1 Economics 122a Fall 2009 Agenda for this week: 1. The Classical macro model 2. Measuring output.
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Transcript of 1 Economics 122a Fall 2009 Agenda for this week: 1. The Classical macro model 2. Measuring output.
1
Economics 122aFall 2009
Agenda for this week:
1. The Classical macro model2. Measuring output
Some announcements• First problem set will be posted the week of Sept 21 and
due the next week.
• Course is limited to those on course list on web page.
• I will post readings on logarithms on the course web page. There will probably be an optional section on logs and math review in the next couple of weeks.
• We may have occasional optional extra sessions on Fridays, 11:35-12:50 for technical review.
• Sections will begin next week. You should sign up on the Registrar’s section list.
Wednesday 4:50-4:50 and 5:00-5:50
Wednesday 7:00-7:50 and 8:00-8:50
Thursday 4:50-4:50 and 5:00-5:50
2
Repeat: The two themes of macro
There are two major recurrent themes running through macro:
i) Business cyclesii) Economic growth
Virtually every macroeconomic issue revolves around these issues, or a confusion concerning them.
3
The Other Central Concern of Macroeconomics:Economic growth
Economic growth concerns the trend in output over the long run.
Questions:1. What determines “potential output” (Mankiw: “natural
output”)?2. What determines to growth of output over time?3. What determines the differences in productivity among
nations?In macroeconomics, we use the neoclassical growth model to
understand economic growth.
GDP trends in 3 big regions
5
100
1,000
10,000
1960 1970 1980 1990 2000 2007
GD
P (2
007
inte
rnati
onal
pri
ces,
bill
ions
of $
)
China US SubSaharanAfrica
Per capita growth trends in 3 big regions
6
200
2,000
20,000
1980 1985 1990 1995 2000 2007
GD
P pe
r cap
ita (
2007
inte
rnati
onal
US
dolla
rs)
China USSubSaharanAfrica
7
Basics of Static Classical Model: Production Theory
Classical production model. The basic model is simplest
representation of the classical approach. When dynamized, it
becomes the neoclassical growth model.
Factor markets: capital and labor inputs (K and L)
One sector for output (Y).
Aggregate production function (for real GDP, Y)
What is a production function? Recipe for combining
inputs into outputs for given technology.
(1) Y = F( K, L)
Standard assumptions: positive marginal product (PMP),
diminishing returns (DR), constant returns to scale (CRTS):
CRTS: mY = F( mK, mL)
PMP: ∂Y/∂K>0; ∂Y/∂L>0
DR: ∂2Y/∂K2<0; ∂2Y/∂L2<0
Production function for omelette
8
Courtesy of Elizabeth David, An Omelette and a Glass of Wine
9
Basics of Static Classical Model: Production Theory
Classical production model. The basic model is simplest
representation of the classical approach. When dynamized,
it becomes the neoclassical growth model.
Factor markets: capital and labor inputs (K and L)
One sector for output (Y).
Aggregate production function (for real GDP, Y)
(1) Y = F( K, L)
Standard assumptions: positive marginal product (PMP),
diminishing returns (DR), constant returns to scale (CRTS):
CRTS: mY = F( mK, mL)
PMP: ∂Y/∂K>0; ∂Y/∂L>0
DR: ∂2Y/∂K2<0; ∂2Y/∂L2<0
Potential Output
10
Potential output. With exogenous labor force (LF), inherited capital (K) , unemployment at the NAIRU (u*), this gives potential output (Yp):(2) Yp = F[K, (1-u*)LF]
Potential output critical for unemployment theory and growth theory and for medium and long-run forecasts.
NAIRU (Mankiw “natural rate of unemployment”) = non-accelerating inflation rate of unemployment = unemployment rate at which inflation neither rises
or falls = lowest sustainable rate of unemployment.
Actual and Potential GDP
11
11,000
11,500
12,000
12,500
13,000
13,500
14,000
01 02 03 04 05 06 07 08 09 10
Actual Real GDPPotential Real GDP
Output gap (potential minus actual GDP)
12
-200
0
200
400
600
800
1,000
01 02 03 04 05 06 07 08 09 10
Gap (at annual rate)[Billions of 2005 dollars]
13
Example: Cobb-Douglas production function
Very important production function: Cobb-Douglas (log linear)F( K, L) = AKαL1-α
Properties:MPL = ∂[AKαL1-α]/∂L=(1-α)AKαL1-α /L = (1-α)Y/L = (1-α) x APL(and similarly for MPK)
F( K, L) = 1.5L1-.5
L YMPL (discrete)
MPL (continuous/ derivative)
0.00 0.00 na1.00
1.00 1.00 0.500.41
2.00 1.41 0.350.32
3.00 1.73 0.290.27
4.00 2.00 0.25
0.00.20.40.60.81.01.21.41.61.82.0
0 0.5 1 1.5
Y, M
PL
Labor inputs (L)
Y
MPL
14
Factor Markets
Factor markets: capital and labor inputs (K and L):- Capital inherited from past investments- Labor inputs exogenous (from biology, health, customs,
pharma)Real wage rate: = W/P = MPL = ∂Y/∂L = ∂[F( K, L)]/∂L (see Fig.
