The document discusses key macroeconomic indicators used to measure aggregate economic activity. It defines GDP as the value of final goods and services produced, and distinguishes between nominal GDP (current prices) and real GDP (constant prices). Real GDP growth indicates expansion while negative growth indicates recession. Unemployment rate is defined as unemployed persons as a percentage of the labor force. Inflation rate is defined as the sustained rise in the aggregate price level. Both CPI and GDP deflator are used to measure inflation. The level of aggregate output is determined by demand in the short run, technology and capital/labor in the medium run, and factors like education and R&D in the long run.

1.
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Aggregate Output, Unemployment, and Inflation Rate
2.1 Aggregate Output
• Aggregate economic activity is measured by national income and product accounts.
• GDP (Gross Domestic Product) is a representative measure of aggregate output. There are
three different ways to measure it.
Definition #1: GDP is the value of the final goods and services produced in the economy
during a given period
Steel company (firm 1) Car company (firm 2)
Revenues $100 Revenues $200
Expenses (wages) $80 Expenses (wages and steel purchases) $170
Profit $20 Profit $30
GDP = ?

2.
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Definition #2: GDP is the sum of value added in the economy during a given period,
where value added by a firm = value of its production – value of intermediate goods used
GDP = ?
Definition #3: GDP is the sum of incomes in the economy during a given period
GDP = ?
• Nominal GDP and Real GDP
1) Nominal GDP (NGDP): the sum of the quantities of final goods produced times their
current prices
𝑁𝐺𝐷𝑃 $𝑌 ∑ 𝑃 𝑄

3.
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2) Real GDP (RGDP): the sum of the quantities of final goods times constant (fixed) prices
𝑅𝐺𝐷𝑃 𝑌 ∑ 𝑃 𝑄 where 𝑃 price level of base year
3) Understanding the difference between NGDP and RGDP

4.
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• U.S. GDP, 1960-2014
• From 1960-2014, NGDP increased by a factor of 32, while RGDP increased by a factor of
about 5. Why there is a considerable gap between NGDP and RGDP?

5.
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• GDP: Level vs. Growth rate
1) RGDP per capita measures the average standard of living of the country:
RGDP per capita
RGDP
Total Population
2) In order to assess the performance of the economy from year to year, economists look at
the rate of growth of RGDP (also called GDP growth) that is defined as
GDP growth
𝑌 𝑌
𝑌
3) Expansion: periods of (+) GDP growth
Recession: periods of (-) GDP growth

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• U.S. RGDP Growth Rate (chained 2005 dollars; inflation-adjusted) from 1934 to 2012
• What does a negative growth indicate?

7.
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2.2 The Other Major Macroeconomic Variables
1. The Unemployment Rate
• Labor force (L) = Employment (N) + Unemployment (U)
- Unemployment is the number of people who do not have a job but are looking for one.
• Definition of unemployment rate (u):
𝑢
𝑈
𝐿
100
• People without jobs who give up looking for a work are known as discouraged workers and
counted as not in the labor force.
• Typically, a higher unemployment rate is associated with a lower participation rate, where
Participation rate
Labor force
Population of working age

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• U.S. Unemployment Rate, 1960-2014
• Why do we care about unemployment?
1) Direct effects on the welfare of the unemployed
2) A signal that the economy may not be using some of its resources efficiently

9.
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2. The Inflation Rate
• Definition: a sustained rise in the aggregate price level P
Inflation rate
𝑃 𝑃
𝑃
100
Inflation rate > 0 ⇒ ‘inflation’;
Inflation rate < 0 ⇒ ‘deflation’
• How do we measure the price level 𝑃 ?
- Either by the GDP deflator or by the Consumer Price Index (CPI)
- GDP deflator measures the average price of domestic output, while CPI measures the
average price of consumption for both home and foreign goods.
- Although the two inflation rates differ by less than 1% in most years, typical households
care more about changes in the CPI rather than changes in the GDP deflator.

10.
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• U.S. Inflation Rate, 1960-2014 using the CPI and the GDP deflator

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• Why do we care about inflation?
1) Inflation game ⇒ Inflation affects income distribution!
2) Inflation creates distortions:
i) Investment uncertainty
ii) Taxation
2.3 The Short Run, the Medium Run, the Long Run
• The level of aggregate output in an economy is determined by:
- what we demand in the short run, say, a few years,
- the level of technology, the capital stock, and the labor force in the medium run, say, a
decade or so,
- factors such as the education system, R&D, the saving rate, and the role of the government
in the long run, say, a half century or longer.