Understanding Macroeconomics: Key Concepts and Definitions
Macroeconomics focuses on the study of the economic situation nationally and internationally. The Circular Flow of Income between businesses and families creates a constant exchange of goods and services with their corresponding payments. This is known as the circular flow of income. There are two types of exchanges: a real flow, where families provide factors of production to companies, and companies produce goods and services sold to families, and a monetary flow, through which companies remunerate families for the factors of production and, in turn, receive payment for goods and services provided. We can see the money flowing through the circuit in two directions: from businesses to families and back to businesses. The National Product of all goods and services produced by firms in a country is known as the national product.
Measurement and Components: GDP is the value of all final goods and services that firms produce in a country over a period of time, generally a year. GNP can be obtained in two ways:
- By measuring the effective production of final goods and services.
- By accounting for the economic activities of agents.
a) From the Production Perspective: The national product can be calculated by adding the cash value of all final goods and services produced by companies in the country for a year, or by adding the value generated at each stage of production.
- NP is measured in units of currency.
- The PN does not include activities that are made in the black market.
b) From the Expenditure Perspective: The PN of a country can also be obtained by adding the expenditures of all economic agents, as a consequence of the goods and services that companies can produce, which have four destinations:
- Private consumption
- Investment
- Public consumption
- Exports and imports
PN = C + I + CP + XM.
Aggregate Supply and Macroeconomic Equilibrium: The total Macroeconomic Equilibrium of goods and services that firms in a country are willing to produce and sell at a given time period is referred to as aggregate supply. Ideally, the national economy should achieve equilibrium, a situation where productive capacity meets aggregate demand. Macroeconomic equilibrium occurs if, at a given level, the aggregate supply satisfies the price for producers and consumers.
Nominal and Real Magnitudes: To understand macroeconomic magnitudes, we need to know if they are given in nominal terms (current €) or real terms (constant €). To calculate the nominal product in real terms, we need to know the actual variation in the physical production of goods and services. If only the manufacturing was calculated in nominal terms, the information would be distorted. One might think there has been a great increase in production in the last year, but the value increases may be due to rising prices of goods produced and not to an increase in units produced.
Main Macroeconomic Indicators:
- PN considers the production of assets and services that a country generates, both domestically and abroad.
- Raw Domestic Product includes items manufactured within a nation, both by domestic companies and foreign companies.
- It analyzes the overall national income generated by the factors of national production.
Disposable Income: This indicates the portion of national income available to citizens after payment of income tax and contributions to social security. Per Capita Income: This indicates the average income for each inhabitant.
NNP, GNP, and GDP: The national product is calculated without taking into account the depreciation suffered by the assets of companies in the country. In contrast, NNP accounts for the loss of value of these goods.
- GDP = Private Consumption + Gross Investment + Government Consumption + Exports – Imports
- NNP = Private Consumption + Government Consumption + Investment + Net Exports – Imports
Net Investment: This is obtained by subtracting the depreciation of assets from gross investment. Gross Domestic Product (GDP): This is the value of all goods and services produced within a country, both by foreign and domestic factors.
- PIN = C + I + CP + XM
- GDP = GNP + RED – RNF, where RED = income generated by foreign residents and RNF = income generated by domestic factors outside the country.
National Income: If we analyze the money raised from the production of goods and services, we see that it is earmarked to compensate workers involved in production (wages and salaries), and other parts are devoted to pay for raw materials used (nature factor revenues), to finance facilities and machinery renewal (interest), and to distribute profits to employers (capital gains). RN = Wage and Salary Income + Land + Interest + Business Profits. The national income equals net PN calculated according to the cost factors.