20.11.2009

Much more on Macroeconomics Coming...

20.11.2009

more Macroeconomics

• RPI (Retail Price Index)- Goods in Shops, Bills, Mortgage Interest (Headline Inflation)
• CPI (Consumer Price Index)- Goods in Shops and Bills (Underlying Inflation)
• Factory Gate Prices- Prices in New Materials for suppliers

RPI and CPI are calculated according to a weighted index of average household spending set to a base year. RPIX is an RPI version of CPI.

MPC

Bank of England Governor

+ Deputy

+ '7 wise people' + People from Industry

- make a decision every month about central lending rate, they do so to reach Chancellor's inflation budget.

Rise in inflation above 3% is bad because:

• Inflation rises geometrically, so more than 3% rise will lead to accelerating inflation in the future.
• When people see inflation, their savings and investments earn less and there is an incentive to spend money before it looses value
• Higher inflation almost guarantees higher interest rates and less growth in the future
• higher inflation would damage the pound and raise import prices

What will higher interest rates do to house prices?

• It would be very difficult to pay bills for mortgages+ other bills going up.
• Less income- fewer new homes
• Maybe more repossessions or house sales?
• New mortgages- more expensive

Spare Capacity= LAS>AD , because there are unused resources in the economy.

more Macroeconomics

What GDP doesn't tell you:

• Doesn't tell you about development
• Doesn't tell you about population- you need per capita measure (GDP/population)
• Doesn't tell you about earnings or spending abroad (GNP)
• Doesn't tell you about quality of goods produced, or the quality of life, or the future direction of a country or if growth is sustainable
• Doesn't tell you about income distribution

What would you want to know about the economy?

1. Balance of Trade and Balance of Payments
2. Income Distribution
3. Unemployment
4. Exchange Rate
5. Human Development Index

• Literacy and Numeracy
• Age of Mortality
• Morbidity
• GDP per Capita
• Infant Mortality

6. Inflation

• The general tendency of prices to rise over time
• A sustained rise in prices over time
• A sustained fall in the value of money
• RPI
• CPI
• Factory Gate Prices
• RPIX
• RPIY

7. Hidden Economy

Types of Inflation

• Hyperinflation- 1000%
• Strtoinflation- 100%-1000%
• Creeping Inflation
• Demand-Pull
• Cost-Push
• Monetary
• Stagflation
• Deflation
• Disinflation

Macroeconomics

3 Key Powers or Sets of Policies:

• Fiscal- Tax, Spending, Government Budget
• Monetary- Money, Interest Rates, Ban Reserves, Borrowing and Credit
• Supply-Side- Firms, Regulations, Costs and Wages, Employment

4 Markets:

• Labour Market
• Money and Investment Market
• Exchange Market
• Market in Product goods and Services

Measurements used in Macroeconomics:

• Inflation
• GDP Growth
• Unemployment
• Balance of Trade (Imports and Exports)
• Balance of Payments (Money coming in and out which need to be balanced)

4 Theories on How Economies Work:

1. Keynesian
2. Neo-Classical or Supply-Side
3. Monetarist
4. Neo-Keynesian

Terms at the Start of the Syllabus

• Economic growth- a sustained addition to GDP. You need to be aware of things that alter the importance of the data e.g. the difference between nominal and real prices (Nominal= adjusted figure; real= nominal minus inflation). You also have to think of an economy in terms of total value and per capita value. Be careful of exchange rates and do not confuse the volume of trade with the value of trade or activity.
• National Income Statistics- An assessment from government tax figures of the size of an economy.

Introduction to Macroeconomics

Macroeconomics is different from microeconomics.

1. You are dealing with Aggregate Supply and Aggregate Demand.
2. Economists do not agree on how it works.
3. You really need to know the Aggregate Demand and Aggregate Supply diagrams.
4. In macroeconomics 'real' prices become important. 'Real' prices are prices after the inflation. AD= C+I+G+(X-M)
5. Statistics and figures become important. GDP is the the key, not GNP.
6. Terms to know:

• Keynesianism
• Monetarism
• Supply-Side/Neo-Classical
• Neo-Keynesian

Few Important bits

1) Road Pricing

An attempt to internalize externalities by making provider pay. It covers congestion charges and road tolls

2) Landfill tax

Landfill is rubbish that is buried. It produces various gasses, especially methane. A landfill tax tries to reduce waste and encourage recycling by taxing and restriction rubbish collection

3) Carbon Offsetting

An off-set balances something. A voluntary payment to an environment fund to 'balance' the carbon you use on a flight.

4) Carbon Emissions Trading

Permits to pollute are issued and traded. If a company under-uses it's permits it can sell them, if it over-pollutes, it has to buy.

5) Renewable energy certificate

A company is forced by law to have a certificte that shows that some of it's energy comes from renewable resources:

• water/wave
• wind power
• solar power
• geothermal power

Problems with these taxes

1) Carbon Offsetting+ Carbon Trading do not reduce pollution, they just move it around

2) Congestion Charging is a regressive tax. It imposes burdens on poor people

3) Most scheme place cost burdens on businesses. In a credit crunch recession, that may create a new externality of unemployment.

4) Most Government schemes are bureaucratic. They create 'red-tape' or 'over-administration'

5) In a recession environmental externalities decline anyway: oil prices being high stop waste and so do high food prices: taxes work better than these schemes-so there may be no need for any of them.

Market Failure and Some Terms

Why do markets fail?

• Price did not reflect value because of information or time problems
• An externality could arise- something that society or other people pay for rather than the consumer or producer
• Something about the good may disrupt the market (no market in public or merit good)

A ' Tragedy of Commons' may occur because no-one has a property right.

Demand on this diagram is the same as Marginal Social Benefit.

Tools government can use to fix market failure:

1. Taxes and Subsidies
2. Government povision
3. Max and Min prices ( set prices)
4. Buffer Stock
5. Prohibition
6. Regulation: Fines, Parking, Bus Lanes.
7. Get the government to provide information
8. Control of use- license

Economic questions the government has to ask itself:

1. Will it work?
2. Side effects; Will it create new problems?
3. How do you administer it? Bureaucracy is a problem.
4. What are wider costs of regulating it?

How do you internalize the externality?

• Fine/Prohibition
• Tax
• Regulate restaurants
• Make people pay for their own healthcare
• License restaurants

Private cost- Economic cost to the parties involved or the cost to firms and consumers involved.

An External Cost- a cost to an uninvolved third party

Merit good

A Merit good is a good with a positive externality- which is beneficial for the consumer and society. It is under-consumed in a market economy. It needs to be provided or Subsidized.

Demerit good

Demerit good is cheaper for the individual than for society. It is too cheap and over-consumed. These goods need to be taxed, regulated or prohibited.

Monopoly- One firm dominates the market/ one firm is the market

Asymmety- One side has more power or knowledge. The price mechanism can not therefore work, it cant signal or incentives.

Monopony- When there is only one buyer of a good (usually in labour markets).

Moral Hazard- a feature of a market that encourage bad behavior or rewards inefficiency. e.g. self-satisfied lans or mortgages.