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Intermediate Macroeconomics Chp 1-7
Undergraduate 3

Additional Economics Flashcards




What does Macroeconomics do? (2)

1) Analyze structures and performance

2) Analyze role of government for performance

What are the key issues that Macroeconomists address? (5)

1) Economic growth (changes in population, labour prod.)


2) Output fluctuations (Business cycle, peaks and troughs, expansions and contractions)


3) Unemployment (data by StatsCan)


4) Price fluctuations (inflation/deflation - affected by monetary policies)


5) Globalization (Export-Import, factor in exch. rates)

A nation's economic performance depends on... (5)

1) Natural and human resources


2) Capital stock


3) Technology


4) Economic choices made by citizens


5) Macroeconomic policies by Gvmnt.

What is the role of the Govmnt. and what policies do they have? (2)

1) Fiscal policy (Gvmnt spending and taxation)


2) Monetary policy (control of short term interest rates and the money supply)


Use these policies to address issues in economy

(ex// Recession? -> use fiscal policy)


What are the objectives of monetary policy? (3)


Do Govmnt. budget deficits change the economy?


1) Determine interest rates

2) Ensure stability of financial institutions and ppl's savings

3) Determine success of modernized economy


Yes, they do. That is when there is excess spending over tax collection.


What do Macroeconomists do? (4)


What is another word for Experiments in Macroeconomics?


1) Forecasting (predict future events, difficult to do and will be proven wrong often) - not able to conduct experiments, base off of past data and current conditions


2) Analysis (analyze current events)


3) Research (use theoretical math model and test against data, look for consistency)


4) Data collection (use data for the above)


Another word would be Comparative Statics.


What are the steps to develop and test an Economic Theory? (5)


What is the criteria for evaluating the model? (4)


1) State research questions

2) Make assumptions

3) Work out implications

4) Conduct empirical analysis

5) Evaluate results


1) Assumptions reasonable?

2) Can we use for real problems?

3) Can we test with empirical analysis?

4) Are implications consistent with data?


What are the schools of thought in Economics? (2)

How did they start and what do they emphasize?


What do they both agree on?


1) Classical view - started by Adam Smith in 1776

(States that free markets are best and assumes prices and wages are fully flexible)


2) Keynesian view - by John Maynard Keynes in 1936 

(States that there is a role for the Govmnt. to intervene in short run, use of fiscal policy is good)


They agree that in the long run, prices and wages will adjust to equilibrium regardless.


What is GDP?


What is GNP?


GDP is the monetary value of all goods/services produced in a certain period of time.


GNP is GDP + NFP, where NFP is the money made from Canadians outside of the country minus money made from international people in Canada.


What are the approaches in National Income Accounting? Give the respective equations. (3)


What is the fundamental identity in all of this?


1) Product approach  

Value added = Value of output - value of inputs


2) Income approach

Wages + Taxes + Profits = Value


3) Expenditure approach

Y = C + I + G + NX

(C = consumption, I = investments, G = govmnt. spending, NX = net exports)


Total production = total income = total expenditure is the fundamental identity


What is Wealth? What are Savings?


What is the formula for private savings?


In what ways in Private Savings used? (3)


Wealth is the difference between assets and liabilities

Saving is current income minus spending on current needs


S = Y + NFP - C - G 

S = I + CA  

(CA = current account balance)

 Spvt = I + (-Sgovmnt) + CA


1) Investment (I)

2) Govmnt. budget deficit (-Sgovmnt)

3) Current account balance (CA)


What kind of variables are Savings and Wealth?

What is national wealth equal to?


What is the difference between Real GDP and Nominal?


What is the GDP Deflator equal to? What does it achieve?


Savings are a flow variable, measured per unit of time

Wealth is a stock variable, measures at a point of time


National assets - foreign assets - foreign liabilities


Nominal GDP is the measure of final output at mkt. prices

Real GDP is the measure of final output using a base year


GDP Deflator = Nominal GDP/Real GDP

It measures the overall level of prices and goods in GDP





What does the Consumer Price Index (CPI) do?

How is the rate of inflation computed?


