TASK :                       TRIMESTER 1, 2016

BUS700 MACROECONOMICS: INDIVIDUAL ASSIGNMENT

Question 1 [6 marks]                          Word Limit: 500 words

 

Table 1: GDP Data for Countries A and B

	Country A   $billions	Country B   $billions
Household Consumption	150	150
Government Purchases	250	250
Transfer payments	50	60
Total Gross Fixed Capital Expenditures	50	150
Change in Inventories	50	-50
Exports	40	40
Imports	20	20

 

Consider the data in table 1 for two countries: A and B. a. Calculate the GDP for both countries.

b. Discuss the usefulness of these data in deciding which, if any, of these two countries is likely to be experiencing an economic recession.

Question 2 [12 marks]                        Word Limit: 1000 words

Obtain Australia’s real GDP and CPI data from 1980 to 2015. Calculate the annual growth rates of real GDP and inflation and graph both series together. Is/are there some interesting or salient relationship(s) between those two series? Provide and discuss plausible economic explanation(s), including change in economic events and change in government policy, for the relationship(s) you identified.

Question 3 [12 marks]                        Word Limit: 1000 words

Economics Assignment

Name of Student

Name of the University

Author’s Note

Table of Contents

Answer to Question 1. 2

Answer to Question 2. 5

Answer to Question 3. 11

References. 16

Answer to Question 1

Table 1:  Data for country A and B

	Country A ( Billion $)	Country B ( Billion $)
Household Consumption	150	150
Government Purchases	250	250
Transfer Payments	50	60
Total Gross Fixed Capital Expenditures	50	150
Change in Inventories	50	-50
Exports	40	40
Imports	20	20

 

a)      The Gross Domestic Product is the primary indicator that measure well being or strength of the economy in terms of total production. It is a measure of aggregate final goods and services produced in a country for final consumption. Investment; Government expenditure; consumption and trade balance are the components of Gross Domestic product.

Among the above components, transfer payment will not be considered while calculating the Gross Domestic Product. The one-way transfers of money that involves no exchange of goods and services; do not create any value to the nation’s production. The gross fixed capital expenditure is the component of investment. However, the inventory is the difference between production and actual sales. When the gap is positive, it implies investment has been made for inventory. Hence, changes in inventories are considered as an element of the investment.

GDP = Government Expenditure (G) + Investment (I) + Consumption (C) + [Export (X) – Import (M)].

 

GDP for Country A = Government Purchases + Inventories + Total Gross Fixed Capital Expenditure + Household Consumption + (Export – Import) → GDPA= 250 + 50 + 50 + 150 + (40-20)] Billion Dollars → GDPA= 520 Billion Dollars

 

GDP for Country B = Government Purchases + Inventories + Total Gross Fixed Capital Expenditure + Household Consumption + (Export – Import) → GDPB= 250 – 50 + 150 + 150 + (40-20)] Billion Dollars → GDPB= 520 Billion Dollars

 

b)      From the given data in Table 1, it has been found that the GDP of these two countries are same. By observing the data, it can be said that the values of each components, except investment variables, are same. Since the GDP value is same for both countries, it is not possible to distinguish the future growth of the country. It cannot be said which country’s condition is better and whose not. However, the components of investment are different in both the countries. Hence, by comparing these two, the scenario of each country can be analyzed. Gross Fixed Capital Expenditure includes the changes in net physical assets. It excludes exchange of lands but takes into account, the improved land whose value has been augmented. When the fixed capital expenditure increases, it implies that the country is investing more in fixed capital expenditure as it is sufficient to do so. In the given case, the gross fixed capital expenditure is more in country B than A. Hence, economic condition is better in B. Again when the inventory is increasing, it implies that produced goods are not sold. This also indicates lack of demand and supplier will reduce its production. As the production falls due to lack of demand, it signifies possibility of recession in that nation. In the given case, the inventory is accumulating country A and clearing in B. therefore, it can be said that country B is in better position. Combining the scenario, it can be said that country A is expected to face recessionary phase in the near future.

Answer to Question 2.

Australia’s Real GDP at constant 2005 US Dollar has been collected for the period of 1980 to 2015. From this data, real GDP can be calculated in the following way.

The Real GDP and calculated real GDP Growth Rate of Australia are given in the following table.

