Errata

Income Approach to Measuring GDP Value Added distributed as income to Employees, Owner/Creditors, & Gov’t 1.Compensation of employees (Wages, Benefits) 2.Net operating surplus (Profits, Net Interest, Rental Income) 3.Taxes on Production 2

Payoff to strategy #2 Strategy two has three parts. 1.Buy foreign exchange at spot rate S 01/01 to get {D$1000/S 01/01 } F dollars. 2.Put {D$1000/S 01/01 } F dollars into F bank account. After 1 year get F$(1+i F )×{D$1000/S 01/01 } 3.Convert these funds into F$ at exchange rate prevailing at end of year.

Consider the spot foreign exchange market. Supply of US$: People who want to acquire DCU to buy domestic goods or assets. Substitution Effects When US$ becomes expensive, domestic goods or assets get cheap and foreign investors are attracted to domestic currency. Expensive Expected Profit Effect - e.g. Expensive US$ magnifies returns on domestic accounts Expensive Exports Effect – Expensive US$ reduces the attractiveness of exports from overseas.

Learning Outcomes Students should be able to: Use interest differentials to calculate expected depreciation rate under UIRP. Use the Supply-Demand model of the forex model to explain the effect of international trade conditions on the exchange rate. Compare values measured in different currencies using the PPP and exchange rate method

Example: Swiss Government strikes a deal to raise taxes and cut spending LF r** LF* r r* LF** 1 2 D LF S LFP S LF

Open Market Operations In an Open Market PURCHASE, the central bank purchases government securities from banks and credits their reserve accounts. This increases the aggregate supply of reserves. In an Open Market SALE, the central bank sells government securities from banks and debits their reserve accounts. This reduces the aggregate supply of reserves.

Foreign Monetary Policy Causes Foreign Interest Rates Go Up/Relative Demand for US$ Goes Up S Supply Demand S* Supply' Demand ' S** Domestic Currency Depreciates 2 1 Excess Demand

Cut Policy Rate Cut Money Market Rate Reduce Cost of ST Finance Weaken Forex Rate Raise Asset Prices Cut Bond Yields Cheaper to Borrow Investment increases People Wealthier Consumption Increases Improved Competitiveness Net Exports Increases Consumer Purchases and Inventory Investment Increase

Bakery: Wages $10 per Worker, $5 Wheat per Loaf

Cost Schedules

Average and Marginal Costs Average Fixed Costs decreases as production increases AVC, ATC, MC all increase as diminishing returns kick in MC equals AVC and ATC when each of the latter are at their minimum level.

Minimum of the different cost Schedules

Returns to Scale Scale Economies is not always likely to characterize production. If each production unit can act autonomously with identical costs then we may experience constant returns to scale. Firms at some point experience diseconomies of scale or increasing long run average total costs. Sources of diseconomies of scale – Limits of managerial attention. – Limits of some other fixed resource.

Profit Maximization: Price is 80

Profit Maximization: Price is 60

Profit Maximization: Price is < 10 Dropout!

Learning Outcomes Students should be able to Define and calculate various types of economic costs. – Fixed, variable, total, average, marginal. Describe the shape of various relevant cost curves – Average Total (in LR and SR), Average Fixed, Marginal Costs Describe the relationship between production, productivity (marginal and average) and the law of diminishing returns.