What is CPI equal to?

What are some biases that affect it? (2)


Measures the prices of consumer goods.

Inft+1 = (Pt+1 - Pt)/(Pt), t = base year

Inf is referred to as the symbol, π


CPI = Cost of basket at current price/cost at base year


1) Substitution bias

2) Quality bias



What is the real interest rate equal to?


What is the expected real interest rate? What is it equal to?


Real interest rate = i - π

(i = nominal interest, π = inflation)


Expected real interest rate is the rate at which real value of an asset is expected to increase over time


Expected real interest rate =  i - πe

(πe is expected inflation rate)




What are the markets we want to analyze in macroeconomics and what are their respective curves? (3)


What are our goals when analyzing? (2)


1) Factors of productivity - Full employment curve (FE)

2) Goods and services - Investment = savings curve (IS)

3) Assets - Liquidity and money curve (LM)



1) LR economic growth analysis

2) Develop a macroeconomic model 




What affects the production function? (2)


What is the production function? List what each variable is. (4)


What value do we usually solve for?


1) Quantity

2) Quality (efficiency)


Y = A*F(K, N)

three variable function (always hold one variable constant) 


1) Y = Real output (adjusted for inflation)

2) A = total factor productivity

3) K = stock in current period

4) N = labour (# of workers in current period)


Usually solve for A. 


What does a production function curve look like?


How do we find the slope of these types of functions?



An upward sloping curve with diminishing returns.


By taking the first derivative



What are the assumptions associated with the demand for labour? (3)


How does a firm decide if they want to hire someone?


How do we find aggregate demand?


1) Workers are homogeneous (perform same tasks)

2) Firms take wage rate as given

3) Firms are profit maximisers (compare MB to MC)


On the MPN graph (marginal product of labour = demand), if the MPN is greater then real wage, they should hire.


Add up all the curves.


What are some common reasons for the MPK curve to shift? (3)




1) Weather

2) Unforeseen circumstances

3) Technology changes




What do we compare when analyzing the supply of labour? (2)


What are the main effects that change the supply of labour? (2)


1) Leisure (MC)

2) Wages (MB)


1) Substitution effect (SE) - wages rises as # hrs worked increases as well

(Pure SE effect - one day wages rise suddenly)


2) Income effect - the # of hrs worked goes down as wages rise up

(Pure income effect - win lottery)


What does the Labour supply curve look like?


What are some reasons for the curve to shift (relate back to the main effects)? (2)


A backward bending curve.


1) Increased wealth


2) Better future wages



What is the real wage rate referred to as on the labour market curve and why?


What doesn't classical economics account for in the labour market curve?


It is called the clearing wage rate because it has no shortages and no surpluses.


It doesn't account for unemployment. Keynesian on the other hand acknowledges that wages are sticky.


How have skilled based and unskilled based labour markets changed over the years?


How is unemployment conducted and what are the requirements?


What are the categories of unemployment? (3)


Skilled workers are in demand while unskilled workers are less demanded.


It is conducted by Statscan and it accounts for 15+ ages


1) Employed

2) Unemployed

3) Not in labour force (not looking for work - discouraged)


What is the unemployment rate equal to?


What is the employed rate equal to?


What is the participation rate equal to?


Unemployment rate = # unemployed/labour force


Employed rate = # employed / # of ppl <15 years


Participation rate = labour force / # of ppl <15 years

What are the types of unemployment? (4)

1) Frictional - time it takes to go through interviews and get started at a job


2) Structural - have obsolete or no skills


3) Cyclical - based on business cycles (recession, etc.)


4) Seasonal - seasonally adjusted


What does the desired capital stock graph look like? What variables are on it?


What are the changes that affect Desired Capital Stock? (2)



There is a downward sloping linear MPK curve and there is a horizontal curve for wages (user cost of capital) at a certain y value. The graph is K vs MPK & uc.


1) Changes in real interest rate - Declining rates means an increase in desired capital stock, Uc curve shifts down


2) Changes in future MPK - increase in future MPK means increase in desired capital stock, MPK curve shifts up

(tech. advancements, etc.)




