Macroeconomics 1st Mid-term Answer Sheet

Prepared By
Name: Mortaza Amin James
Id: 141 Section: C
Batch: 26th Department: Marketing

[Exam topic: National Income]

 National Income:
The National Income is the total amount of income accruing to a country from economic
activities in a year’s time. It includes payments made to all resources either in the form of wages,
interest, rent, and profits.
The output of an economy is measure through the gross domestic product (GDP). GDP is the
total money value of all goods and services produce by a country is a year. GDP can be
calculated in two ways:
i. Product approach
ii. Income approach (land + wage + capital + profit)

GDP of a country must be equal to consumption, investment, government expenditure, and the
net of exports (Exports – Imports)

Therefor,
GDP = C + I + Gx + Nx ÷ (X – Im)
Incase of Bangladesh, GDP = C + I + Gx – Nx. And as a result, the growth rate of GDP decline
in Bangladesh. Growth rate can be calculated using the following formula:
GR (growth rate) = (Current year GDP value – previous year GDP value) ÷ previous year GDP
value
Example:
GR (growth rate) = (110 – 100) ÷ 100 = 10 %
Real growth rate is adjusted with inflation.

Example:

If growth rate = 7% and inflation = 5%

 Then, real growth rate = (7% – 5%) = 2%

The actual picture of economic can be identified by calculating real GDP value which means
when current year price is adjusted with rate inflation.

 The policy instruments to increase the GDP of a country:

National income is determined by the interaction between the aggregate demand (AD) and
aggregate supply (AS). Aggregate demand means total spending of a nation and Aggregate
supply means total quantity of goods and services supply by the businessman in a particular
period of time with a given price. Aggregate demand is influenced by monetary policy and fiscal
policy along with other forces of an economy.
 Monetary policy: There are basically 4 components of monetary policy:
i. Short term interest rate
ii. Availability of credit
iii. Exchange rate
iv. Market mechanism

Monetary policy is basically two types:

i. Expansionary monetary policy

ii. Contractionary monetary policy

Expansionary monetary policy: When interest rate is lowered, credit policy is simplified,
exchange rate is also simplified and other forces are also simplified, money supply to the
economy will increase, investment will rise, employment will increase and finally, national
income will also increase. This is called expansionary monetary policy.

Contractionary monetary policy: When the interest rate is increase, though credit policy and
exchange rate are followed, then investment will decline and employment and output will also
fall. This is called contractionary monetary policy.

 Fiscal policy: fiscal policy is prepared by ministry of finance and it has there
components:
i. Taxation
ii. Government expending
iii. Government borrowing

Taxation: There are two types of taxation:

a. Direct tax: Income tax, corporate tax, inheritance, capital tax.

b. Indirect tax: Vat. The major source of government revenue is the indirect tax.
Government Expenditure: It includes administrative expenses and development expenditure.

Government Borrowing: When government’s income collected from the tax doesn’t cover all
expenditure then government borrows money from the international development agencies such
as World Bank, IMF, ADB, and IDB to meet up the development expenditure. Government also
sometimes takes loans from the banks, for long term purpose. And also sometimes collects
money by selling various types of bonds and securities.

Fiscal policy is again two types:

i. Expansionary fiscal policy

ii. Contractionary fiscal policy

Expansionary fiscal policy: When both direct and indirect tax are reduced then prices of the
goods and services will decline and as a result consumption will increase. If consumption
increased, GDP of a country will also increase. Similarly if government expending increases,
money supply to the economy will also rise and equally if the government borrowing increases,
economy will also become boom. However, expansionary fiscal policy increases the inflation
rate of a country.

Contractionary fiscal policy: When both tax is increased, government expending decreases and
government borrowing also falls. Then price of goods and services will rise, money supply to the
economy will fall and finally countries GDP will also decline. However, inflation will also fall
and employment will also decrease.

Therefore, there is a contradiction of using expansionary and contractionary fiscal policy

between the inflation and employment.

 How to calculate nominal GDP, real GDP and GDP deflator:

Price of product Price of product

Year Quantity Quantity
X Y
2005 Tk. 1 100 Tk. 2 50
2006 Tk. 2 150 Tk. 3 100
2007 Tk. 3 200 Tk. 4 150

 Calculation of nominal GDP:

2005: (1 × 100) + (2 × 50) = 200 Tk.

