Part 1 | Real GDP: valued at FIXED prices from base year vs.

Nominal: accounts for changes in prices AND quantities |Growth Rate of Real GDP= (real GDP in yr. 2 - real GDP yr. 1)/real GDP
yr. 1 GNP → GDP minus income paid abroad plus income received by foreign countries. Excludes income of foreigners earned in the US
GDP Deflator: all goods and services produced domestically, doesn’t include price increases of imported goods
Inflation rate: (both) (GDP def./CPI yr. 2 - GDP def./CPI yr. 1) /GDP/CPI yr. 1 | Real Interest Rate: nominal interest Rate = inflation rate. When inflation goes up, the real interest rate goes
down. | Present value: $X / (1+r)N | Future value: (1+r)N * $X | Saving: in a closed economy. Y=C+I+G → S = (Y-T-C) + (T-G).
National saving = Y - C - G = I; S = ^private ^public; If public spending is positive = surplus. Negative = budget deficit. | Production factors: Y = AF (L,K,H,N)
Unemployment = % of the labor force that is unemployed. Natural: ~%5 | Cyclical: based on the turn of the economy; Frictional: the time it takes for workers to find good jobs; Structural:
# of jobs available is insufficient for the number of workers | Labor Force = total # of employed + unemployed | Labor participation rate: (labor force / adult population) * 100
Efficiency wages: higher wages to increase productivity. →Minimum wage: surplus of labor if wage is above equilibrium
Money
Medium of exchange: item buyers give to sellers when they want to buy; unit of account: yardstick ppl use to post prices & record debts; store of value: item ppl transfer purchasing power
from present to future | commodity money: money as commodity with intrinsic value (gold, cigarettes [POW WWII]); fiat money: government decree
Double coincidence of wants: unlikely occurrence that 2 ppl have good/service that the other wants Fed: run by board of govnrs. (14-year terms)
Fed Resrv Board (DC) + 12 regional; Job1: regulate banks & ensure health of system, bank’s bank, lender of last resort; Job2: control quantity of money through policy made by Fed. Open
Market Cmte (FOMC) | M1: currency, demand deposits, traveler’s checks, checkable deposits, saving deposits
M2: small time deposits, money market mutual funds, everything in M1 | Reserve ratio: reserves/deposits | Money multiplier: amount of $ the banking system generates with each $ in
reserves – reciprocal of reserve ratio (1/R)| Open Market Oprns: purchase & sale of govt bonds; buy bonds from public = money supply ↑; sell bonds to public = money supply ↓
Leverage Ratio: assets / capital | Bank run: depositors fear bank having financial trouble and run to bank to withdraw deposits; safety guaranteed through FDIC
Value of money: measured by price level; 1/P = value of $ in terms of G&S; price level ↓= value of $ ↓ | S&D determines value of money
Higher price level = more money demanded; PL ↑ equilibrium = PL falls; PL ↓ equil. = PL increases Velocity: rate $ changes hands; V = (P x Y) / M or MV=PY [P=Price Level, GDP deflator;
Y=real GDP/quan. of output; M=quan. of money] | Quan. Theory of Money: quan. of $ available determines PL & growth rate determines inflation rate; when central bank increases MS
rapidly = high inflation | Hyperinflation: exceeds 50% per month; quantity of money stabilizes with PL; prices rise when govt. prints too much money
inflation tax: revenue of govt. by creating $; more $ = PL ↑ = dollars less valuable = tax on all that hold money | Seignorage: difference between face value of $ & cost of production
Monetary Neutrality: changes in money supply do not affect real variables | Fisher Effect: if inflation is expected, nIR rises 1 for 1 with inflation
Business Cycles
1. Economic fluctuations irregular & unpredictable; 2. Macroecon. quantities fluctuate together; 3. Output falls  unemployment rises
Aggregate Demand: quantity of G&S that households, firms, govt., customers abroad want to buy at each price level; PL affects G&S demanded for C, I, NX
Wealth Effect: PL raises real value of $ and makes ppl wealthier = spend more = more G&S demanded; increase in PL = poorer = G&S demanded decreases
Interest Effect: lower PL = interest rate ↓= investment spending ↑ = increase G&S demanded; higher PL = investment spending ↓= G&S demand ↓
Exchange Rate Effect: PL down = interest rate down = value of dollar down in frgn markets = G&S demand up; PL up = dollar value up = demand down
AD Curve Shifts: Consumption: Less consumption = more saving = left, Tax Cut = right, Tax raise = left; investment: more investment = right, tax credit = right, increase in MS = right;
govt. purchases: reduction in purchases = left; NX: less US goods bought = left, appreciation of USD = less NX = left, depreciation USC = right
AS Curve: total quantity of goods that firms produce at any PL; shows rltnshp that depends on time horizon examined | Long run: AS curve vertical, short run: slopes up
