Macroeconomic Principles: GDP, Inflation, and Economic Indicators

Posted on Aug 3, 2025 in Economy

Macroeconomics: Understanding the Wider Economy

Macroeconomics deals with the wider economy, focusing on key areas:

Key Macroeconomic Concerns

  • Employment: Why does unemployment reduce production and employment, and how can unemployment be reduced?
  • Prices: What are the causes of the rise in general prices (inflation)? How can inflation be controlled?
  • Production: How can a country’s economic growth be increased?

Essential Economic Indicators

  • Production: Gross Domestic Product (GDP) measures the total output of goods and services.
  • Prices: The Consumer Price Index (CPI) indicates the evolution of prices and whether inflation is present.
  • Employment: Employment and unemployment rates indicate a country’s level of labor force utilization.

Benefits of Economic Stability

If Inflation is Under Control:

  • Pensions do not lose purchasing power.
  • Families can more easily make ends meet.
  • Companies do not need to worry about fluctuations in the prices of production factors.

If the Unemployment Rate Decreases:

  • Families’ incomes will increase.
  • Consumption will grow.
  • The government will pay less in unemployment benefits, allowing these funds to be allocated to other matters.

If There is Economic Growth:

  • Production of goods and services will increase, boosting company profits.
  • The government will collect more taxes.
  • Families will have more disposable income, leading to a higher quality of life and well-being.

Production: Gross Domestic Product (GDP)

GDP is the monetary value of all final goods and services produced by a country in one year.

Characteristics of GDP

  • Follows a monetary pattern, grouping all goods and services.
  • Only accounts for declared activities.
  • Refers only to the value of final goods.
  • Measures the value that occurs within the borders of a country.
  • Refers to what occurs during a certain period, usually one year.

Methods of Calculating GDP

1. Expenditure Method

GDP_pm = Household Consumption + Business Investment + Government Spending + (Exports - Imports)

2. Value Added Method

GDP_cf = VAA + VAB + VAC + ... + VAZ (Sum of Value Added at each stage of production)

3. Income Method

GDP_cf = Salaries + Benefits + Rent + Business Interest + Grants

Difference Between Nominal and Real GDP

The price of a good or service varies over time. The procedure of converting nominal GDP values to real values is called deflation. Deflation eliminates the effect of inflation on a magnitude or value, providing a more accurate measure of economic output.

Limitations of GDP

  • Does not include the underground economy.
  • Does not include unremunerated activities (e.g., housework, volunteer work).
  • Does not account for externalities (e.g., environmental damage).
  • Does not measure the quantity of goods and services produced, only their monetary value.
  • Does not measure the distribution of wealth.

National Accounts

National Accounts are a set of indicators that record and report on various economic activities undertaken within a country during a given period.

The Average Level of Prices: Inflation

Inflation is a widespread and continuous growth of prices in an economy.

Causes of Inflation

Demand-Pull Inflation

Occurs when aggregate demand outpaces aggregate supply, driven by:

  • Increased spending by companies.
  • Increased spending by the public sector (government).
  • Increased spending by families (consumers).

Cost-Push Inflation (5 Theories)

Occurs when the costs of production increase, leading to higher prices. Theories include:

  • Increased costs of natural resources.
  • The wage-price spiral (wages rise, leading to higher prices, which then lead to demands for higher wages).
  • Increased market power of firms (allowing them to raise prices).
  • Changes in interest rates affecting borrowing costs.

Consequences of Inflation

  • Loss of purchasing power for money.
  • Damaging to certain groups:
    • Pensioners (fixed incomes lose value).
    • Workers (wages may not keep pace).
    • Savers (value of savings erodes).
    • Exporters of domestic products (products become more expensive abroad).
  • Beneficial to certain groups:
    • Debtors (real value of debt decreases).
    • The State (debt burden may lessen).
    • Foreign companies importing products (their products become relatively cheaper).
  • Increased economic uncertainty and insecurity.

Measuring Inflation

The INE Shopping Basket

The INE (National Statistics Institute) Shopping Basket is a selection of representative products for various basic consumer groups, used to track price changes.

Consumer Price Index (CPI)

The CPI is a weighted measure of prices that represents the typical consumption of an average family. It determines the general price level by considering only the prices of goods and services purchased directly by consumers.

CPI Categories (Examples)

  1. Food, Soft Drinks, Alcoholic Beverages, and Tobacco
  2. Clothing and Footwear
  3. Housing
  4. Household Goods
  5. Medicine
  6. Transport
  7. Communications
  8. Leisure and Culture
  9. Education
  10. Hotels, Cafes, and Restaurants
  11. Other Goods and Services

Calculation of the CPI

  1. A list of frequently consumed goods and services is created.
  2. Average market prices of selected goods and services are determined for the current period (P1, P2…).
  3. A reference period (Year 0) for prices is established (P1_0, P2_0…).
  4. Families are surveyed on the average percentage of income allocated to each item in the basket (g1, g2…).
  5. The CPI is calculated using the formula:

    CPI = (g1 * (P1/P1_0) + g2 * (P2/P2_0) + ...) * 100

The Inflation Rate

The inflation rate is the percentage variation in the CPI for a given period, indicating how quickly prices are rising.

Inflation Rate = ((CPI_Current - CPI_Previous) / CPI_Previous) * 100