What is the after-tax interest rate equal to?


Describe the income and substitution effect and say the one big difference between a lender and borrower


Rat = (1-t) * i - (Pi)e    (Pi = inflation, i = nominal int.)


Substitution = Opportunity cost of current consumption current savings go up)

Income = increase current income from wealth which increases current consumption and decreases current savings


The big difference is that a borrower would not decrease his current savings, he would always increase in both effects.




What are the factors that cause Savings to change? (4)


What are the effects on 4)?


1) Changes in current income (increases both consumption and savings by a certain amount)


2) Changes in future income (increases consumption but decreases savings)


3) Change in wealth (increases consumption but decreases savings if wealth goes up)


4) Changes in r (increase opportunity cost of consumption = decrease consump. and increase savings)

OR (increases income from wealth

= increase consumption and decrease savings)


The substitution effect is first and the income effect after




What may happen when Gtemp increases? (2)




1) Taxes increase -> disposable income decrease


2) Debt financed -> fiscal policy -> Ccurr decrease and Cd increase, taxes decrease and Cd increases to equal 0?

-> Ricardian theory says Cd will be unchanged




What is the users cost of capital equal to?


What should it be set equal to when solving an problem?


Uc = r(pk) + d(pk) = (r+d)*pk

r = expected rate of interest, d = dep'n,

pk = real price of capital goods


It should be set to equal to MPK


What is the after-tax MPK equal to?


Net investment is equal to?


MPKf = MPK(1-t)

MPK = ((r+d)pk)/(1-t)

Also equal to the adjusted users cost of capital


Gross investment - dep'n


What is the equation for gross investment in year t?


What is important to consider when you have investment in inventory and housing?


It = Kt+1 - Kt + dKt


The owner must decide whether keeping the volatile inventory is worth it or should he just rent out the housing that he has instead.



What is the goods market equilibrium?


What are some key characteristics about the savings and investment curves?


Y = Cd + Id + G (No NX because closed economy)


Savings curve is upward sloping, higher interest rate raises savings


Investment curve is downward sloping, higher interest rate decrease users cost of capital which decreases I


I and S on the X-axis while real interest rate is on Y-axis


What does the current account consist of? (3)


What does the balance of payments account do?


1) Net exports (NX) - goods brought in and out


2) Investment income from assets abroad (NFP) - interest payments, dividends and royalties


3) Current transfers - only PMT, not goods



Records country's international transactions


What does the capital account do?

What is the difference between the capital and current accounts?


What is the official settlements account?


What is the most important thing that the current account and capital account must do?


Records trade in existing assets (direct invest or portfolio)


The current account only records migrant funds, inheritances, transaction of intellectual property.


It measures the net increase in a country's reserve asset

(gold, foreign securities, foreign bank deposits, etc.)


They must equal to 0, CA + KA = 0


What is the open economy national income account identity?


What is absorption?


S = I + CA = I + NX + NFP


Absorption = (C+I+G),

it is the total spending by domestic residents



What are the assumptions of the small open economy? (2)


Does the savings curve and investment curve need to be at equilibrium?


What is the difference between a temporary adverse shock and a permanent positive shock? What do they both cause?


1) The world real interest rate is fixed

2) Markets for financial capital are open to all savers and borrowers


No, they do not need to be equal.


Supply curve shifts to the left in a temporary adverse shock

The investment curve shifts to the right in a permanent positive shock

They both cause the Current account surplus to decrease.


What is the assumption of a large open economy?


What is the equilibrium?


It can affect the world interest rate, determined by the model and is not fixed.


Lending country CA surplus minus borrowing's CA deficit.

Desired savings = desired investment


What does the twin deficit state?


Which theory proves it wrong and why?


It states that government budget deficit and current account deficit account are closely linked.


Ricardian equivalence proves it wrong, it states that they can only be linked if desired national savings falls as well which should make consumption rise.


What is steady-state?


What are its characteristics and equation?


What does the golden rule state?


