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Lecture 4: Basics Of Macroeconomics I (Continued)
Given to theGiven to theEMBA 8400 ClassEMBA 8400 ClassBuckhead CenterBuckhead Center
April 3, 2010April 3, 2010
Dr. Rajeev DhawanDr. Rajeev DhawanDirectorDirector
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Recessions
A recession is a significant decline in activity lasting more than a few months and is visible in industrial production, employment, real income and wholesale-retail sales (NBER definition). NBER uses monthly data.
Rule of thumb is 2 consecutive quarters of negative Real GDP growth or GDP decline.
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2009200520011997199319891985198119771973196919651961
14000
12000
10000
8000
6000
4000
2000
(Bil. $2005)Real GDP and Business Cycles
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20092007200520032001199919971995199319911989
14000
13000
12000
11000
10000
9000
8000
7000
(Bil. $2005)Real GDP and Business Cycles
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BUSINESS CYCLE REFERENCE DATES
DURATION IN MONTHS
Peak Trough Contraction Expansion Cycle
Quarterly datesare in parentheses
Peak to
Trough
Previous trough to
this peak
Trough from
Previous Trough
Peak from Previous
Peak
May 1937(II)February 1945(I)November 1948(IV)July 1953(II)August 1957(III)
April 1960(II)December 1969(IV)November 1973(IV)January 1980(I)July 1981(III)
July 1990(III)
June 1938 (II)October 1945 (IV)October 1949 (IV)May 1954 (II)April 1958 (II)
February 1961 (I)November 1970 (IV)March 1975 (I)July 1980 (III)November 1982 (IV)
March 1991(I)
13811108
101116616
8
5080374539
24106365812
92
6388485547
34117526428
100
9393455649
32116477418
108
March 2001 (I) November 2001 (IV) 8 120 128 128
December 2007 (IV) 73 81
NBER Report Cycle Dates 2003
Article: Business CyclesArticle: Business Cycles
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2010200920082007200620052004200320022001200019991998
115
110
105
100
95
90
138
136
134
132
130
128
126
124
122
(Index 2002 = 100) (Mil.)Industrial Production and Employment
Ind. Production (Left) Total Payroll Employment (Right)
20102009200820072006200520042003200220012000
6
4
2
0
-2
-4
(% from a year ago)Real Disposable Income Growth
20102009200820072006200520042003200220012000
10
5
0
-5
-10
-15
(% from a year ago)Real Retail Sales Growth
FEBOCTJUNFEBOCTJUNFEBOCTJUNFEBOCT20102009200820072006
200
0
-200
-400
-600
-800
-1000
11
10
9
8
7
6
5
4
(Thous., 3-m mov. avg.) (%)Nonfarm Payrolls and Unemployment Rate
Job Growth (Left) Unemployment Rate (Right)
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Article:Article: NBER’s FAQsQ: The financial press often states the definition of a recession as
two consecutive quarters of decline in real GDP. How does that relate to the NBER's recession dating procedure?– Most of the recessions identified by our procedures consist of two
or more quarters of declining real GDP, but not all of them– We consider the depth as well as the duration of the decline in
economic activity.– Second, we use a broader array of indicators than just real GDP– Third, we use monthly indicators to arrive at a monthly chronology
Q: Could you give an example illustrating this point?– The two-quarter-decline rule of thumb would not have allowed the
declaration of the recession until August 2002
Q: How does the NBER balance the differing behavior of employment and output?– There is no fixed rule for how the different indicators are weighted
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The December 2007 peak was announced December 1, 2008.
The November 2001 trough was announced July 17, 2003.The March 2001 peak was announced November 26, 2001.
The March 1991 trough was announced December 22, 1992.The July 1990 peak was announced April 25, 1991.
The November 1982 trough was announced July 8, 1983.The July 1981 peak was announced January 6, 1982.
The July 1980 trough was announced July 8, 1981.The January 1980 peak was announced June 3, 1980.