2006: (2 × 150) + (3 × 100) = 600 Tk.

2007: (3 × 200) + (4 × 150) = 1200 Tk.

 Calculation of real GDP:

2005: (1 × 100) + (2 × 50) = 200 Tk.

2006: (1 × 150) + (2 × 100) = 350 Tk.

2007: (1 × 200) + (2 × 150) = 500 Tk.

 Calculation of GDP deflator:

Formula: (Nominal GDP / Real GDP) × 100

2005: (200 / 200) × 100 = 100

2006: (600 / 350) × 100 = 171.43

2007: (1200 / 500) × 100 = 240

Between 2005 and 2006 inflation rate was 71% and between 2005 and 2007 inflation rate was
140%. (GDP deflator is used to calculate inflation rate of a country)

 Is GDP a good measure of economic well-being?

Well-being has two meaning:

i. Material well-being
ii. Quality of life

Material well-being means how much cash and wealth a person hold. On the other hand, quality
of life depends on many factors with the help of GDP a country only can measure per capita
income of the population but does not include the variable of quality of life. For example:

i. GDP does not major health condition of the population.

ii. It does not measure the quality of education.
 iii. GDP does not take into account of our intelligence, integrity, courage and wisdom.
iv. GDP does not measure women emancipation.
v. It does not take into account environmental pollution.
vi. Law and order situation are not also considered in GDP.
vii. GDP does not consider the value of underground economy.
viii. The value of the unpaid administrator is not considered in GDP.
ix. GDP does not measure the beauty of poetry.
x. GDP does not measure the freedom of speech.

Thus, GDP is not a perfect measure of overall well-being of the country. Since 1990, United
Nations has been measuring the quality of life by calculating Human Development Index (HDI)
considering the above 10 factors and our position is on 147th out of 150 Nations.

 How to increase the economic growth:

Economic growth is the annual increasing GDP of a country. This growth can be achieved by
following the demand-side policy and supply-side policy.

Demand-side policy: It means increase in aggregate demand of a country. By aggregate demand

meaning increase in consumption, investment, government expending and increase in exports
consumption can be increased by increasing the income level of the population and income
depends on employment opportunities. Therefore, government should encourage both public and
private sector to invest more on productive sector of the economy. In this regard government
incentives are the key to success.

Investment: Investment depends on saving of a country. Saving on disposable income, bank

interest rate and the monetary policy of the country.

Government expending: The main source of government income is the tax and tax depends on
the purchasing power capacity of the population which again depends on income. We got that tax
revenue higher than the government expending. Government expending also depends on export
earnings, remittance, and reserve of a country (foreign reserve).
Increase in export: Export depends on the manufacturing base of a country, government
incentives through the exporters, timely shipment of the goods, quality of products, price
competitiveness in the international market. Export of manufacturing goods gives more revenue
than the exports of agricultural items.

Supply side policy: It means increase total supply of goods and services in an economy. This
can be achieved by:

i. Increase in productivity
ii. Increase in human capital
iii. Use of modern technology
iv. Continuous research and development
v. Improve in health nutrition
vi. Development of modern infrastructure
vii. Encourage of private sector development
viii. Trade union reface
ix. More deregulation
x. Providing minimum which to the worker

Increase in productivity: Productivity means output by input ratio. If we put minimum inputs,
maximum output can be achieved then we can say productivity of a country is higher and as a
result, of our country enjoys the benefit of economies.

Increase in human capital: When a person acquires proper education, skills and continuous
training then human is converted into human resources which in other way called human capital.
Increase in human capital improves the productivity of all workforce which in long run increase
the supply of goods and services.

Use of modern technology: when a country uses modern technology to provide goods and
services, supply will increase to the market result to the lower price and more consumption.

Continuous research and development: RNO is basically done to innovate new products and
services. Innovation of variety of goods increases the consumer choices, increase export and
thereby economy becomes stronger.
Improve in health nutrition: Better nutrition balance food improve the physical strength of the
human resource and thereby human productivity will increase.