It is when yt, ct and kt are constant and do not change

therefore there is no productivity growth


Ct = Yt - (n+d)Kt

Per worker: c = Af(k) - (n+d)k


level of capital stock maximizes consumption per worker in steady-state.


What is the equation for reaching the steady-state?


What is the steady-state capital output ratio?


sYt = (n+d)Kt   (s = # b/w 0 and 1)

Per worker: sAf(k) = (n+d)k


it is equal to k* which is the value of k when savings and steady-state investment cross.




What is the steady-state consumption per worker equation?


What are the determinant of long run living standard? (3)


c* = Af(k*) - (n+d)k*



1) Saving rate - raises output, decreases current C


2) Population growth rate - lower living standards but more output all around


3) Rate of productivity growth - raises output at every k, results in more savings = higher k*


Describe what is on the two graphs of the Neoclassical Growth Model?


What are some things that affect the model and describe what happens afterwards? (3)


On the first graph it is K vs Y, I, C and there is a production function curve, investment curve and savings curve.

On the second graph it is K vs C where there is a consumption per worker curve.


1) Increase in savings rate -> savings shifts up and movement in consumption per worker upwards


2) Increase in population growth -> investment shifts up but decreasing movement in consumption per worker since I=S at a lower point


3) Increase in productivity -> prod. function and savings curve shift up, consumption per worker shifts up

What are the types of Convergence? Explain them in detail. (2)

1) Unconditional convergence - If s, y(k) and n constant then poor countries start at low k levels, will eventually reach convergence


2) Conditional convergence - different characteristics of

(s, y(k), n) -> leads to cluster convergence where similar countries convert to similar steady states, only similar countries though


What does the Endogenous growth theory rely on?


What is the main equation of the model?


The growth relies on savings, developing human capital and investment in research and development.


Change in y = sA - d


What do Government policies hope to increase? (2)

How do they accomplish it?


1) Savings - by offering retirement plans


2) Productivity - by providing better infrastructure, more human capital as well as research and development


What are the functions of money? (3)


How is money supply determined and changed?


1) Medium of exchange

2) Unit of account

3) Store of value


It is determined by the government by doing open market operations. (sell bonds -> less money supply & vice versa)

What are some factors to consider in Portfolio Allocation? (4)

1) Expected return - increase in value over time


2) Risk - actual return =/= expected return -> risky


3) Liquidity - how easy it can be exchanged for goods and services


4) Time to maturity - the longer you wait, you'll get a bigger term premium

What are some types of assets? (5)

1) Money - cash, coins and etc. (liquid)


2) Bonds - promise to pay an amount periodically, financial security (not liquid)


3) Stocks - ownership in dividends, value appreciates over time (liquid)


4) Houses - rent (minus maintenance) and appreciation


5) Consumer durable goods (not liquid) 


What is the Money Demand function?


What are the variables that affect money demand? (4)


What are some other factors that affect money demand? (3)


Md = P * L(Y, i)

Md/P = L(Y, r + pie)     (pi = inflation)


1) Price level (P) - increase = Md rises proportionally

2) Real income (Y) - increase means Md rises but not proportionally

3) Real interest rate (r + pie) - increase means Md falls

4) Nominal interest rate (i) - increase means Md rises


1) Wealth - increase means Md rises

2) Risk - if other assets become risky then Md rises, if risk of money increases then Md falls

3) Liquidity of other assets - increase means fall in Md


What are the Elasticities of money demand? (2) 


What is the Velocity of money equal to?

What is the Quantity theory of money equal to?

When you put these two together what does it mean?


1) Income elasticity of money demand (eta y)

= % change in Md/ % change in y 


2) Interest elasticity of M(eta i

= % change in Md/ % change in i


V = nominal GDP/nominal money supply = PY/M


 Quantity theory of money -> Md/P = KY


Therefore, this means velocity is constant at 1/k


What is the Asset market equilibrium condition?


What is inflation and what is it equal to?


P = M / L(y, r + pie)


Inflation -> Change in P/P

= Change in M/M - Change in L(y, r + pie)/L(y, r+ pie)

= Change in M/M - (eta y) * change in y/y


eta y = elasticity of income money demand

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