Table 2: Real GDP and Growth Rate

Year	Real GDP (Constant 2005 $US)	Real GDP Growth Rate
1980	305,649,174,623	–
1981	315,913,311,664	3.36
1982	326,405,727,600	3.32
1983	319,124,920,882	-2.23
1984	333,891,256,176	4.63
1985	351,418,812,598	5.25
1986	365,832,353,236	4.10
1987	375,250,680,515	2.57
1988	396,899,035,562	5.77
1989	412,293,558,478	3.88
1990	426,843,954,277	3.53
1991	425,222,444,977	-0.38
1992	426,919,112,438	0.40
1993	444,252,603,756	4.06
1994	462,191,286,542	4.04
1995	480,119,873,455	3.88
1996	499,080,482,890	3.95
1997	518,780,895,427	3.95
1998	541,805,654,425	4.44
1999	568,934,385,594	5.01
2000	590,944,509,406	3.87
2001	602,346,114,749	1.93
2002	625,576,717,369	3.86
2003	644,786,919,208	3.07
2004	671,541,542,213	4.15
2005	693,075,477,372	3.21
2006	713,749,019,841	2.98
2007	740,569,266,017	3.76
2008	768,019,943,343	3.71
2009	781,995,435,291	1.82
2010	797,777,527,534	2.02
2011	816,761,133,123	2.38
2012	846,431,780,635	3.63
2013	867,085,131,359	2.44
2014	888,760,969,615	2.50

Source: Databank.worldbank.org 2016

The growth rate of this country changed over the period. In 1983 and 1991, there was a fall in the value of real GDP and hence growth rate has negative value. In spite of having positive rate of growth, the rate was considerably lower in the period of 1992; 2001 and 2009. The slow rate of growth takes place because of the recessionary phase of the country.

Australia’s Consumer Price Index has been collected for the period of 1980 to 2015. From this data, the inflation rate of the country can be calculated in the following way.

 

The Consumer Price Index and calculated inflation rate of Australia are given in the following table.

Table 3: CPI and Inflation

Year	CPI (Base Year: 2012)	Inflation Rate
1980	25.4	–
1981	27.8	9.45
1982	30.8	10.79
1983	34.3	11.36
1984	36.3	5.83
1985	37.9	4.41
1986	41.4	9.23
1987	45.3	9.42
1988	48.4	6.84
1989	51.7	6.82
1990	56.2	8.70
1991	58.9	4.80
1992	59.9	1.70
1993	60.6	1.17
1994	61.5	1.49
1995	63.8	3.74
1996	66.2	3.76
1997	67.1	1.36
1998	67	-0.15
1999	67.8	1.19
2000	69.7	2.80
2001	73.9	6.03
2002	76.1	2.98
2003	78.6	3.29
2004	80.2	2.04
2005	82.1	2.37
2006	84.5	2.92
2007	86.6	2.49
2008	90.3	4.27
2009	92.5	2.44
2010	95.2	2.92
2011	98.3	3.26
2012	99.9	1.63
2013	102.4	2.50
2014	105.4	2.93

Source: Abs.gov.au 2016

                The rate of inflation in Australia was terrifically higher during the early 1980s, which was amounted to more than 10%. However, in the following year the inflation rate has been jumped down to below 6% and even below 5% in 1984- 85. In early 1980s, this country was deregulated and liberalized. However, the rate showed a decline, mounted up in 1986- 87 and 1990. The rate has again dropped in the 1991 and from 1992 to 1994, the inflation remained below 2%. During 1997 to 1999, this country again experienced rate of inflation below 2%. During 1998, the country faced negative rate of inflation, which termed as deflation. However, it overcame this scenario and this rate went above 6% in 2001. However, it must be noted that the inflation rate has repeatedly fallen in the following periods and only become higher than 4% in the period of global financial crisis, but never went back to the higher level of the initial period, since then. In the recent period, the country has been experiencing moderate rate of inflation.

By looking into the changes in the growth rate of Australia and changes in the rate of inflation over the years, relationship between these two can be identified. The movement of these two indicators has been represented in the following Figure 1.

The trend in growth rate is downward sloping and inflation rate trend is also upward sloping Therefore, the movement of these indicators is in the same direction. As the inflation rate of the country has fallen, the growth rate of the economy has also decreased. However, the fall in the growth rate is not so significant as it is almost horizontal in nature. The economic intuition behind this is that, the country’s GDP is falling de to low price level. As the producers are not getting much value for their goods and services, they are less likely to produce more. As a result of this, the aggregate production of the country has been falling over the years. However, slope of the trend cannot determine the relationship between these two indicators of the economy. For that, correlation analysis is necessary.

Table 4: Correlation Analysis

	Real GDP Growth Rate	Inflation
Real GDP Growth Rate	1
Inflation	-0.237306	1

 

From the above Table 4, it can be seen that the relationship between rate of inflation and rate of growth is negatively correlated. This indicates that as inflation rate falls the growth rate of the country tends to increase and vice-versa. Therefore, inflation hampers the growth of the economy. However, the magnitude is not so significant, which indicates that the relationship is not so significant.

The inflation rate of Australia has been kept lower by the Reserve Bank of Australia. RBA’s targeted inflation rate is 2 to 3 percent. Since, the statistical data indicates inverse relationship of between these two variables; the government tries to keep inflation at a lower rate in order to improve the growth rate of the country. The government of this country adopts supply side policy like, reducing the minimum wage, reduction in the import tariff etc. These measures will reduce the cost of production and supplier will be able to charge fewer prices for the products. This will reduce the price level and thus increasing the aggregate demand of the economy. Demand side policies like tax cut; increase in government spending can lead to fall in the rate of inflation and increased in the aggregate demand, which will in turn, will increase the growth rate of the production, i.e., growth rate of the GDP. In addition to this the RBA’s rise in the interest rate has kept the rate of inflation lower as the availability of cash is less now and less demand is to be generated, which in turn reduces the price level of the economy.