Peak & Trough Announcements
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Q. You emphasize the payroll survey as a source for data on economy-wide employment. What about the household survey?– Although the household survey is a large, well-designed
probability sample of the U.S. population, its estimates of total employment appear to be noisier than those from the payroll survey
Q. How do the movements of unemployment claims inform the Bureau's thinking?– A bulge in jobless claims would appear to forecast declining
employment, but we do not use forecasts and the claims numbers have a lot of noise
Q: What about the unemployment rate?– Unemployment is generally a lagging indicator. Its rise from a very
low level to date is consistent with the employment data
Article:Article: NBER’s FAQs
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Source: Econmic Forecasting Center
Mar 01’ ~ Nov 01’ 9 -0.1% -4.0% 4.2 5.6Dec 07’ ~ Sept 09’ 22 -3.5% -15.0% 4.7 10.1
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2009200720052003200119991997199519931991
100
98
96
94
92
90
88
86
(%)
Definition of DepressionLos Angeles Employment
Aerospace bust led to a real estate & jobs bust in early 90s
Real estate recovery was led by Hispanic buyers; Hollywood fills in the jobs vacuum somewhat
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2008200620042002200019981996199419921990
105
100
95
90
85
80
(%)
Definition of DepressionDetroit Employment
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2001 Recession vs. HistoryFor Details Refer:
http://www.nber.org/
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FRBSF Economic Letter, June 2003
Real GDP and Consumption
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FRBSF Economic Letter, June 2003
Investment and Stock Market
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Facets of the “Great” Recession
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20122009200620032000199719941991198819851982197919761973
30
20
10
0
-10
-20
-30
(% smoothed)
Investment Growth and Business CyclesEquipment & Software
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2009200720052003200119991997
230
220
210
200
190
180
170
160
150
($ bil., 3-m. mov. avg.)Durable Goods Orders
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JANOCTJULAPRJANOCTJULAPRJANOCTJULAPRJAN2010200920082007
16000
14000
12000
10000
8000
6000
Dow 30
Ongoing Recession
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Dow Jones Index
GE
GE Struggles to Keep PaceGE Struggles to Keep Pace
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2009200820072006200520042003200220012000
600000
500000
400000
300000
200000
100000
($)Value Change of $200,000 Home Purchased in 2000
Phoenix Los Angeles Miami Atlanta
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200920082007
6
4
2
0
-2
-4
-6
-8
(%)Real GDP and Final Sales Growth
Real GDP Final Sales
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Peak-to-Trough Declines in Real GDPPeak-to-Trough Declines in Real GDP
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DECAUGAPRDECAUGAPRDECAUGAPRDECAUGAPRDECAUGAPR20092008200720062005
10
0
-10
-20
-30
-40
(% from a year ago)Industrial Production
Japan
US Eurozone
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DECOCTAUGJUNAPRFEBDECOCTAUGJUNAPRFEBDECOCTAUGJUNAPRFEB200920082007
170
160
150
140
130
120
110
($ bil.)Total U.S. Exports
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JANNOVSEPJULMAYMARJANNOVSEPJULMAYMARJANNOVSEPJULMAYMARJAN2010200920082007
5
0
-5
-10
-15
-20
-25
-30
(% change since January 2007)USD Exchange Rate Movement
USD per Euro USD per Yen
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200920082007200620052004
10
5
0
-5
-10
-15
-20
(% from a year ago)Total Exports - Eurozone
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DECAUGAPRDECAUGAPRDECAUGAPRDECAUGAPRDECAUGAPR20092008200720062005
-20
-30
-40
-50
-60
-70
30
20
10
0
-10
-20
-30
($ bil.) (%, Y-O-Y)International Trade
Trade Deficit (Left) Imports Growth (Right)
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Weekly US Raw Steel Production Capacity Utilization (Capacity reduced as demand fell)thru January 16
30%
40%
50%
60%
70%
80%
90%
Apr-08
Jun-08
Aug-08
Oct-08
Dec-08
Jan-09
Mar-09
May-09
Jul-09
Sep-09
Nov-09
33.5% Dec 27
Source: American Iron & Steel Institute
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Source: Air Transport Association
Annualized Gallons of Jet Fuel Consumed (Billions)
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2009200720052003200119991997199519931991
120
110
100
90
80
70
60
(Index 2000 = 100)Transportation Services Index
Passenger
Freight
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Depth of RecessionsDepth of Recessions
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DateDuration (Months)
Job Losses (Mil.) Unemployment (%)
Total % Corporate Low High
Nov ‘73 – Mar ’75 17 2.115 Very Small 4.6 9.0
Jan ‘80 – Jul ’80 72.838 Less than
5%
6.3 7.8
Jul ‘81 – Nov ’82 17 7.2 10.8
Jul ‘90 – Mar ’91 9 1.621 10% 5.2 7.8
Mar ‘01 – Nov ’01 9 2.605 30% 4.2 5.6
Current (Dec ’07 – Sep ’09) 21 8.677 40% 4.5 10.1
Characteristics of Modern RecessionsCharacteristics of Modern Recessions
Source: EFC Calculations
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Total Drop in EmploymentTotal Drop in Employment
(%)
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What Creates Jobs?
