The Data of Macroeconomics

 The statistics that economists and policy makers use most often are GDP, the CPI, and the
Unemployment rate.
 In addition, these statistics are often used in the Micro decisions of individuals and firms.
 In order to discuss and interpret these statistics, we must understand how they are measured,
factors that affect the statistics, and how they are used in decision making.
 Economist studying economic activity in the 19 th-century or during the great depression had no
reliable measure of aggregate activity. They had to put together bits and pieces of
information, such as the production of iron or sales in department stores, to infer what was
happening to the economy as a whole.
 It was not until the end of World War II that national income and expenditures accounts were
put together in major countries. Measures of aggregate output have been published on a
regular basis in Canada since 1947.

Gross Domestic Product (GDP)

 GDP measures the total final market value of all goods and services produced in the economy.
GDP is measured in dollar terms (total value) as adding up all quantities of goods together to
estimate GDP in units would not make sense (adding barrels of oil and energy drinks. Instead
we measure GDP as total value summing the quantities of each good with their respective
prices. ∑ (P ¿ ¿ i∗Q i )¿. It is important to note that GDP measures only final goods and
services produced within a geographical region during the period (usually a year). Final goods
and services are those that are sold to their final user and not used in the production of other
goods and services.
 GDP is an important measure of the health of the economy. Producing more goods and
services results in more income in the economy and a higher level of well-being. However, GDP
does not look at income inequality or the equity of how income is distributed among
economics agents. It simply measures the entire income of the economy. GDP does a fairly
good job of measuring total production, but it does have some drawbacks.
 Other exceptions:
o Used Goods: GDP measures only currently produced goods and services because used
goods would have been produced and counted in previous periods.
o Financial Transactions: To be counted in GDP the transaction must involve productive
capacity no financial transactions.
o Spoiled Goods: Unused inventory that is wasted or spoiled would not be counted as part of
GDP, as the goods were never sold.
o Although the workers would earn income from the production of the spoiled
inventory, the fact that it was not sold would mean that the firm would not earn
revenue to cover the wages. As a result, the firm’s profit would decrease. As such, total
income and expenditures would not be affected by the production of the spoiled
inventory, only the make-up of income would be altered (Profit & Wages).
o Inventory: If inventory is saved for a future year, we must somehow count it in the current
year and not in the next.
o Therefore, unused inventory is counted as expenditures by the firm’s owners
increasing GDP in the year they were produced. In the following year, as expenditures
rise due to selling the inventory, the firm will record a decrease in inventory spending,
which would reduce business expenditures causing a net effect of 0.
 Housing Services and other Imputations: Some goods and services are not sold in the market
place and therefore, we must input values if they are to be counted.
o Renters pay landlords for housing services; however, homeowners who enjoy housing
services are not paying themselves and therefore, it is not sold in the market place.
Therefore, GDP includes the rent they would have paid based on averages.
o Government services are valued at their cost.
o Household production is not counted or estimated (child care domestic services etc.)
o It does not include the size of the underground economy which when comparing
internationally, could be problematic.
 Estimates of underground economy:
 Canada: 42.4B2.3% of GDP
 U.S: 1.6T10% of the economy
 Some developing countries upwards of 50%.
 GDP does not include externalities, costs borne by society (environmental damage).
 Not adjusted for crime or other social problems.

GDP & Circular Flow

 As discussed in the circular flow, total GDP equals total income in our economy. When we
measure total GDP in the economy, we also indirectly measuring total income in the economy.
Total revenue to the firm is paid out to workers, owners of capital and if there is profit, to the
owners of the firm who are essentially capital owners.
 From the circular flow. We also know that we can measure GDP as total expenditures or total
income in addition to the value of final goods and services produced within Canada.
 Although total output equals total income in the model we have looked at and we will carry
that assumption with us, technically speaking, GDP measures the total amount of income
generated within the borders of Canada and not the total income paid to Canadians.
 Although we will assume GDP equals total income to Canadians, there is another more
accurate measure of income earned by Canadians: Gross National Income (GNI) or Gross
National Product (GNP).
 The problem we face is some of the income generated within Canada is paid to foreign
workers within Canada and some of the inputs used are foreign owned. Thus, a portion of the
income generated from GDP within Canada flows to foreign owners of inputs both Labor and
Capital.
 On the other hand, some Canadians work overseas and generate income from foreign GDP and
some of Canadian inputs and resources are used to produce foreign GDP.

