1. I. The Circular Flow Model

2. Circular Flow Diagram
Resource Market and Factor Market
Households own factors of production – sell them to Firms
Firms buy factors of production – pay wages, rent etc.
Product Market
Firms sell goods and services to households
Households pay for goods and services

3. Government
Resources Market – buys factors of production from households
Product Market – buys goods and services from firms
Takes in money through taxes and provides goods and services to both households and firms

4. Land, Labor, Capital and Entrepreneurial Ability Resources
Factor Market
AKA
Resource Market
Households sell
Firms buy
Resources
Money income, wages, rents, interests, profits
Costs
expenditures
resources
Goods and services
Goods and services
firms
buy factors of production
sell products
Households
Sell factors of production
Buy products
taxes
taxes
Government
expenditures
Money, consumption expenditure
Goods and services
Revenue
Product Market
Households buy
Firms sell
Goods and services
Goods and services

5. /

6. GDP
Total market value of all final goods and services produced in a country in a year
Measured in “quarters” of years

7. Steel – intermediate good New car – final good
GDP
Total market value of all final goods and services produced in a year
Measured in “quarters” of years
C. To avoid multiple counting only FINAL goods are counted
Intermediate goods – goods and services purchased for resale or more processing
Final goods – goods and services purchased for final use by the consumer
Steel – intermediate good
New car – final good

8. D. What doesn’t count
Second hand goods

9. D. What doesn’t count
Second hand goods
Gifts or transfers (social security welfare etc.)

10. D. What doesn’t count
Second hand goods
Gifts or transfers (social security welfare etc.)
Stock market transactions

11. D. What doesn’t count
Second hand goods
Gifts or transfers (social security welfare etc.)
Stock market transactions
Unreported business activities

12. Gifts or transfers (social security welfare etc.)
D. What doesn’t count
Second hand goods
Gifts or transfers (social security welfare etc.)
Stock market transactions
Unreported business activities
Illegal activities

13. D. What doesn’t count
Second hand goods
Gifts or transfers (social security welfare etc.)
Stock market transactions
Unreported business activities
Illegal activities
Financial transactions between banks and businesses

14. D. What doesn’t count
Second hand goods
Gifts or transfers (social security welfare etc.)
Stock market transactions
Unreported business activities
Illegal activities
Financial transactions between banks and businesses
Non market activities like volunteer work

15. Does it Count?

16. C = Personal Consumption 67% of the economy
Formula
E. The expenditures approach - C + Ig + G + Xn = GDP
C = Personal Consumption
67% of the economy
Purchases of finished goods and services
NOT houses or other construction
Ig = Gross Private Business Investment
a. Factory equipment maintenance
New factory equipment
New Construction (houses or factory)
Unsold inventory of products build in a year, but not sold in that year
G = Government Spending
Xn = Net foreign factor of Trade: Exports minus Imports
Exports = dollars in
Imports = dollars out
Since WWII, Xn has usually been a negative number
C + Ig + G + Xn = GDP

17. What Counts in GDP?
Is it C, Ig, G, or Xn?

18. Nominal GDP vs. Real GDP
Nominal GDP
Total output of final goods and services produced by an economy in 1 year
b. no adjustment for inflation
Price index
Used to measure price changes in an economy
To construct select a year to serve as the base year
Prices of other years are expressed as a percentage of the base year
The value of the price index in the base year is always 100
Real GDP
Adjusted for price changes over time
Calculated using a price index
GDP Deflator
Price index used to “deflate” nominal GDP to reflect real growth

19. Formulas price of a market basket of goods Price index =
Nominal GDP = Units of output X price
price of a market basket of goods
Price of same market basket in base year
Price index =
X 100
____nominal GDP________
price index (in hundredths)
Real GDP =

20. Price Index for year one ALWAYS = 100
Price of a market basket of goods
Price of same market basket in base year
Price index =
X 100
Price Index for year one ALWAYS = 100
Year
(1)
Units of Output
(2)
Price of Pizza per unit
Price index year 1 = 100
Nominal GDP
(1) X (2)
Real GDP 1 5
$10
100 50 2 7
$20 3 8 25 4 10 30 11 28

