2. The total market value of all final goods and services produced in a
country in a given year, equal to total consumer, investment and
government spending, plus the value of exports, minus the value of
imports.
It is important to differentiate Gross Domestic Product from Gross
National Product (GNP). GDP includes only goods and services
produced within the geographic boundaries of the India., regardless
of the producer's nationality. GNP doesn't include goods and services
produced by foreign producers, but does include goods and services
produced by Indian firms operating in foreign countries.
GROSS DOMESTIC PRODUCT AND
GROSS NATIONAL PRODUCT
3.
4.
5.
6. Inflation
• The rate at which the general level of prices for goods
and services is rising, and, subsequently, purchasing
power is falling. Central banks attempt to stop severe
inflation, along with severe deflation, in an attempt to
keep the excessive growth of prices to a minimum.
• As inflation rises, every dollar will buy a smaller
percentage of a good. For example, if the inflation rate
is 2%, then a $1 pack of gum will cost $1.02 in a year.
7. Rate of Interest
• The interest rate is the yearly price charged by a lender to a
borrower in order for the borrower to obtain a loan. This is
usually expressed as a percentage of the total amount
loaned.
• An interest rate that has been adjusted to remove the
effects of inflation to reflect the real cost of funds to the
borrower, and the real yield to the lender. The real interest
rate of an investment is calculated as the amount by which
the nominal interest rate is higher than the inflation rate.
Real Interest Rate = Nominal Interest Rate - Inflation
(Expected or Actual)
8. Real Rate of Interest
• The real interest rate is the growth rate of purchasing
power derived from an investment. By adjusting the
nominal interest rate to compensate for inflation, you
are keeping the purchasing power of a given level of
capital constant over time.
For example, if you are earning 4% interest per year on
the savings in your bank account, and inflation is
currently 3% per year, then the real interest rate you
are receiving is 1% (4% - 3% = 1%). The real value of
your savings will only increase by 1% per year, when
purchasing power is taken into consideration.
9. Impact of Rate of Interest
• This is the major method of monetary policy used today, although
this was not always the case. The rate of interest is a return on
savings set by the national bank, meaning that if an individual saves
a sum of money in a bank, they will receive a rate of interest similar
to that set by the central bank. Because of this, a change in the rate
of interest will result several macroeconomic effects. A rise in
interest rates will:
• reduce consumption and investment, and consequently AD. This is
due to the fact that individuals and firms will be more inclined to
save wages and profits than invest or spend them, as the return on
saving per year is greater
• raise the cost of borrowing from banks, as the rate of interest on
repayments is greater. This could further reduce spending and
investment
10. Impact of Rate of Interest
• encourage foreign investment in domestic institutions and firms to
increase, as a high rate of return on savings is attractive. High
demand for the currency will raise its value (like any other product).
This would lead to an increase in the price of exports and a fall in
the price of imports, resulting in an increase in imports and fall in
exports as they are less competitive globally. This would lead to a
fall in AD ( X - M )
• The major purpose of a rise in interest rates is to 'cool down' an
economy that is overheating ie. to reduce inflationary pressure due
to high aggregate demand and no complementary increase in long
run aggregate supply.
• The exact opposite applies to a fall in interest rates. A cut in interest
rates is often used to aid economic recovery and boost consumer
demand, make exports more competitive, and encourage capital
investment by firms.