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 As such, GDP is not a perfect measure of Canadian income. However, we can make some
adjustments to derive the total amount of income earned by Canadians regardless of where it
is earned. Gross National product is income earned by Canadians regardless of where they are
located.

Net Factor Payments From Abroad (NFP):

 NFP=Income earned from foreign countries-Canadian Income paid to foreigners.

 GDP-NFP=GNP or GNI (Gross National Income)
o Gross National Product (GNP)=GDP-Net Factor Payments (Foreign Income Paid
to Domestic Factors of Production-Domestic Income Paid to Foreign Factors)
o We usually ignore net factor payments as the difference is not usually
substantial.

Approaches to GDP:
 There are three 3 ways to measure GDP:
o Total Value of Final Goods & Services Produced, which is the same as total
expenditures on Final Goods and Services.
o Value Added Approach:
o Income Approach:

Expenditure Approach
 GDP is the market value of all final goods and services produced within the economy in any
given time period.
 GDP=P a∗Q a + Pb∗Q b +… + Pn∗Q n
N
 GDP=∑ Pi ¿ Q i
i=1

 This can also be calculated by adding up all the domestic purchases of consumption goods, the
purchase on all capital goods (fixed assets), any unsold inventories by firms, and Net Exports.
 This also categorized by the expenditure approach used in Macroeconomic Models:
 National Income Accounts divide GDP into 4 main components:
o Consumption
 Durable Goods: Cars, TVs
 Nondurable Goods: Food and clothing
 Services doctor services
o Investment:
 Business fixed investment: new plant and equipment
 Residential Construction: new housing
 Inventory Investment: increase in firms inventory of goods
o Government Purchases:
 Goods and services bought by the governments
o Net Exports

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  Exports - imports
o Y=C+I+G+NX

 Consumption (C)56%
 Investment (I)19%
 Government Spending (G)25%
 Net Exports (NX)-2%

Value Added Approach

 Assume that a steel firm produces 2 tons of steel and sells to a car manufacturer for $5K. Of
the 5K in revenue, the firm keeps $1K as profit and pays its workers $4K. The car firm uses the
steel to produce two cars, which it sells for $20K each. Of the $40K in revenue, 5K went to
produce steel and 30K was used to pay workers in the car plant. (5K in profit to the car
company).

Steel Firm
Revenue 5,000
Wages 4,000
Profit 1,000
Car Manufacturer
Revenue 40,000
Wages 30,000
Steel 5,000
Profit 5,000
 If these are the only two firms in the economy, then what is the GDP?
 We could add up the final value of goods and services produced in the economy as 45K: 40K
from the car firm and 5K from the steel firm. However, this would be double counting because
the cost of the steel (the final value) is also part of the 40K in manufacturing sales.
 Therefore, steel would not be considered a final good or service. It is an intermediate good.
Final goods and services would consist of those sold to their final user and not as input into the
production of another good.
 In order to look at the value-added method, we would subtract the 5K in steel for the car
company and add it separately. GDP=5K+35K.
 We could also calculate GDP by adding up total income or expenditure:
o Income=Wages + Profit4K+30K+1K+5K=40K
o Expenditures: C+I+G=40K+0+0=40K.

Income Approach:
 Statistics Canada reports 4 categories of income:
o Compensation of Employees (51.6% of GDP)
o Gross Operating Surplus (25.9% of GDP)

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 o Gross Mixed Income (11.7% of GDP)
o Taxes Less Subsidies (10.9% of GDP)

