Introduction to ECON7021
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Topic 1: Introduction to
The Macroeconomy
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Topic 1: Introduction to the Macroeconomy
• Introduction to macroeconomic modelling
• Review of key economic indicators
– GDP and economic growth
– Inflation
– Unemployment rate
Did you work through the relevant UQ Extend learning material?
Go to kahoot.it or download the Kahoot! app on your phone. Then enter
the Game PIN, which will be provided in class.
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UQ Extend: Topic 1 Survey
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Respondents as of 8 am on Monday, 19 February: 24 students
Respondents as of 3:15 pm on Monday, 19 February: 41 students
Example of an Economic Model:
Supply and Demand of New Cars
• Suppose we are interested in examining how various events will affect the
price and quantity of new cars in a particular market.
• Let us assume that the market is perfectly competitive:
‒ Many buyers and sellers, so no one has market power.
‒ All sellers sell identical products.
‒ Perfect information, etc.
• Variables:
‒ ஽: Quantity of cars that buyers demand
‒ ௌ: Quantity of cars that producers supply
‒ : Price of cars
‒ : Aggregate income of buyers
‒ ௌ: Price of steel (a key production input for cars)
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Example of an Economic Model (continued):
Demand for Cars
• Demand equation: ஽ = ,
Relationship between quantity demanded,
price and income.
• As in introductory microeconomics, the
demand curve is the relationship between
quantity demanded and price, all else being
equal (including income).
• Notice that terminology in economics is quite
specific at times.
D
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P
Price
of cars
Q
Quantity
of cars
Digression: Functional Notation
Demand equation: ஽ = (, )
• This general functional notation shows that the quantity demanded (஽) is
‒ determined by a demand function () that takes as inputs the price of cars () and aggregate
income ().
‒ Thus, it shows ஽ is related to and .
• One possible specific functional form for the demand function: , = 60 − 10 + 2
• But we need not specify a specific functional form.
‒ Because for example, we might not know the exact impact of a $1 price increase on the quantity
demanded.
‒ But so long as we expect price and output to affect quantity demanded, we can write (, ) to
indicate this.
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Example of an Economic Model (continued):
Supply of Cars
• Supply equation: ௌ = , ௌ
Relationship between quantity supplied,
price and price of steel.
• As in introductory microeconomics, the
supply curve is the relationship between
quantity supplied and price, all else being
equal (including the steel price).
Q
Quantity
of cars
P
Price
of cars S
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Example of an Economic Model (continued):
Market Equilibrium
• In our model of perfect competition, we
assume that market equilibrium is where
demand meets supply.
• That is, at the equilibrium price ∗,
஽(∗, ) = ௌ(∗, ௌ).
• Notice that the (equilibrium) market price
and market quantities ஽ and ௌ are
determined entirely within the model. Thus,
, ஽ and ௌ are endogenous variables.
• Income and the steel price ௌ are given –
determined by forces outside the model –
since the model has nothing to say about
how these are determined. Hence, and ௌ
are exogenous variables.
S
D
Equilibrium
Price
Equilibrium
Quantity
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P
Price
of cars
Q
Quantity
of cars
Example: Impact of an Increase in Income
S

ଵ
• Demand equation: ஽ = ,
Our theory supposes that an increase in income
will increase the quantity demanded, holding
prices constant.
• An increase in the exogenous variable income
( ↑) will cause the demand curve to shift right.
• Our model predicts that an increase in
(exogenous) income will cause increases in both
endogenous variables: price and quantity
(ௌ, ஽).

