggregate Expenditures, GDP
equals National Income, Y
 GDP = Y
 so
C+I=C+S
 and,
Llad Phillips
in equilibrium, savings equals investment
28
A simple Keynesian Model

The Consumption Function
 consumption
expenditures has two components
 autonomous
consumption,C0 ,that does not vary with
income, for example, even if income was zero, there
would be some spending out of wealth; shifts with
fear
 a component that increases with income but not $ for
$, allowing for some savings

Investment
 assume
investment, I, is autonomous, i.e. does
not vary with income, Y; shifts with fear
Llad Phillips
29
The Consumption Function
consumption, C
autonomous
consumption, C0
C = C0 + mpc* Y
the slope of the consumption function,
the marginal compensity to consume,
mpc, is the increase in consumption
per $ increase in income
Income, Y
Llad Phillips
30
Autonomous Investment
Investment, I
I
Income, Y
Llad Phillips
31
Gross Domestic Product Equals Consumption Plus Investment
Consumption, C
Investment, I
GDP
autonomous
consumption, C0
GDP = C + I
C = C0 + mpc* Y
I
Income, Y
Llad Phillips
32
Squares with Equal Sides and 45 degree Lines
Y=Y
Income, Y
Y1
450
Y1
Llad Phillips
Income, Y
33
Equilibrium Level of Gross Domestic Product GDP=Y
GDP=Y
Consumption, C
Investment, I
GDP
GDP = C + I
C = C0 + mpc* Y
autonomous
consumption, C0
I
450
GDP=Y
Llad Phillips
Income
34
Equilibrium Level of Gross Domestic Product GDP=Y
GDP=Y
Consumption, C
Investment, I
GDP
GDP = C + I
autonomous
consumption, C0
450
GDP=Y
Llad Phillips
Income
35
Less than Full Employment Equilibrium
Consumption, C
GDP = C + I
Investment, I
GDP
C = C0 + mpc* Y
I
450
GDP = Y
Llad Phillips
Full Employment Income
YFE
Income, Y
36
Less than Full Employment Equilibrium
Consumption, C
GDP = C + I
Investment, I
GDP
450
GDP = Y
Llad Phillips
Full Employment Income
YFE
Income, Y
37
Policy Option
“The only thing we have to fear is fear itself”
Franklin Delano Roosevelt
Llad Phillips
38
Policy Option
Government As a Fraction of GDP .
0.5
0.45
0.4
0.3
0.25
0.2
0.15
0.1
0.05
Year
Llad Phillips
39
97
93
89
85
81
77
73
69
65
61
57
53
49
45
41
37
33
0
29
Fraction
0.35
Summary-Vocabulary-Concepts









national income
circular flow economy
value added
gross domestic product
consumption
gross private domestic
investment
government
expenditures
net exports
aggregate production
function
Llad Phillips










nominal GDP
closed economy
John Maynard Keynes
aggregate expenditures
uncertainty
expectations
consumption function
autonomous
consumption
marginal propensity to
consume
equilibrium GDP
40
Score
39-40
37-38
35-36
33-34
31-32
29-30
27-28
25-26
23-24
21-22
19-20
17-18
-16
Llad Phillips
Grade
A+
A
AB+
B
BC+
C
CD+
D
DF
Number
7
17
19
26
25
11
15
6
4
1
4
2
1
Quiz Results
Total # 138
Late
1
Absent
5
41