Macroeconomics: Understanding Economic Activity and GDP

Posted on Dec 18, 2024 in Economy

Macroeconomics: Understanding the Economy as a Whole

Macroeconomics concerns the study of the functioning of the economy as a whole. Its purpose is to obtain a simplified view of the economy, but at the same time, it allows us to understand and act on the level of economic activity in a given country. The fundamental objectives of macroeconomics are growth, employment, and price stability.

Monetary Policy Tools

Monetary policy tries to stabilize economic activity and prevent or at least offset the adverse effects of economic cycles. The central bank undertakes measures aimed at controlling the amount of money and credit conditions.

Fiscal Policy

Fiscal policy relies on the utilization of public spending and taxation. It impacts the incomes and consumption of individuals and provides incentives for saving, investment, and other economic decisions. Fiscal policy includes government decisions on the level of public spending and taxes.

Supply-Side Policy and GDP Exchange Rate Policy

The transactions between different economic agents are recorded in the accounts defined by national accounts. These accounts and related economic aggregates measure the value of the same. GDP is the monetary value of final goods and services produced for the market in a given year within the borders of a country.

Characteristics of GDP:

  • Value is expressed in monetary terms.
  • Only final goods and services produced for the market are included.
  • It does not include land, economic-financial operations, or second-hand goods.
  • Only goods semi-elaborated within a country are recorded.

GDP by Expenditure Approach

  1. Private consumption of families: This is the expenditure on goods and services made by families and includes both perishable and durable goods. It is the most important element of GDP, representing about two-thirds of the total production. It includes all goods and services that a family buys, household consumption, and expenditure on housing. It does not include second-hand goods, assets (shares and property), and the purchase of housing.
  2. Private investment in the company: National Accounts distinguishes between two categories of private investment: gross fixed capital formation (GFCF) and the variation of inventories. GFCF is formed by investment in:
    • Plant and equipment
    • Residential construction
    Private investment does not include:
    1. Public sector investment
    2. Consumer durable goods
    3. Human capital
    4. Depreciation of stock
  3. Public expenditure: Consumption of the public sector (spending on goods and services) and acquisitions of public enterprises’ investment of all money spent by the public sector are included in the GDP. This is because transfer payments are excluded. The most significant transfer payments are pensions and unemployment benefits net of contributions from employers and employees, and public debt interest.
  4. Net exports: These are the difference between exports and imports of goods and services. This is taken into account as a negative sum in the calculation of GDP.

GDP by the Cost Method

GDP using the method of factor cost is calculated by adding the factor cost of all companies in the economy: salaries and other labor income + interest, rents, and other sums from the property + indirect taxes + depreciation or amortization expenses + benefits. Production costs are equal to the cost of this production: the benefit.

Nominal GDP is measured with the existing prices when making production, while real GDP is measured with the prices available in a given year, thus eliminating the effect of inflation.

Consumer Price Index (CPI)

The CPI is a measure of aggregate prices and is calculated as a weighted average of consumer goods. The average household expenditure in each of the weighted goods is used.

How do you calculate the CPI?

Definition: The monetary flow intended to pay for certain household goods and services destined for one’s home or after their transfer, free of charge.

Excludes:

  • Goods in kind, consumption, self, bonuses, housing rentals.
  • Some taxes, sweepstakes, and temporary games of chance.

Scope:

  • Temporal: The base year is 2006, with changes every five years.
  • Population: All populations living in family homes in Spain. Excludes persons living in group homes and institutional and non-residents.

“Shopping cart”: This is the set of selected goods and services in the CPI, which includes all items representing over 0.3% of total spending. It consists of 491 items divided into 12 groups:

  1. Food and non-alcoholic beverages (176)
  2. Clothing and footwear (67)
  3. Household goods (60)
  4. Leisure and culture (43)
  5. Transport (31)
  6. Hotels, cafes, and restaurants (23)
  7. Housing (18)
  8. Medicine (13)
  9. Alcoholic beverages and tobacco (13)
  10. Education (7)
  11. Communications (3)
  12. Others (30)

The CPI “shopping cart” is used to calculate the inflation rate.

Other Important Concepts

  • Nominal GDP: Eliminates price changes in nominal GDP to calculate the value of national production.
  • Gross National Product (GNP): The difference between GDP and GNP is the net flow with the outside (Spanish production abroad minus foreign production in Spain).
  • Net National Income: Subtracts depreciation (or amortization) from the national income.
  • Personal Income and Personal Disposable Income: Removing direct taxes.