ଶ
ଵ ଶ
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P
Price
of cars
Q
Quantity
of cars
Use of Multiple Models
• No single model can address all the issues we care about.
• For example, our supply-demand model of the car market:
‒ can tell us how a fall in aggregate income affects the price and quantity of cars
‒ cannot tell us why aggregate income falls
• In this course, you will learn different macroeconomic models for studying different
issues such as unemployment, inflation, and long-run growth.
• For each new model introduced in this course, you should keep track of:
‒ its assumptions,
‒ which variables are endogenous and which are exogenous, and
‒ the questions it can help us understand and those it cannot.
• This is very important as you will be required to decide by yourself on the
appropriate models to employ when analysing a real-world issue. 23
Key Economic Indicators: Australia
Snapshot as of 8 February 2024
Source: Reserve Bank of Australia (RBA)
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Gross Domestic Product
Definition: Gross domestic product of an economy is the market value of all final
goods and services (G&S) produced in the economy in a given period of time.
• Market value – measured using market prices.
‒ The market value of a product is the market price of that product.
• Final good and service – purchased for use by the end-user.
‒ For example, a loaf of bread I purchased for my breakfast is a final good. However, the same loaf
purchased by a café to make sandwiches for sale is not.
• Produced in the economy
‒ Includes only domestic production – excludes imports.
• In a given period of time
‒ Excludes the sale of goods produced in previous periods.
‒ For example, the sale of a house constructed in 2021 is not included in the GDP for 2022.
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Different Approaches to Measuring GDP
GDP can be calculated in three different ways:
1. Expenditure method: Total expenditure on domestically-produced final G&S.
= + + +
2. Income method: Total income earned by domestically-located factors of production.
= +
3. Value-added (production) method: Sum of value added by all firms where value added by
firm i is ௜ = ௜ − ௜.
= ෍
௜
௜
Equivalence of methods 1 and 2:
$1 spent by a buyer (expenditure) must result in $1 of income to the seller.
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Circular Flow Example
Households Firms
1 Bread
Labour
Expenditure
($10)
Wages ($7)
Dividend = Profits = $10 - $7 =$3
Total household income
= Wages + Dividend
= $10
= Expenditure
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• We distinguish between two different types of economic variables:
stocks and flows.
• A stock is a quantity measured at a point in time.
(For example, there is $10,000 in my savings account today.)
• A flow is a quantity measured per unit of time.
(For example, I save $1,000 per month.)
• Stocks and flows are related.
‒ Stocks are often flows accumulated over time.
(For example, my savings account balance today is the
sum of my $1,000 savings per month over the
last 10 months).
Stocks vs. Flows
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Investment vs Capital
Note: Investment is spending on new capital.
Example (assuming no depreciation):
• 1/1/2021:
Economy has $30 trillion worth of capital.
• During 2021:
Investment = $3 trillion
• 1/1/2022:
Economy will have $33 trillion worth of capital.
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Real vs Nominal GDP
• Recall that GDP is the market value of all final goods and services produced
in a country.
• Nominal GDP measures these values using current prices.
(For example, nominal GDP for 2020 is calculated using prices from 2020).
‒ Increases in nominal GDP can be due to:
‒ Increases in prices (inflation) – do not contribute to better living standards.
‒ Increases in output – do contribute to better living standards.
• Real GDP measures these values using the prices of a given base year.
‒ The impact of inflation (change in the price level) has been removed when we use real
GDP.
‒ Real GDP reflects changes in the actual quantity of goods and services produced in the
economy.
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Real vs Nominal GDP
Example: Suppose 2020 is the base year.
• Nominal GDP – calculated using current prices
‒ 2020: ଶ଴ଶ଴ = ଶ଴ଶ଴ × ଶ଴ଶ଴ = $10
‒ 2021: ଶ଴ଶଵ = ଶ଴ଶଵ × ଶ଴ଶଵ = $12
• Real GDP – calculated using base year (2020) price
‒ 2020: ଶ଴ଶ଴ = ଶ଴ଶ଴ × ଶ଴ଶ଴ = $10
‒ 2021: ଶ଴ଶଵ = ଶ଴ଶ଴ × ଶ଴ଶଵ = $10
Year Price Quantity
2020 $1.00 10
2021 $1.20 10
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Real GDP Growth: Australia
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Consumer Price Index (CPI)
Construction of CPI
1. Surveys are conducted every few years to determine the market basket of
goods purchased by a typical consumer/household.
2. Price data of market basket components are collected every
month/quarter to calculate the cost of the market basket at current prices.
‒ Market basket is assumed to remain unchanged regardless of changes in prices.
3. CPI for that month:
=


× 100
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Compute the CPI & GDP Deflator Inflation
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Prices Quantities
Pizza CDs Pizza CDs
2015 $10 $15 20 10
2016 $11 $15 21 12
2017 $12 $16 22 14
2018 $13 $15 21 14
Assume the base year is 2015.
CPI Inflation: Answers
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Cost of Inflation
basket CPI rate
2015 $350 100.0 n.a.
2016 $370 105.7 5.7%
2017 $400 114.3 8.1%
2018 $410 117.1 2.5%
 2017 2016 2017 = ×100
2016
CPI CPI
Inflation Rate
CPI

GDP Deflator Inflation: Answers
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Nominal Real GDP Inflation
GDP GDP deflator rate
2015 $350 $350 100.0 n.a.
2016 $411 $390 105.4 5.4%
2017 $488 $430 113.5 7.7%
2018 $483 $420 115.0 1.3%
 2018 2017 2018 = ×100
2017
GDP deflator GDP deflator
Inflation Rate
GDP deflator

CPI Inflation: Australia
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Labour Statistics: Australia
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Looking Ahead
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Next Week
Topic 2: Classical Model of Closed Economy
• UQ Extend content will be released on Tuesday, 20 February, at 9 am.
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CRICOS 00025B • TEQSA PRV12080
© The University of Queensland 2024
This content is protected and may not be shared, uploaded, or distributed.
Dr Annari de Waal
Contact
Lecturer, School of Economics
econ7021@uq.edu.au