Ch 4 What Macro Economics is all about

Question 1

Define National Product

Answer 1

The total market value of all final goods and services produced by a country (represents economy’s output) within a specific time period (usually a year) commonly measured by GNP or GDP

Question 2

Define National Income

Answer 2

The total income earned by the citizens of a country from economic activites within a specific period, derived from the national product after adjusting for depreciation, indirect taxes, and subsidies

Question 3

How is National Income calculated?

Answer 3

National Income is calculated from the National Product by distributing the total value of production among the factors of production (wages, profits, rents, and interest)

National Income = GDP or GNP − Depreciation − Indirect taxes + Subsidies

Question 4

Define Aggregation and provide an example

Answer 4

The process of combining various individual economic units or variables into a single summary measure

E.g., adding up the value of all goods/services produced in an economy to calculate GDP

Question 5

Define Nominal National Income, how it is measured, what it reflects and how to calculate it

Answer 5

Measures the total income or output of an economy at current market prices without adjusting for changes in price levels (inflation or deflation)

Measured in current dollars

Reflects both changes in quantity and changes in prices over time

Nominal GDP = ∑ (Quantity of goods produced × Current prices)

Question 6

Define Real National Income, how it is measured, what it reflects and how to calculate it

Answer 6

Measures the total income or output of an economy at constant prices

Measured in constant base-period dollars

Reflects only the change in the quantity of goods and services produced

Real GDP = ∑ (Quantity of goods produced × Base year prices)

Question 7

Define Real GDP

Answer 7

A measure of National Income which measures the total output produced by the Nation’s economy annually

Question 8

What do long-run trends and short-run fluctuations represent?

Answer 8

Long-run trends: Economic growth
Short-run fluctuations: Business cycles

Question 9

What are the 4 waves of the business cycle?

Answer 9

1) Trough
2) Recession
3) Recovery
4) Peak

Question 10

Give another name and definition for Potential Output

Answer 10

Full Employment Output

The maximum amount of goods and services an economy can produce when all its resources (labor, capital, and technology) are used efficiently but not overworked

Question 11

Explain Output Gap and the 2 types

Answer 11

Output gap is the difference between potential and actual output
1) Recessionary gap: Y < Y*
When actual output (Y) of an economy is less than potential output (Y*)

2) Inflationary gap: Y > Y*
When actual output (Y) of an economy is more than potential output (Y*)

Question 12

Explain employment, unemployment, labour force, unemployment rate

Answer 12

Employment = Number of workers (15+) holding jobs
Unemployment = Number of individuals not employed but actively seeking work
Labour force = Employed + unemployed
Unemployment rate = Percentage of unemployed in the labour force

Question 13

How do you calculate unemployment rate? Things to do

Answer 13

= Number of people unemployed / Number of people in the labour force x 100
→ The unemployment rate responds to the cyclical behaviour of the economy
→ Both the labour force and level of employment in Canada have doubled since 1976
→ “Booms” are associated with a low unemployment rate and slumps with a high unemployment rate

Question 14

What is NAIRU?

Answer 14

Non-Accelerated Inflation Rate of Unemployment / Natural Rate of Employment

Estimated below 7%

Question 15

What are the 3 types of unemployment?

Answer 15

1) Frictional unemployment
2) Structural unemployment
3) Cyclical unemployment

Question 16

Define Frictional unemployment

Answer 16

→ Short-term unemployment
→ When people voluntarily leave their jobs to search for a better one, or when they are entering or re-entering the labour market
→ Natural turnover in the labour market
→ Exists even in a healthy economy
→ E.g., A recent college graduate looking for their first job

Question 17

Define Structural unemployment

Answer 17

→ Longer-term unemployment compared to frictional
→ Mismatch between workers’ skills and the jobs available in the economy
→ Often results from technological advancements, globalization, or long-term shifts in the economy
→ E.g., Factory workers lose their jobs due to AI replacing their roles

Question 18

Define Cyclical unemployment and Stimulus measures

Answer 18

→ Occurs when the economy is producing below its potential output (Y < Y*)
→ Caused by a lack of demand for goods and services during economic downturns
→ Temporary and fluctuates with the economy (increases during recessions and decreases during periods of economic growth)
→ Governments and central banks address cyclical unemployment through stimulus measures like fiscal spending or cutting interest rates to boost demand
→ E.g., A car manufacturer lays off employees as demand for cars falls during an economic slump

Question 19

What are the importances that come with unemployment?