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200920072005200320011999199719951993199119891987198519831981
5.0
4.5
4.0
3.5
3.0
2.5
2.0
(%)
Investment in Tech Equipment andSoftware as a % of GDP
Golden 90’sJob Growth:240K/Month
2003-2007Job Growth:132K/Month
12%
6%
-15%
2008-2009Job Growth:-400/Month
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CEO Mindset in 2010
Downturn gives Yahoo reason for revamping.
Carol BartzYahoo
Union Pacific idles cars and workers but sees some strength.
James YoungUnion Pacific
Darden runs lean, keep pricing firm at restaurant chains.
Clarence OtisDarden Restaurants
Potential taxes, new regulations worry Devon Energy.
Larry NicholsDevon Energy
Source: The Wall Street Journal, December 28, 2009
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IVIIIVIIIVIIIVIIIVIIIVIIIVIIIVIIIVIIIVIIIVII20092008200720062005200420032002200120001999
70
60
50
40
30
20
10
0
-10
-20
-30
(%, Y-O-Y)
Chief Executive Confidence & Durable Goods OrdersExpectations of Business Conditions in Own Industry 6 Months Ahead
CEO Confidence (Left) Durable Goods Orders Growth (Right)
JANOCTJULAPRJANOCTJULAPRJANOCTJULAPRJANOCTJULAPRJAN20102009200820072006
120
100
80
60
40
20
16000
14000
12000
10000
8000
6000
(Index 1966 = 100)Consumer Confidence and Stock Market Wealth
Consumer Confidence (Left) Wilshire 5000 (Right)
FEBOCTJUNFEBOCTJUNFEBOCTJUNFEBOCTJUNFEBOCTJUNFEBOCTJUNFEB2010200920082007200620052004
7
6
5
4
3
2
1
(%)Yield Spread Between Treasury and Corporate Bonds
Baa - 10 Year T-Bond
200920072005200320011999199719951993
10
8
6
4
2
0
(%)Personal Savings Rate
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Excl. Big Oil
(‘000 Jobs)(%, Y-O-Y)
DOW 30 Revenues and Job GainsDOW 30 Revenues and Job Gains
Excl. BOA & Chase
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20122011201020092008200720062005
105
100
95
90
85
80
75
(Index 2007q4 = 100)Investment in Equipment & Software
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Chapter 26
Saving, Investment
and the Financial System
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Savings And National Income Math GDP (as the sum of expenditures) has been defined as:
Y = C + I + G + NX In a closed economy:
Y = C + I + G
Rearranging terms gives: Y - C - G = I
The left-hand side, which is the nation's income (GDP) leftover after consumption and government spending, is defined as National Savings. Since Y - C - G is defined as being equal to "S":
S = I
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Continued..
This relationship must hold for the economy as a whole (when the economy is closed). Now, with
S = Y - C - G
Add and subtract the government's tax revenue (T) to the right-hand side
S = Y - C - G + T - T
Then rearrange terms on the right hand side to get S = (Y - T - C) + (T - G)
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Continued.. This expression breaks down national savings into
two components: private savings and public savings.
Private savings (Y - T - C) is the income left in the economy after taxes and consumption have each been paid for.
Public savings (T - G) is equal to the taxes collected by the government, minus government spending. This is also an expression for the government surplus/deficit (surplus if T > G, deficit if T < G).