 Compensation of Employees:
o Includes all benefits to workers providing labor to firms.
o Broken down to two components:
 Salaries & Wages86%44% of GDP
 Employers’ Social Contribution (CPP, EI, and health
premiums)14%7.2% of GDP.
 Gross Operating Surplus: payments made to the owners of capital by firms and government
for the use of their capital in producing goods and services. 25.9% of GDP. Gross operating
surplus is broken down into three elements: net operating surplus of corporations,
consumption of fixed capital by corporations, consumption of fixed capital by governments or
non-profit organizations.
o Net Operating Surplus: Payments to the owners of capital above depreciation.
o Consumption of Capital: Depreciation
 Firms: The depreciation of all fixed assets 10.8% of GDP.
 Government, Non-Profit, and Households3.5% of GDP
o Gross Operating Surplus=Net operating Surplus + Consumption of Capital by
Firms+ Consumption of Capital by Government (households and nonprofits.
 Gross Mixed Income: Income generated by small business. Because many owners also work as
employees it is difficult to separates (11.7% of GDP).
o Consumption of fixed capital (depreciation for small business) 2.8% of GDP
o Net Mixed Income: payments to owners above depreciation of capital.
 Taxes less Subsidies: Taxes income received by government, subsidies payments of firms and
others. 10.9% of GDP.

Expenditure Approach (Millions) Income Approach (Millions)

Household Consumption 1,111,616.00 Wages & Salaries 881,409.00 Compensati
Consumption 1,139,931.00 57.48% 1024296
Not for Profit Consumption 28,315.00 Employers' Social Contributions 142,887.00 on of
Business Capital 379,565.00 Net Operating Surplus 229,248.00 Gross
Not for Profit Capital 3,096.00 Investment 388,754.00 19.60% Government Capital Consumption 68,725.00 Operating 510210
Inventory Investment 6,093.00 Corporate Capital Consumption 212,237.00 Surplus
Government Consumption 419,848.00 Government Net Mixed Income 175,662.00 Gross
499,744.00 25.20% 232224
Government Capital 79,896.00 Spending Small Business Capital Consumption 56,562.00 Mixed
Taxes Less
(45,812.00) Net Exports (45,812.00) -2.31%
Net Exports Taxes Less Subsidies 217,229.00 Subsidies 217229
Statistical Discrepancy 671.00 Statistical Discrepancy (671.00) -671
TOTAL 1,983,288.00 1,982,617.00 Total 1,983,288.00 1,983,288.00

Real Versus Nominal GDP:

 Nominal GDP is the total value of goods and services produced in the economy at current
market prices. ∑ (P ¿ ¿ i∗Q i )¿
 It can increase due to prices or quantity.

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 We are concerned about quantity when we speak of economic well being as rising prices does
not mean a higher productive capacity. Therefore, real GDP is often used. Real GDP is
calculated by using a constant set of prices year after year. This isolates changes in quanitity.
The constant prices are referred to as the base year. If the base year was 2010, then GDP in
2015 would be calculated as:
o Real GDP2015 =P2010 a ∗Q a
2015
+ P2010
b ∗Q b
2015

Real GDP2016 =P2010 2016

+ P2010 2016
o a ∗Q a b ∗Q b

 As shown, real GDP is not influenced by price as each period’s GDP is measured with a
constant set of prices (base year prices).
 Because prices change over time relative to other goods and services, the further we are from
the base year, the less accurate our real GDP number is. As such, Stats Canada uses a chain-
weighted method, which uses an average of the base year and previous year prices.

The Consumer Price Index:

 General increases in prices are known as inflation. Inflation represents a fall in the purchasing
power of money.
 The more inflation (higher the price), the less each dollar can purchase. Anyone who is
receiving a stream of income would be worse off with inflation. However, one person’s loss is
another one’s gain. Those making payments are essentially giving up less in real terms.
 Deflation or disinflation is a fall in the general price level, which means those receiving income
streams benefit from increased purchasing power of every dollar they receive.
 CPI measures the level of prices by turning the prices of many goods and services into a single
index.
 Because there are many different goods and some people buy more of one than another, an
average would not reflect the true amount of inflation faced by an individual.
 The CPI measures a specific basket of goods and compares the price year over year.
 Core inflation used by the central bank excludes food and housing.
 The CPI attempts to measure changes in prices faced by the average household. Stats Canada
conducts a survey each year and identifies an average “basket” of goods and services. It
includes 8 broad categories:
o Recreation, education, and reading 11%
o Alcohol & Tobacco 3%
o Food 16%
o Shelter 26%
o Household operations 13%
o Clothing & Footwear 6%
o Transportation 20%
o Health & personal Care 5%
 The CPI is the average of the prices of the goods and services in the basket. One year is chosen
as the base year.
 Fixed basket of goods equals expenditures