Answer 19

• Loss of income
• Loss of output
• Associated with crime, mental illness, and social unrest

Question 20

Define productivity and how its measured

Answer 20

A measure of output per unit of input – often measured as GDP/worker or GDP/hr worked

Increases in productivity are the largest determinant of long-run mateiral living standard

Question 21

Define purchasing power

Answer 21

Amount of goods/services a unit of money can buy

Question 22

Define inflation

Answer 22

Measures the annual rate of increases in the price level and alters the value of money in terms of what we can purchase with it

Question 23

Effects of inflation (mention anticipation)

Answer 23

→ Reduces purchasing power
→ If households and firms are able to anticipate inflation over the coming year, they will be able to adjust many nominal prices and wages to maintain their real values
– Unanticipated inflation generally leads to more changes in the real value of prices and wages
– In reality, inflation is rarely fully anticipated or fully unanticipated
– As a result, some adjustments in wages and prices are made, but not all the adjustments that would be required to leave the economy’s allocation of resources unaffected

Question 24

Define interest rates and flow of credit

Answer 24

Interest Rates = The price of “credit” / cost of borrowing
→ For borrowers, it’s the cost they pay to use someone else’s money
→ For lenders, it’s the return they earn for providing credit
→ In a modern economy, the flow of credit—through loans, mortgages, and business financing—is critical for firms and households to invest, consume, and grow

Question 25

Explain the 2 types of interest rates

Answer 25

1) Nominal interest rate → The rate expressing in money terms without adjusting for inflation → The stated rate on loans, savings, or bonds → E.g., If a bank offers a 5% nominal interest rate on a loan, the borrower repays the loan amount plus 5% in monetary terms, regardless of inflation 2) Real interest rate → The rate expressed in terms of purchasing power → Nominal rate adjusted to account for inflation → Reflects how much the lender gains/borrower pays in terms of goods and services (purchasing power) → Real Interest Rate = Nominal Interest Rate − Inflation Rate → E.g., Nominal Interest Rate = 5% Inflation Rate = 2% Real Interest Rate = 5% − 2% = 3% This means the lender’s real return is 3% in purchasing power after accounting for inflation

Question 26

Explain the 2 different kinds of interest rates

Answer 26

1) The prime interest rate = Interest rate that banks charge to their most creditworthy business customers for loans (typically large corporations) → This rate serves as a benchmark for other types of loans, like personal or small business loans, which are often priced higher 2) The bank rate = Interest rate that the Bank of Canada charges on short-term loans to commercial banks → It influences all other interest rates in the economy, including the prime rate and is used to control inflation and stabilize the economy

Question 27

Explain exchange rates Provide example

Answer 27

The value of one currency compared to another E.g., the number of Canadian dollars required to purchase one unit of foreign currency (1.30 CAD/USD)

Question 28

Explain what 'a depreciation of the Canadian dollar' means and what are two important effects on the Canadian exchange rate

Answer 28

Means that it is worth less on the foreign-exchange market and will rise in the exchange rates E.g., it takes more Canadian dollars to buy the same amount of foreign currency (1.40 CAD/USD) 1) Domestic policy 2) External events

Question 29

List and explain 4 specific factors affecting Canadian exchange rates

Answer 29

1) Monetary Policy = Refers to the actions of the Bank of Canada to control interest rates and money supply Higher interest rates: Attracts foreign capital, leads to appreciation Lower interest rates: Reduces foreign investment, leads to depreciation E.g., If the Bank of Canada raises interest rates, foreign investors buy more CAD to invest in Canadian assets, increasing demand for CAD and its value 2) Fiscal Policy = Refers to government spending and taxation decisions Deficits: If the government spends more than it earns, it may signal economic instability, leading to depreciation (dollar weakens) Economic Growth: Attracts foreign investment and leads to appreciation (dollar strengthens) 3) Inflation = The rate at which prices for goods and services rise High inflation: Reduces purchasing power, less attractive to foreign investors, leads to depreciation Low inflation: Stabilizes the currency and maintains its demand, leads to appreciation 4) Trade Balance = The difference between the value of a country’s exports and imports Trade surpluses: When exports exceed imports, leads to CAD appreciation Trade deficits: When imports exceed exports, demand for foreign currency rises, leads to CAD depreciation E.g., If global oil prices rise (Canada is a major oil exporter), Canada’s trade balance improves, increasing demand for the CAD and strengthening its value