1)
Real rental rate on capital (like apartment rental as $ per month):
= R/P = MPK = ∂Y/∂K = ∂[F( K, L)]/∂KNational income = labor income + capital income = WL + RKExhaustion of product theorem: With CRTS and competitive
pricing, paying factors their marginal product leads income = output.
15
Example: Cobb-Douglas production function
National incomeY = MPL x L + MPK x K = L[(1-α)Y/L] +K[αY/K ] = Y (exhaustion of product theorem)
Shares of capital and labor:share of K = RK/Y = (αY/K ) x (K/Y) = constant = α
Why do economists like Cobb-Douglas? See next slide.
16
Near-constancy of labor’s share of national income
.50
.55
.60
.65
.70
.75
.80
50 55 60 65 70 75 80 85 90 95 00 05
Compensation of labor/ national income
17
What are the macroeconomic effects of
immigration?
Alfred Stieglitz
18
L
W/P
MPL
Real wages and MPL: graphics
L*
(W/P)*
19
L
W/P
MPL
Output = sum of the slices of MPL from 0 to L*
L*
L*
Calculus of marginal and total product
Total product = sum of marginal products up to input level.
20
* *
0 0
( *) ( , *) ( ) [ ( , )/ ]L L
Y L F K L MPL L dL F K L L dL
21
L
W/P
MPL
Neoclassical distribution of output/income
L*
(W/P)*
Total wages
Capitalincome*
*More generally, all non-labor income
Can reverse axes and get analogous results for capital.
22
L
W/P
MPL
Effect of immigration
L*
(W/P)1
(W/P)2
E1
E2
Assume immigrants are perfect substitutes for L
Results:1. Wage rate falls.2. Output and national
income rise.3. Capital income rises.4. More generally, income of
substitutes fall and complements rise.
5. Empirical studies suggest that low-skilled and Hispanic workers are hurt by Mexican immigration.
23
National Academy of Sciences study (The New Americans)
“Immigration over the 1980s increased the labor supply of all workers by about 4 percent. On the basis of evidence from the literature on labor demand, this increase could have reduced the wages of all competing native-born workers by about 1 or 2 percent. Meanwhile, noncompeting native-born workers would have seen their wages increase…”
“Based on previous estimates of responses of wages to changes in supply, the supply increase due to immigration lowered the wages of high school dropouts by about 5 percent…”
24
Other applications of static neoclassical model
Impact of foreign investment :• Assume that foreign firms build a factory in US. What is
effect in simple neoclassical model?• Answer: Same as immigration, but reverse the factors.
Impact of outsourcing:• What is effect of hiring foreign workers for call centers,
radiology, computer programming?• Very similar to immigration: like having workers here.
Impact of government debt:• What is the effect of a growing government debt?• Slightly more complicated, but might crowd out capital
stock. This then reduces output. Note effects on wages and rentals.
25
Let’s go back and ask:
“Just what is this ‘Y’?”
“Just how do we measure GDP and real GDP?”
26 Survey of Current Business, August 2009
27
Inflation as measured by the price of gross domestic purchases*
28
Note: This is a new concept not in the textbooks. It reflects the prices of domestic purchases rather than domestic product.
29
Major concepts in national economic accounts
1. GDP measures final output of goods and services.2. Two ways of measuring GDP lead to identical results:
• Production = income3. Savings = investment is an accounting identity.
• We will also see that it is an equilibrium condition.• Note the advanced version of this includes government and foreign
sector. 4. GDP v. GNP: differs by ownership of factors5. Constant v. current prices: correct for changing prices6. Value added: Total sales less purchases of intermediate goods
- Note that income-side GDP adds up value addeds7. Net exports = exports – imports 8. Net v. gross investment:
• Net investment = gross investment minus deprecation
30
How to measure output growth?
Now take the following numerical example. • Suppose good 1 is computers and good 2 is shoes. • How would we measure total output and prices?
period 1 period 2
Ratio: period 2 to period 1
Real outputq1 1 100 100q2 1 1 1
Pricesp1 1 0.010 0.010p2 1 1.00 1.00