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 Expendituresthis year
CPI= ∗100
Expenditures Base Year

CPI 2−CPI 1
Inflation rate=% ∆ CPI= ∗100
CPI 1

 CPI is an index that measures the general price level of the economy.
 If it was an average then all goods would be treated the same; however, the CPI uses a typical
basket of goods so that it includes only the goods an average consumer purchases.
 4 Biases that cause the CPI to overstate inflation:
1. Substitution Bias: As prices increase consumers switch to different goods. The CPI is
not continually updated (last 2011).
2. Quality Bias: Higher prices sometimes reflect higher quality.
3. New Product Bias: does not include new products that may have higher prices.
4. Outlet Prices: would not take into account where the consumer purchased the
goods.
 Producer Price Index=Typical basket a firm buys
 Core Inflation=CPI less Food and energy Prices.

GDP Deflator:
 GDP Deflator is nominal GDP divided by the Real GDP, which is a ratio of the current price to
the base year price.
 Nominal GDP=Real GDP* GDP Deflator.
o Describes what is happening to the overall price level
Nominal GDP
o GDP Deflator= ∗100
Real GP
Nominal GDP
o Real GDP= ∗100
GDP Deflator
o Determines the % change in the price level
o 2014: Nominal GDP=1,892B Real GDP: 1,706B
Nominal GDP 1,892
o GDP Deflator= ∗100= ∗100=110.9
Real GP 1,706
o 2015: Nominal GDP=1,973B Real GDP: 1,748B
Nominal GDP 1973
o GDP Deflator= ∗100= ∗100=112.9
Real GP 1,748
112.9−110.9
o ∗100 %=1.8 %
110.9
 Difference between GDP deflator and the CPI
1. GDP Deflator measures the prices of all goods whereas the CPI only looks at a typical
basket. Increase in producer prices will show up in the GDP deflator but not the CPI.
2. GDP deflator only includes goods produced domestically whereas the CPI includes
foreign goods if part of the basket

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 3. GDP deflator allows the basket to change in relation to changing GDP. Where the CPI
uses a fixed basket
a. Indexes with a fixed basket are called Laspeyres index whereas a changing
basket is called Paasche Index.

Unemployment.
 On the first or second Friday of every month at 7 AM, Statistics Canada announces the results
of the previous month unemployment rate. Statistics Canada computes the unemployment
rate, which comes from a survey of 56K households. The surveys call the labor force survey
and focuses only on the working age population, people 15 years of age and older who are
legally entitled to work in Canada. Each individual is placed into on the following three
categories.
o Employed: most of the previously week employed in a paying job
o Unemployed: not employed, waiting for the start of a new job, on temporary lay off
or has been looking for work within the last month.
o Not in Labor Force: includes people who were unable or unwilling to do paid work
(students, retires, discouraged workers, etc).
 Working Age Population: 29.4M
 Not in the Labor Force: 10M
 Labor Force: 19.35M
 All individuals in the Labor Force are either employed or unemployed:
 Employed: 17.9M
 Unemployed: 1.36M
Unemployed 1.36 M
 Unemployment Rate= ∗100= ∗100=7.1%
Labor Force 19.35 M

Labor Force 19.35 M
Labor Force Participation Rate= ∗100= ∗100=65.8 %
Working Age Population 29.401 M
 Unemployment is an important macroeconomic problem due to the reduced living standard
and potential psychological distress.
 Economists study unemployment to identify causes and help to improve the public choices
that affect the unemployed.
 Retraining programs attempt to assist people to find jobs where other programs like
employment insurance attempt to reduce the hardship caused.
 Other policies attempt to indirectly affect unemployment like minimum wage laws.
 Showing the effects of these policies helps policy makers to evaluate different programs.
 All free market economies experience unemployment.

Types of unemployment:
1. Frictional Unemployment: The unemployment that results because it takes time for
workers to search for jobs that best suits their skills and tastes.

