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Business Cycle

Alternating periods of economic expansion and economic recession


Low point of the business cycle


High point of the business cycle


The period of a business cycle during which total production and total employment are increasing


The period of a business cycle during which total production and total employment are decreasing

Potential GDP

The average GDP over a long period of time - level of real GDP attained when all firms are producing at capacity


The market value of all final goods and services produced in a country during a period of time - measures the well-being economy

Transfer Payment

A payment by the government where they get no good or service in return (ex. unemployment check - not counted towards GDP)

Components of GDP

Consumption, Investment, Government Purchases, and Net Exports


Spending by households on goods and services but not including spending on new homes

Autonomous Consumption

Consumption that takes place no matter what your income is ( ex. food)

Marginal Propensity to Consume (MPC)

The percentage of additional disposable income you consume (between 0 and 1)

Disposable Income

Income - taxes


Spending by firms on new factories, office buildings, machinery, and additions to inventory. Also included is spending by households on new houses

Exogenous Variable

A variable determined "outside of the model"

Interest Rate

The cost of money

Government Purchases

Spending by federal, state, and local governments on goods and services

Net Exports

Exports - Imports

Closed Economy

An economy without trade

GDP Equation

Y = C + I + G + NX

Nominal GDP

The value of all final goods and services when evaluated using the current year prices

Real GDP

The value of all final goods and services when evaluated using base year (one year) prices

GDP Deflator

(Nominal GDP / Real GDP) X 100

Working-Age Population

The portion of the population that is 16 years of age or older

Labor Force

The sum of the employed and unemployed workers in the economy

Labor Force Participation Rate

(Labor Force / Working-Age Population) X 100


The # of people who are willing and able to work but are not working

Unemployment Rate

(Number of Unemployed / Labor Force) X 100

Discouraged Workers

People who are available for work but have not looked for a job during the previous 4 weeks because they believe no jobs are available for them

Frictional Unemployment

Short-term unemployment that arises from the process of matching workers with jobs (in between jobs)

Structural Unemployment

Unemployment arising from a persistent mismatch between the skills and attributes of workers and the requirements of the job (have to learn new skills)

Cyclical Unemployment

Unemployment caused by a business cycle recession

Natural Rate of Unemployment

When unemployment consists of only frictional and structural unemployment

Why We Have Unemployment

Unemployment Insurance, minimum wage laws, and efficiency wages

Efficiency Wages

When individuals get paid a wage above what they are "worth"

Price Level

A measure of the average prices in an economy

Inflation Rate

The percentage increases in price level

Consumer Price Index (CPI)

Average of the prices of the goods and services purchased by the typical urban family of four

CPI Equation

(Expenditures in Current Year / Expenditures in the Base Year) X 100

4 Biases of CPI

Substitution Bias, Increase in quality bias, new product bias, and outlet bias

Value in X Dollars

(Value in Y Dollars) X (CPI in X) / (CPI in Y)

Long-Run Economic Growth

The process by which rising productivity increases the average standard of living

Labor Productivity

The quantity of goods and services that can be produced by one worker (or by one hour of work)

Ways to Increase Labor Productivity

Increase in capital per hour worker and/or technological change

Financial Markets

Markets where financial securities (stock, bonds) are bought and sold

Key Services Financial Markets Provide

Risk, Liquidity, and Information


Y + TR - C - T


T - TR - G

Finding G

I = Sprivate + Spublic

Market for Loanable Funds

Interactions of borrowers and lenders that determines the market interest rate and the quantity of loanable funds exchanged

Supply of Loanable Funds Depends On

Households willingness to save and the extent of government savings

Demand of Loanable Funds Depends On

Willingness of firms to borrow to finance projects

Reasons for Separation of Rich and Poor

Environment, Type of Government, Wars and Revolutions, Low Rates of Saving

Promoting Growth

Enhance Property Rights, Improve health and education, Promote Technological Change, Promote Savings and Investment

Technological Change

Change in the quantity of output without a change in inputs (# of machines)

Human Capital

Accumulated knowledge and skills that workers acquire from education, training, and experience

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