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Market For Loanable Funds
Loanable Funds(in billions of dollars)
0
InterestRate Supply
Demand
5%
$1,200
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Increase in Supply of Loanable Funds
Loanable Funds(in billions of dollars)
0
InterestRate
Supply, S1 S2
2. . . . whichreduces theequilibriuminterest rate . . .
3. . . . and raises the equilibriumquantity of loanable funds.
Demand
1. Tax incentives forsaving increase thesupply of loanablefunds . . .
5%
$1,200
4%
$1,600
Policy 1: Saving IncentivesPolicy 1: Saving Incentives
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Increase in Demand of Loanable Funds
Loanable Funds(in billions of dollars)
0
InterestRate
1. An investmenttax creditincreases thedemand for loanable funds . . .
2. . . . whichraises theequilibriuminterest rate . . .
3. . . . and raises the equilibriumquantity of loanable funds.
Supply
Demand, D1
D2
5%
$1,200
6%
$1,400
Policy 2: Investment IncentivesPolicy 2: Investment Incentives
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Effect Of A Government Budget Deficit
Loanable Funds(in billions of dollars)
0
InterestRate
3. . . . and reduces the equilibriumquantity of loanable funds.
S2
2. . . . whichraises theequilibriuminterest rate . . .
Supply, S1
Demand
$1,200
5%
$800
6% 1. A budget deficitdecreases thesupply of loanablefunds . . .
Policy 3: Budget DeficitPolicy 3: Budget Deficit
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The U.S. Government DebtThe U.S. Government Debt
Copyright©2004 South-Western
0%
20%
40%
60%
80%
100%
120%
1790 1810 1830 1850 1870 1890 1910 1930 1950 1970 1990 2010
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20112006200119961991198619811976197119661961
3
0
-3
-6
-9
-12
(%)Federal Deficit as a % of GDP
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Fiscal Deficits (% of GDP) Public Debt (% of GDP)2009 2010e 2014e 2010e 2014e
Australia -4.3 -5.3 -1.1 23 28China -3.9 -3.9 -0.8 22 20France -8.3 -8.6 -5.2 85 96Germany -4.2 -4.6 0 85 89India -10.4 -10 -5.7 86 79Italy -5.6 -5.6 -5.3 120 129Japan -10.5 -10.2 -8 227 246U.K. -11.6 -13.2 -6.8 82 98U.S. -12.5 -10 -6.7 94 108G-20 -7.9 -6.9 -3.7 80 86Advanced -9.7 -8.7 -5.3 107 118Emerging -5.1 -4.1 -1.3 40 36
Fiscal Deficits and Public DebtFiscal Deficits and Public Debt
Source: PIMCO, Investment Outlook, January 2010
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Source: PIMCO Investment Outlook, February 2010
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A Modern Day
Fairy Tale
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0908070605040302010099989796959493929190
150
100
50
0
-50
-100
($. Bil)Net Foreign Purchases of U.S. Financial Instruments
T-Bonds
Corp. Bonds
Stocks
Agency
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0908070605040302010099989796959493929190
120
100
80
60
40
20
0
-20
($. Bil)China's Gross Purchases of U.S. Treasury Bonds
Source: U.S. Department of Treasury
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Chapter 24
Measuring the Cost of Living
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Consumer Price Index & Inflation Inflation refers to a situation in which the
economy’s overall price level is rising.
The inflation rate is the percentage change in the price level from the previous period.
The Consumer Price Index (CPI) is a measure of the overall cost of goods and services bought by a typical consumer (produced by BLS).
Inflation rate is change in CPI.
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Steps to Calculate CPI Index Fix the Basket: Determine what prices are most important
to the typical consumer. – The Bureau of Labor Statistics (BLS) identifies a market basket of
goods and services the typical consumer buys.
– The BLS conducts monthly consumer surveys to set the weights for the prices of those goods and services.
Find the Prices: Find the prices of each of the goods and services in the basket for each point in time.
Compute the Basket's Cost: Use the data on prices to calculate the cost of the basket of goods and services at different times.
Choose a Base Year and Compute the Index:
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Steps to Calculate CPI Index
Choose a Base Year and Compute the Choose a Base Year and Compute the Index:Index: – Designate one year as the base year, making it
the benchmark against which other years are compared.