21. Price index for Year 2 20 10 = X 100 = 200
price of a market basket of goods
Price of same market basket in base year
Price index =
X 100
Price index for
Year 2 20 10 =
X 100 = 200
Year
(1)
Units of Output
(2)
Price of Pizza per unit
Price index year 1 = 100
Nominal GDP
(1) X (2)
Real GDP 1 5
$10
100 50 2 7
$20
200 3 8 25 4 10 30 11 28

22. price of a market basket of goods Price of same market basket in base year
Price index =
X 100
Year
(1)
Units of Output
(2)
Price of Pizza per unit
Price index year 1 = 100
Nominal GDP
(1) X (2)
Real GDP 1 5
$10
100 50 2 7
$20
200 3 8 25
250 4 10 30
300 11 28
280

23. Nominal GDP = Units of output x price
Year
(1)
Units of Output
(2)
Price of Pizza per unit
Price index year 1 = 100
Nominal GDP
(1) X (2)
Real GDP 1 5
$10
100 50 2 7
$20
200 3 8 25
250 4 10 30
300 11 28
280

24. Nominal GDP = Units of output x price
Year
(1)
Units of Output
(2)
Price of Pizza per unit
Price index year 1 = 100
Nominal GDP
(1) X (2)
Real GDP 1 5
$10
100 50 2 7
$20
200
140 3 8 25
250 4 10 30
300 11 28
280
308

25. ______nominal GDP________ price index (in hundredths) Real GDP =
Year
(1)
Units of Output
(2)
Price of Pizza per unit
Price index year 1 = 100
Nominal GDP
(1) X (2)
Real GDP 1 5
$10
100 50 2 7
$20
200
140 3 8 25
250 4 10 30
300 11 28
280
308

26. ______nominal GDP________ price index (in hundredths) Real GDP =
140 2
70 =
Year
(1)
Units of Output
(2)
Price of Pizza per unit
Price index year 1 = 100
Nominal GDP
(1) X (2)
Real GDP 1 5
$10
100 50 2 7
$20
200
140 70 3 8 25
250 4 10 30
300 11 28
280
308

27. _________nominal GDP________ price index (in hundredths) Real GDP =
Year
(1)
Units of Output
(2)
Price of Pizza per unit
Price index year 1 = 100
Nominal GDP
(1) X (2)
Real GDP 1 5
$10
100 50 2 7
$20
200
140 70 3 8 25
250 80 4 10 30
300 11 28
280
308
110

28. One More Formula Nominal GDP GDP deflator = X 100 Real GDP
Nominal GDP
Real GDP
GDP deflator =
X 100
G. Per Capita Output – divide real GDP by the population

29. Business Cycle – alternating rises and declines in economic activity
A. Peak – business activity has reached a temporary maximum
B. Recession – decline in total output, income, employment, and trade
C. Trough – output and employment are at their lowest levels
D. Recovery – output and employment rise toward full employment

30. 1. Stagflation – when inflation and unemployment rise simultaneously
E. Other business cycle measures
1. Stagflation – when inflation and unemployment rise simultaneously
2. Misery Index – a measurement that combines unemployment and inflation

31. Inflation – rise in general price level
Measuring inflation
CPI – consumer Price Index
One measure of inflation
Measures the cost of a consistent market basket of goods
When using Price indexes – the Index year is always 100

32. Remember?! Inflation – rise in general price level Measuring inflation
CPI – consumer Price Index
One measure of inflation
Measures the cost of a consistent market basket of goods
When using Price indexes – the Index year is always 100
Remember?!
Price of a market basket
_____in a specific year____
Price of same market basket in base year
Price index =
X 100

33. Inflation – rise in general price level Measuring inflation
CPI – consumer Price Index
One measure of inflation
Measures the cost of a consistent market basket of goods
When using Price indexes – the Index year is always 100
Inflation formulas
Year later CPI - year earlier CPI
Year earlier CPI
Rate of inflation =
X 100
Rule of 70 – number of years it will take for a measure to double
____70______
rate of inflation
Number of years it will take for the price level to double =

34. Year later CPI - year earlier CPI
Rate of inflation =
X 100
Calculate the rate of inflation for years 2-4
Year__________________________Price_Index________________Rate of Inflation
__________
__________
__________
12%
10% 5%