Answer to Question 3

Australia’s unemployment rate has been collected for the period of 1980 to 2015. This rate is calculated in the following manner:

 

The unemployment rate and the Real GDP Growth Rate of Australia has been represented in the following table.

Table 5: Unemployment Rate and Growth Rate

It can be noticed that unemployment rate of this country was significantly higher in the period of 1983 to 1987. In 1988, this rate was more than 8%, however, since then the rate of unemployment has fallen till 1990. The unemployment rate of this country became severe once more during the periods of 1991 to 1998. In this phase, the rates were sometimes more than 10% and sometimes more than 8 to 9%. The unemployment rate was below 7% since 2000 and fallen below 5% only in the period of 2007 and 2008. However, the unemployment rate has augmented and the rate was never lower than 5% or 6% since then.

From trend of growth rate of GDP is downward sloping and the unemployment trend of this country is downward sloping. This indicates a positive relationship between these two indicators. Since the trend of growth rate is flatter, this indicates that there is no significant change in the growth rate of the country. As GDP growth rate falls, the unemployment rate tends to fall. Hence, it is fascinating that as economy is growing less, the unemployment rate is also falling. This happens mostly when the labor market is flexible and the wage rate is flexible. Moreover, when the production declines, the companies do not lay off their number of workers engaged. In fact, they cut their cost by reducing the number of working hours of the labors (Shimer 2012). Due to labor market flexibility, the wages of labors are also flexible in nature. Therefore, the firm shrinks the wage instead of the numbers of workers already involved in the production process. Hence, the unemployment rate is not increased. An additional reason that causes decline of growth rate without rise in the unemployment rate is that, low productivity of the labors. Therefore, due to the low productivity of the labor, growth rate has decreased in Australia. The law of diminishing marginal returns can also explain the fall in productivity. As more labors are employed in the production process, the additional gain in output initially increases but eventually it tends to fall (Levine 2012). As in Australia, the growth rate has attained its level of saturation; thus, additional engagement of labors does not contribute much to the output. Therefore, there was a decline the level of production. As, more workers are associated in the production process; the employment of Australia has not gone down. The over-engagement of the workers caused decrease in the productivity of Australia, which in turn led to decrease in the growth rate of Australia, keeping employment unaffected. However, slope of the trend cannot determine the relationship between these two indicators of the economy. For that, correlation analysis is necessary.

Table 6: Correlation Analysis

From the above Table 5, it can be seen that the relationship between rate of unemployment and rate of growth is negatively correlated, indicated by the negative value of the coefficient. This indicates that as unemployment rate falls the growth rate of the country tends to increase and vice-versa. Therefore, rise in growth rate reduces the unemployment of the economy. This supports the general economic theory that states that, as real growth rate of the economy increases, the unemployment rate tends to fall. This is because, as economy grows, demand is generated. In order to fulfill the demand the firm employs more labors to increase the production. The statistical finding is contradicting the trend analysis. However, the magnitude of the correlation coefficient is not so significant, which indicates that the relationship is not so significant.

The government of Australia undertakes fiscal policies to diminish the unemployment rate. Measures like increase in government expenditure and tax cut can be used to elevate the aggregate demand. Hence, the labor demand has also increased. Hence, by expanding demand, the government improves the employment scenario of the country. Supply side instruments like creating opportunity in public sector; developing infrastructure and reducing minimum wage has been used to decline unemployment rate. In Australia, current high unemployment rate is structural in nature. The skill gap of labors has led to this kind of labor shortage, even if there is sufficient supply of labors in the economy (Janiak 2013). Therefore, the Australian government focused on providing proper education and training in order to bridge the gap between skill requirement and skill availability in the country.

References

Abs.gov.au. (2016). 6401.0 – Consumer Price Index, Australia, Mar 2016. [online] Available at: http://www.abs.gov.au/AUSSTATS/[email protected]/DetailsPage/6401.0Mar%202016?OpenDocument [Accessed 23 May 2016].

Data.worldbank.org. (2016). Unemployment, total (% of total labor force) | Data | Table. [online] Available at: http://data.worldbank.org/indicator/SL.UEM.TOTL.ZS [Accessed 23 May 2016].

Databank.worldbank.org. (2016). World Development Indicators| World DataBank. [online] Available at: http://databank.worldbank.org/data/reports.aspx?source=world-development-indicators [Accessed 23 May 2016].

Shimer, R., 2012. Reassessing the ins and outs of unemployment. Review of Economic Dynamics, 15(2), pp.127-148.

Janiak, A., 2013. Structural unemployment and the costs of firm entry and exit. Labour Economics, 23, pp.1-19.

Levine, L., 2012. Economic growth and the unemployment rate.