GDP
Gross Domestic Product (GDP) refers to the total all output produced within a country’s economy. It is a measure of the intensity of economic activities in a country and is mainly viewed as a critical tool in the determination of whether a country is performing well economically or not. It is obtained as a summation of all the activities of the economic agents in an economy. This entails consumption both by households as well as the government, investment activities carried out b investors, and the difference between exports and imports. Consequently, the GDP can be defined by the equation:
Y=C+I+G+NX where:
Y= Total GDP, C=Consumption by household, I=Investment, G=Government expenditure, NX=Net Exports
Net Domestic product entails the reduction of the GDP by the depreciation of the assets used in the production activities is a significant part of the GDP.
Net GDP=GDP-Depreciation
GNP on the other hand takes into consideration income from abroad. It is the summation of the value of production activities conducted by nationals within and without the country.
GNP=GDP=NR where NR=Net income from abroad
There are several ways of GDP determination. The output measure determines the GDP by adding the total value of output in terms of goods and services produced in an economy. Considerations are made here in a bid to eliminate cases of double counting mainly occasioned by the process of value addition. The Income measure looks at the summation of all the incomes earned in the year under consideration.
This is because all the income is obtained as a result of engaging in economic activities. The “uses” measure considers a summation of all the transactions which show how the incomes earned from the production processes are utilized whether in consumption, savings, or investments. Finally, the expenditure measure specifically sums up the total expenditure as the expenditures are expended on the goods and services in the economy whether produced locally or from a foreign land.
Price Indices
Price indices are an important indicator of the general movement of prices in an economy. The two most common indices are the Laspeyres and the Paasche price indices. The Laspeyres index assesses the level of the current prevailing prices and quantities about the prices and/or quantities of a predetermined base year. In calculation, the index is obtained by first getting the ratio of the current price of a determined group of commodities. The resultant is then multiplied by 100. Consequently, it is true that for the base period, the index is assumed to be 100. Periods with prices higher than those of the base year have their Laspeyres indices higher than 100 and vice versa.
The Paasche Index is a ratio of the cost of purchasing a certain bundle of goods at the prevailing prices about the cost of purchase at the base year for the same bundle of goods. Consequently, the main difference between the two indices is the fact that the Laspeyres index considers a consumption bundle of goods while the Paasche Index focuses on an expenditure bundle.
Chained indices are a late introduction in the calculation of accurate price indices in a bid to eliminate some weaknesses in the Laspeyres indices. Chained indices are a series of indices that measure changes in prices from the base year to the quarters in the subsequent years. All the indices for all the subsequent quarters are linked hence achieving more realistic continuity in the determination of changes in prices. They focus more on the consequence of changes in price changes.
Eclectic IS-LM model
The IS-LM model is an elaborate economic tool used in explaining the relationship existing between the real output and the level of interest rates. The model explains the relationship existing between the good and the money market. The Investment/Savings (IS) curve defines the relationship between interest rates and Incomes. This is the demand aspect of the model. The Liquidity preference money supply equilibrium on the other hand represents the supply model as it defines the amounts available for investments. At equilibrium, the two curves cross.
The IS curve defines the levels of income and interest rates where the aggregate expenditure equates to output. The curve is downward sloping. This means that the higher the level of equilibrium incomes, the lower is the level of interest rates.
Money
Generally, money refers to anything which is generally acceptable as for the payment for products as well as clearance of debts. In economics, money is defined in three steps. The narrow definition of money encompasses all the coins and notes currently held by the public including travelerâs checks and automatic transfer service accounts. This category is referred to as M1. A broader definition incorporates money held in current and savings accounts on to the M1. This becomes M2. M3 incorporates M2 plus deposits made in fixed accounts.
Money multiplication occurs due to the process of re-lending conducted by financial institutions based on the deposits made with the bank. In the case of a fractional reserve system, there are requirements set by regulatory authorities on the extent to which lending can be done based on the deposits. The consequence of this is that the initial amounts of the âhigh powered moneyâ referring to the real currency in the form of notes and coins can be multiplied through the financial institutions increasing the level of money supply in the economy. This process is called money creation.
In formulating a simple multiplier it is possible to determine the maximum amount of money created by commercial banks for a given level of high-powered money. The most basic formula for the determination of the multiplier is m=1/R where R refers to the reserve ration as determined by the central banks. Consequently, in a case where a $1000 is injected and a reserve ratio of 40%, then the levels of the money supply are bound to rise by levels calculated below.
Money created= (1/0.4)*1000= 2500. The implication is that a $1000 increase in high powered money results in an increase of $2500 at the level of the money supply.
The unpredictability of the multiplier money multiplier occurs due to different factors. The first is that the money multiplier is calculated using the benchmarks established by the regulatory authorities. In many cases, the financial institutions do not just maintain reserve levels within the stipulations of the regulatory authorities. Setting the reserve levels acts as only a guideline but it is okay to exceed the expectations mainly in consideration of the economic conditions. Consequently, when the reserve level is set at 40% some banks may maintain a 50% reserve level. Therefore the use of 40% may not be an accurate measure.