– Compute the index by dividing the price of the basket in one year by the price in the base year and multiplying by 100.
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How the Inflation Rate Is Calculated
The Inflation Rate– The inflation rate is calculated as follows:
In fla tio n R ate in Y ear 2 =C P I in Y ea r 2 - C P I in Y ea r 1
C P I in Y ea r 1 1 0 0
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Calculating the CPI and the Inflation Rate: An ExampleStep 1: Survey consumers to determine a fixed basket of goods
Basket = 4 hot dogs, 2 hamburgers
Step 2: Find the price of each good in each year
Year Price of hot dogs Price of hamburgers
200820092010
$123
$234
Step 3: Compute the cost of the basket of goods in each year
200820092010
($1 per hot dog × 4 hot dogs) + ($2 per hamburger × 2 hamburgers) = $8 per basket($2 per hot dog × 4 hot dogs) + ($3 per hamburger × 2 hamburgers) = $14 per basket($3 per hot dog × 4 hot dogs) + ($4 per hamburger × 2 hamburgers) = $20 per basket
Step 4: Choose one year as a base year (2008) and compute the CPI in each year
200820092010
($8 / $8) × 100 = 100($14 / $8) × 100 = 175($20 / $8) × 100 = 250
Step 5: Use the consumer price index to compute the inflation rate from previous year
20092010
(175 – 100) / 100 × 100 = 75%(250 – 175) / 175 × 100 = 43%
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Another Example of CPI and Inflation Calculations
Calculating the Consumer Price Index and the Inflation Rate:
– Base Year is 2002.
– Basket of goods in 2002 costs $1,200.
– The same basket in 2003 costs $1,236.
– CPI = ($1,236/$1,200) 100 = 103.
– Prices increased 3 percent between 2002 and 2003.
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FYI: What Is in the CPI’s Basket?
17%Transportation
15%Food and beverages
Medical care
6%
Recreation
6%
Apparel
4%
Other goodsand services
3%
43%Housing
6%Education and communication
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The GDP Deflator vs. CPI
The BLS calculates other prices indexes:
– The index for different regions within the country.
– The producer price index, which measures the cost of a basket of goods and services bought by firms rather than consumers.
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CPI and GDP Deflator
-5
0
5
10
15
1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005
Percent per Year
CPI GDP deflator
-5
0
5
10
15
1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005
Percent per Year
CPI GDP deflator
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20122009200620032000199719941991198819851982197919761973
15
10
5
0
-5
(% smoothed)CPI Inflation and Recessions
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200920082007200620052004200320022001200019991998199719961995
4
2
0
-2
-4
-6
-8
-10
(% from a year ago)Japan - GDP Growth and Deflator
Real GDP Nominal GDP GDP Deflator
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Problems in Measuring CPI
Substitution bias Introduction of new goods Unmeasured quality changes
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Use of Price Indexes Price indexes are used to correct for the effects of inflation
when comparing dollar figures from different times. Do the following to convert (inflate) Babe Ruth’s wages in
1931 to dollars in 2005:
Do the following to convert (inflate) Babe Ruth’s wages in 1931 to dollars in 2005:
Salary SalaryPrice level in 2005Price level in 19312005 1931
$80,.
$
000195152
1,026,316
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The Most Popular Movies of All Times, Inflation Adjusted
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Real and Nominal Interest Rates
The nominal interest rate is the interest rate usually reported and not corrected for inflation. – This is the interest rate that a bank pays.
The real interest rate is the nominal interest rate that is corrected for the effects of inflation.
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Real and Nominal Interest Rates
You borrow $1,000 for one year.
Nominal interest rate is 15%.
During the year inflation is 10%.Real interest rate = Nominal interest rate – Inflation
= 15% - 10% = 5%
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Real and Nominal Interest Rates
-10
-5
0
5
10
15
1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005
Inte
rest
Rat
es
(per
cen
t p
er y
ear)
Nominal interest rate Real interest rate
-10
-5
0
5
10
15
1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005
Inte
rest
Rat
es
(per
cen
t p
er y
ear)
Nominal interest rate Real interest rate