36. Rule of 70 – number of years it will take for a measure to double
_____70_____
rate of inflation
Number of years it will take for the price level to double =
How many years will it take for the price level to double if the inflation rate is 2% per year? 70 2
= 35 years
Suppose it will only take 5 years for the money you have invested to double. What is the annual interest rate? 70 i
= 5 years
i = 14%

37. Demand pull inflation
Spending beyond a country’s ability to produce
Excess demand bids up prices
Too much money chasing too few goods

38. Demand pull inflation
Spending beyond a country’s ability to produce
Excess demand bids up prices
Too much money chasing too few goods
Cost push inflation
Increase in the cost of inputs
Raises per unit production costs

39. D. Who is hurt
Fixed Income receivers – they see their REAL income fall
Savers
Creditors – money paid back to them has less value

40. E. Who is not affected
Flexible income receivers
Many get pay raises
COLAs – cost of living adjustments
Debtors – they are paying back dollars worth less than the ones they borrowed

41. F. Disinflation – lowering of the inflation rate
G. Deflation – lowering of price level
H. Hyperinflation – extremely rapid inflation

42. Hyperinflation in
Zimbabwe

43. They are dealing with inflation.
Meet Sarah, Bob and Milt.
They are dealing with inflation.

44. IV. Unemployment
A. Unemployment rate = x 100
Unemployed
Labor force

45. IV. Unemployment
A. Unemployment rate = x 100
B. Who isn’t in the labor force
1. under 16
Unemployed
Labor force

46. IV. Unemployment
A. Unemployment rate = x 100
B. Who isn’t in the labor force
1. under 16
2. in the military
Unemployed
Labor force

47. IV. Unemployment
A. Unemployment rate = x 100
B. Who isn’t in the labor force
1. under 16
2. in the military
3. institutionalized
Unemployed
Labor force

48. IV. Unemployment
A. Unemployment rate = x 100
B. Who isn’t in the labor force
1. under 16
2. in the military
3. institutionalized
4. retired
Unemployed
Labor force

49. IV. Unemployment
A. Unemployment rate = x 100
B. Who isn’t in the labor force
1. under 16
2. in the military
3. institutionalized
4. retired
5. homemakers
Unemployed
Labor force

50. IV. Unemployment
A. Unemployment rate = x 100
B. Who isn’t in the labor force
1. under 16
2. in the military
3. institutionalized
4. retired
5. homemakers
6. students
Unemployed
Labor force

51. B. Who isn’t in the labor force
1. under 16
2. in the military
3. institutionalized
4. retired
5. homemakers
6. students
7. discouraged workers

52. C. Who does count as part of the labor force
1. full time workers

53. 2. part time workers (even if they would rather be working full time
C. Who does count as part of the labor force
1. full time workers
2. part time workers (even if they would rather be working full time

54. 2. part time workers (even if they would rather be working full time
C. Who does count as part of the labor force
1. full time workers
2. part time workers (even if they would rather be working full time
3. unpaid family workers

55. 2. part time workers (even if they would rather be working full time
C. Who does count as part of the labor force
1. full time workers
2. part time workers (even if they would rather be working full time
3. unpaid family workers
4. those on sick leave, vacation, or strike

56. 2. part time workers (even if they would rather be working full time)
C. Who does count as part of the labor force
1. full time workers
2. part time workers (even if they would rather be working full time)
3. unpaid family workers
4. those on sick leave, vacation, or strike
5. looking for work

57. 1. 0% - 3% - overextended economy 2. 4 – 5% - full employment
D. What does the rate mean
1. 0% - 3% - overextended economy
2. 4 – 5% - full employment
3. 6% + - weak or recession economy
4. 25% - highest unemployment 1933

58. Frictional unemployment – those between jobs

59. Frictional unemployment – those between jobs
Structural unemployment
Caused by changes in consumer demand
Change in technology
Geographical changes

60. Frictional unemployment – those between jobs Structural unemployment
Caused by changes in consumer demand
Change in technology
Geographical changes
Cyclical unemployment – in the recession stage of the business cycle

61. What Type of Unemployment is it?
Frictional
Cyclical
Structural
Not unemployed