LR AS Curve Shifts: Labor: increase in workers = G&S increase = right; capital: increase in capital stock = more productivity = right; nat. resources: more = right; tech. knowledge: more =
more productive = right | Sticky Wage Theory: SRAS slopes upward bc nominal wages are slow to adjust to econ. Conditions (wages are sticky in the short run) | Sticky Price Theory: prices
of some G&S adjust slowly because of menu costs (cost of printing & distributing catalogs to change price tags)
Misperceptions Theory: changes in PL mislead suppliers about what is happening in markets = respond to change in PL = upward slope AS curve
SR AS Curve Shifts: Labor: more quantity of labor = right; Capital: increase in physical or human capital = right; natl. resources: increase = right; tech.: advance in knowledge = right;
expected PL: decrease in expected PL = right | Neg. Demand Shock: SR: output down, PL up; LR: Output back to Yn, PL falls | Short Run sup. Shock: Higher PL, lower output (stagflation)
Monetary and Fiscal Policy
Monetary policy: central bank policies that control MS, price of money, availability of credit | Fiscal policy: expansionary & contractionary; gov. Adjusts spending levels and tax rates to
influence economy | Liquidity Preference Theory: (relevant in short run): IR adjusts to bring MS and MD into balance | OC of holding money: IR you can earn on money as alternative assets
(ex. Interest bearing assets); ↑Interest Rate, ↑Opportunity Cost of holding money | Higher Interest Rate, money demand is lower; Higher price level, money demand is higher which
decreases output and shifts MD curve right; Income increases, money demand increases; Larger Money Supply lowers IR (makes borrowing less expensive) which increases AD | Zero
Lower Bound: once IR hits 0, there is little economy can do to stimulate investment spending (can’t use monetary policy to lower IR) | TOOLS IN FISCAL POLICY: 1. Changes in gov.
purchases: ↑gov spending has direct effect of ↑income which ↑consumption; TOTAL EFFECT: 1/(1-MPC) x (increase in gov. spending amount); 2. Changes in taxes/transfers: gov. cuts taxes
so indirect effect of ↑disposable income (tax cuts work indirectly through consumption & no direct effects so smaller than gov. purchases); TOTAL EFFECT: MPC/(1-MPC) x (amount in gov.
taxes) Effect of incrsd spending on fiscal policy: ↑IR low. invstmnt (crowding out effct=invstmnt falls b/c IR increase), shift to left (dir.), further left (indir.), a little right (Crowdout) |
Automatic stabilizers: changes in fiscal policy that stiumulate AD when the economy goes into a recession but that occur without policymakers having to take any deliberate action; Pro-
cyclical taxes: sales taxes, income taxes, payroll taxes, corporate taxes; Contra-cyclical spending: unemployment insurance, welfare benefits | NO, should not use monetary fiscal policy to
stabilize economy b/c gov. Observes state of economy w/ time lag so lag in policy-making | Higher price level causes MD curve to shift right which causes IR to increase which decreases
output (Y) | What shifts AD to the right? Increase in gov. spending but NOT change in price level | Liquidity trap: very low IR and very high savings rates → consumers avoid bonds and keep
funds in case b/c believe IR could instantaneously rise and decrease bond prices → problem for monetary policy b/c unable to lower IR further to incentivize investors/consumers |
Multiplier: 1 / 1 – MPC
Phillips Curve
Tradeoff between inflation and unemployment → scenarios of high inflation are scenarios of low unemployment. (ex. high unemp. means inflation expectations rise, shifts SRPC right.) | PC
is a mirror of the AS (ex. LRPC is vertical b/c LRAS is vertical) | Movement downward in SRPC → decreased money supply, incr. taxes, and decr. gov. spending | Right shift in SRPC → neg.
supply shock, increased natural unemp, & increased expected inflation. Okun’s Law: unempt. rate = natural rate - (C * output gap)
PC is *only* short-run tradeoff (and not long-run) | Economy’s actual inflation rate = Expected Inflation Rate - a (Actual Unem.. Rate - Natural Unem. Rate) -Change in inflation expectations
and change in natural level of unemployment shifts PC | Disinflation: reduce monetary supply permanently. (sell bonds, increase interest rates)
Sacrifice ratio: % output lost / % reduction in inflation; size depends on slope of PC (the flatter the PC the bigger the ratio) and how fast people adjust expectations – w/rational
expectations, sacrifice ratio=0 | Stagflation: high inflation and high unemployment | Long run vertical because irrespective of the price level, unemployment will return to its natural rate

Assets Liabilities
Reserves Deposits
Loans Debt
Securities Capital