[MUSIC] So what is macroeconomics? The word macro means big or large. And macroeconomics focuses on the big economic picture, specifically how the overall national economy performs. Macroeconomics is distinguished from microeconomics which deals with the behavior of individual markets and the business, consumers, investors and workers that make up the economy. The four most important policy problems in macroeconomics are inflation, unemployment, the rate of economic growth and movements in the business cycle. Inflation is defined as an upward movement of prices from one year to the next. It is typically measured by the percentage change in price indices, such as the consumer price index, the producer price index, or the so called GDP deflator. For example, the producer price index is based on a number of important raw materials. While the most widely used measure of inflation, the consumer price index, or CPI, is calculated by pricing a market basket of goods and services. Purchased by a typical household. This market basket includes prices of food, clothing, shelter, fuel, transportation, medical care, college tuition, and other goods and services purchased for day-to-day living. Inflation has often been described as The Cruelest Tax because it eats away at our savings and at our paychecks. For example, if the rate of inflation exceeds the rate of growth in our paycheck that means our real income or purchasing power is declining even though our wages are going up. Note, however, that not everyone loses from inflation. For example inflation net is unanticipated can benefit borrowers at the expense of lenders. How might that happen? To see how inflation can help borrowers and hurt lenders, suppose you borrow $1,000 from a bank and promise to repay it in two years. If during that time, the price level doubles because of inflation, the $1000 which you repay will have only half the purchasing power of the $1000 originally borrowed. Macro Economic Problem number two is unemployment. The unemployment rate is measured as the number of unemployed persons divided by the number of people in the labor force. In talking about employment. Economists distinguish between three kinds, frictional, cyclical and structural. Frictional unemployment is the least of the macroeconomist's worries. It occurrs as a natural part of the job seeking process as people quit their jobs just long enough to look for and find another one. Cyclical unemployment however is a much more serious problem. It occurs when the economy dips into a recession and it is this type of unemployment that microeconomists have historically spend most of their time trying to solve. However, in an increasingly technological age the third type of unemployment, structural unemployment has begun receiving more attention. Structural unemployment occurs when a change in technology makes someone's job obsolete. The auto worker replaced by a robot, the telephone information operator replaced by a computerized voice synthesizer. Or the classroom teacher replaced by a video or audio tape. As we shall see, structural unemployment is one of the hardest kinds of unemployment to cure. The third major macroeconomic policy program focuses on the rate of economic growth. The rate of economic growth is typically measured by the growth in the nation's gross domestic product, or GDP. The GDP is defined as the market value of all the final goods and services produced in a country in a given year. And economists have two ways of measuring it. One is called the flow of cost or income approach. The other is called the flow of product or expenditures approach. With the flow of product or expenditures approach the gross domestic product equals consumption plus investment plus government expenditures plus expenditures by foreigners or net exports. Where net exports are defined as the difference between total imports and total exports. In contrast, the flow of cost, or income approach, simply adds up all the income people receive each year from producing the year's output. Under this approach the gross domestic product roughly equals wages earned by workers plus rents earned by property owners plus interest received by lenders plus profits earned by firms. In thinking about economic growth in the gross domestic product it is useful to distinguish between actual and potential GDP. Actual GDP, represents what we are producing, while potential GDP represents the maximum amount the economy can produce without causing inflation. When actual GDP is well below potential GDP, we are in the recessionary range of the economy. In contrast, when actual GDP is above potential GDP, we run the strong risk of inflation. This figure illustrates the relationship between actual and potential GDP and the unemployment rate. In the top portion of the figure. The difference between potential GDP and actual GDP is the GDP gap. This GDP gap measures the output the economy sacrifices because it fails to fully use its productive potential. Note, in the lower figure, that a high unemployment rate, means a large GDP gap. In thinking about economic growth, and the gross domestic product, it is also useful to distinguish between nominal GDP and real GDP. Nominal GDP is measured in actual market prices. However, prices change over time and if we were to use nominal GDP to measure economic growth. It would be like using a rubber yardstick. One that stretches in your hands from day to day. To address this problem, macroeconomists use real GDP. This is simply nominal GDP adjusted for inflation, and it is calculated in constant prices for a particular year, say, 1992. Moreover when we divide nominal GDP by a Real GDP, we obtain the GDP Deflator, another valuable inflation index. Real GDP is the best widely available measure of the level and growth of output in the economy and movements in Real GDP serve as the carefully monitored pulse of a nation's economy. Closely related to the issue of economic growth and real GDP as a measure of such growth is the problem of business cycles. The term business cycle refers to the recurrent ups and downs in real GDP over several years. While individual business cycles vary substantially in length and intensity, all display common phases, as illustrated in this figure. The cycle looks like a roller coaster. There is a peak where business activity reaches a maximum, a trough which is brought about by a recessionary downturn in total output. And a recovery or upturn in which the economy expands towards full employment. Note that each of these phases of the cycle oscillate around a growth trend line. A central concern of macro economist is to determine whether a recurring business cycle exists and if so, what are the forces behind it? More importantly, both macro economists and the political leaders they may serve, want to know what macro economic policies, may be used to control or harness the business cycle. At the same time, a central concern of businesses is to determine whether the economy is going into a contraction or expansion. With the right guess in business, often being the difference between a big profit and a big loss. That's why many businesses rely on economic forecasting services to help them plan their production and marketing efforts