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 a. Workers have different skills, interests and abilities. Jobs have different skill
requirements, working conditions and pay levels. As a result, new workers
entering the labor force or workers who lost a job probably will not find an
acceptable job right away.
b. Most workers spend some time engaging in job search, just as most firms spend
some time searching for a worker to fill a job opening. Frictional unemployment
is the short-term unemployment that arises from the process of matching
workers with jobs.
c. We don’t necessarily want to eliminate frictional unemployment because it
increases economic efficiency as firms and workers take the time necessary to
ensure a good match between the attributes of workers and the characteristics
of jobs
2. Structural Unemployment: The unemployment resulting from wage rigidity and job
rationing. This unemployment results from the changing structure of the economy. The
advent of computers getting rid of storage clerks, hand animators being eliminated for
computer animators, workers without the skills necessary for the right job, or in the
wrong location.
a. By 2009 computer-generated three-dimensional animation, which was used in
movies had become much more popular than traditional hand-drawn two-
dimensional animation.
b. Many people who are highly skilled hand animators had jobs at Walt Disney
pictures, and other animation houses. To become employed again these
animators either had to become skilled at computer-generated animation or
find other occupations.
c. Structural unemployment rises from persistent mismatch between the job skills
or attributes of workers and the requirements of jobs.
d. Structural unemployment also arises due to a mismatch between the location of
workers and the location of jobs. Those who have lost jobs in the fisheries of
Newfoundland and Labrador have often had to relocate to the prairies to find
jobs as laborers.
3. Cyclical unemployment: unemployment caused by a business cycle recession
4. Seasonal unemployment: because some workers are only employed part of the year
statistics Canada publishes two sets of unemployment rates. A seasonally adjusted
unemployment rate illuminates the effects of seasonal unemployment.

Discouraged Workers:

 During recessions some people who are unable to find work will just simply leave the
labor force. Technically speaking these people are able and willing to work but haven’t
given up. Therefore, they should be counted as part of the unemployed; however,
because they left the labor force and they’re no longer counted as unemployed. When

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 the number of discouraged workers is increasing, the unemployment rate tends to
under estimate the true another number of unemployed people.
 Another issue is that people who are part-time employees who want to work full time
will be counted as employed. These are often referred to as underemployed workers.
Again, this underestimate the true unemployment rate.
 Another problem is that statistics Canada does not verify the labor force Survey.

The Rate of Unemployment:

 L=the labor force
 E=the number of employed
 U=the number of unemployed
 Therefore, total labor force equals all those employed plus those unemployed L=E+U
 S=the number of employed people who lose their job each month (job separation rate)
 F=the number of unemployed people who find a job each month (job finding rate)
 If the unemployment is static, then the labor market is in steady state and the number of
people finding jobs (F*U) = the number of people losing their jobs (S*E)
 Therefore, the rates of job separation and job finding determine the rate of unemployment.
 L=E+ U Labor Force=Employed + Unemployed
 E=L−U Employed=Labor Force-Unemployed
 F∗U =S∗( L−U )# of People finding a job * the number of unemployed (how many
unemployed people found a job) equals the number of employed (L-U) who lost their
jobSteady State.
F∗U U

L
=S∗ 1− (L )
U S 1
= =
 L S+ F F
1+
S
 The unemployment Rate (U/L) is determined by F and S.
o The higher rate of S, the higher unemployment rate.
o The higher rate of F, the lower the unemployment rate.
 Any policy designed to reduce the rate of unemployment rate must either reduce the rate of
S or increase the rate of F.
 Although this model helps to look at the factors determining the rate of unemployment, it
does not tell us why there is unemployment in the first place.

Unemployment, GDP, and OKUN’s Law

 Since employed workers help to produce the GDP and unemployed workers do not,
increases in the unemployment rate should be equated with decreases in the GDP.
 This negative relationship between GDP and unemployment is called Okun’s Law.
 Okun’s Law
o The relationship between unemployment and GDP is negative.
o % ∆ U=−0.5∗( % ∆ Real GDP ) −4

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o If real growth is -1%.
o % ∆ U=−0.5∗(−1 ) −4=−.5∗(−1−4 )=2.5 %
o The unemployment rate will increase by 2.5%.

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