Macroeconomics Exam 1 Study Guide: Markets, GDP, and Inflation

Microeconomics: Markets

Law of Demand and Law of Supply

The Law of Demand states that, ceteris paribus, as the price of a good increases, the quantity demanded decreases, and vice versa. The Law of Supply states that as the price of a good increases, the quantity supplied increases, and vice versa.

• Demand Curve: Downward sloping, showing inverse relationship between price and quantity demanded.

• Supply Curve: Upward sloping, showing direct relationship between price and quantity supplied.

• Example: If the price of coffee rises, consumers buy less coffee (demand falls), but producers are willing to supply more (supply rises).

Factors that Change Demand and Supply

• Demand Shifters: Income, tastes and preferences, prices of related goods (substitutes and complements), expectations, number of buyers.

• Supply Shifters: Input prices, technology, expectations, number of sellers, government policies (taxes, subsidies).

• Example: An increase in consumer income increases demand for normal goods but decreases demand for inferior goods.

Law of Market Forces (Shortages and Surpluses)

• Shortage: Quantity demanded exceeds quantity supplied at a given price, leading to upward pressure on price.

• Surplus: Quantity supplied exceeds quantity demanded at a given price, leading to downward pressure on price.

Equilibrium: Shifting Demand or Supply

Equilibrium occurs where the demand and supply curves intersect, determining the market price and quantity.

• Shifts in Demand: Increase shifts the curve right, raising equilibrium price and quantity; decrease shifts left, lowering both.

• Shifts in Supply: Increase shifts the curve right, lowering equilibrium price and raising quantity; decrease shifts left, raising price and lowering quantity.

• Example: A new technology reduces production costs, shifting supply right and lowering prices.

Macroeconomics: Measurement

Measuring National Income/Output (GDP)

• Gross Domestic Product (GDP): The total market value of all final goods and services produced within a country in a given period.

• Expenditure Approach: GDP = C + I + G + NX, where C = Consumption, I = Investment, G = Government Spending, NX = Net Exports (Exports - Imports).

• Income Approach: Sums all incomes earned in the production of goods and services.

• Other Approaches: Value-added approach sums the value added at each stage of production.

• Example: If a country produces $1 trillion in goods and services, its GDP is $1 trillion.

Real vs. Nominal GDP and the Standard of Living

• Nominal GDP: Measured using current prices, not adjusted for inflation.

• Real GDP: Adjusted for inflation, reflects actual output.

• Standard of Living: Often measured by real GDP per capita.

Measuring Unemployment

• Unemployment Rate: Percentage of the labor force that is unemployed and actively seeking work.

• Types of Unemployment:

  • Frictional: Short-term, between jobs.

  • Structural: Mismatch between skills and jobs.

  • Cyclical: Due to economic downturns.

  • Seasonal: Related to seasonal work.

• Natural Rate of Unemployment: Sum of frictional and structural unemployment; occurs even in a healthy economy.

• Marginally Attached and Discouraged Workers: Not counted in official unemployment rate but important for understanding labor market health.

• Example: If 5 million people are unemployed out of a labor force of 100 million, the unemployment rate is 5%.

Measuring Price Level and Inflation

• Consumer Price Index (CPI): Measures the average change in prices paid by consumers for a basket of goods and services.

• Calculating Inflation: Percentage change in CPI from one period to the next.

• Core Inflation: Excludes food and energy prices for a more stable measure.

• Recent Trends: Inflation rates can vary due to economic conditions, policy changes, and external shocks.

• Example: If the CPI rises from 200 to 210, the inflation rate is $(210-200)/200 \times 100 = 5\%$.

Key Formulas

• GDP (Expenditure Approach): $GDP = C + I + G + (X - M)$

• Unemployment Rate: $\text{Unemployment Rate} = \frac{\text{Number of Unemployed}}{\text{Labor Force}} \times 100$

• Inflation Rate: $\text{Inflation Rate} = \frac{\text{CPI}_{\text{new}} - \text{CPI}_{\text{old}}}{\text{CPI}_{\text{old}}} \times 100$

Table: Types of Unemployment

Type	Description	Example
Frictional	Short-term, between jobs	Recent graduate seeking first job
Structural	Mismatch between skills and job requirements	Factory worker replaced by automation
Cyclical	Due to economic downturn	Worker laid off during recession
Seasonal	Related to seasonal work	Holiday retail worker