Questions to the Text

1.What is a natural monopoly?

2.What are natural monopolies often contrasted with?

3.When do natural monopolies exist?

4.What is an economy of scale?

5.What are examples of natural monopolies?

6.What is the "ideal" size for a company?

7.In what case will industries with high investment cost be able to make a profit?

8.Why can only one firm survive in a natural monopoly?

9.What are marginal and fixed costs?

10.In what situation will firms have enough income to survive the debts of investment cost?

11.In what situations do firms merge?

12.Why did water supply firms have problems in Britain?

13.Why did municipalisation take place in the water supply

market?

Unit 6. MACROECONOMIC PARAMETERS

Text A. Gross Domestic Product (GDP)

Gross domestic product is the official measure of total output of goods and services in the U.S. economy. The federal government organises millions of pieces of monthly, quarterly, and annual data from government agencies, companies, and private individuals into hundreds of statistics, such as the consumer price index (CPI), the employment report, and summaries of corporate and individual tax returns.

GNP (Gross National Product) measures the output supplied by residents regardless of where they live and work or where they own capital. The GDP emphasizes production, while GNP emphasizes income resulting from production.

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GDP measures production, not exchange. If economists, policymakers, and news commentators kept this simple truth in mind, much confusion over the interpretation of economic statistics might be avoided. Many proposals to cut taxes, for example, are aimed at "stimulating consumer spending," which is expected to cause an increase in GDP. But consumer spending is a use of GDP, not production. A rise in consumer demand could simply crowd out investment, not raise GDP.

For better or worse, the different formats do influence how people think about the sources of economic growth. Which, for example, is more of a driving force in the economy — retail sales or growth in the labour force? Are inventory levels a key factor at turning points in the business cycle, or is prospective return on investment the key? Are higher net exports a positive or a negative factor? In answering these questions, Keynesians usually emphasize the first choice while supply-siders place more weight on the second.

In the short run, in business cycles the Keynesian emphasis on demand is relevant and alluring. But reliance on "demand management" policies can distort market prices and destroy production stimuli.

Despite the lack of historical support for the proposition that imports reduce GDP, and despite strong opposition from economists beginning from Adam Smith, protectionist trade policies are advocated and implemented to "solve" the "problem". A closer look at the correlations between GDP and imports might have dispelled some of the mercantilist myths that protectionists raised.

The so-called real GDP is real only in the economist's sense that it is adjusted for inflation. The government computes real GDP for, say, 2001 by valuing production in 2001 at the relative prices that existed in a "base year." The choice of the base year used to compute the real GDP index is important. Relative prices in the base year tend to reflect relative production costs at that time. As GDP and GDP components are computed for periods further away from the base year, the accuracy deteriorates.

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In fact, just about all empirical issues in macroeconomics are connected with the GDP data. The government uses the data to define emerging economic problems, devise appropriate policies, and judge results. Businesses use the data to forecast sales and adjust production and investment. Individuals watch GDP as an indicator of well-being and adjust their voting and investment decisions accordingly. This is not to say that the GDP data are always used or used wisely. Often they are not. Nor are the GDP data perfect. But ignoring the GDP data is as close as one can come in macroeconomics to ignoring the facts. And that is a perilous practice.

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Questions to the Text

1.What is GDP?

2.What other important measures are connected with GDP?

3.What is the difference between GDP and GNP?

4.Why is there a confusion about GDP?

5.What is the difference in position of Keynesians and supply-

siders?

6.Why reliance on demand management can distort the prices?

7.Why imports are viewed as negative?

8.What is real GDP?

9.Why the choice of the base year is important?

10.How do businesses use GDP?

Text В. Business Cycles

In some years most industries are booming and unemployment is low; in other years most industries are operating much below capacity and unemployment is high. Periods of economic expansion are called booms; periods of economic decline are called recessions or depressions. The combination of booms and recessions is called the business cycle.

Business cycles were first identified and analyzed by Arthur Burns and Wesley Mitchell in their book Measuring Business Cycles. One of their main statements was that many economic indicators move together. During a boom, or expansion, not only does output rise, but also

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stock and, thus, the level of interest rates in the economy. Interest rates are a crucial determinant of how much firms and consumers want to spend. A firm faced with high interest rates may decide to postpone building a new factory because the cost of borrowing is so high. Conversely, a consumer may be enthusiastic about buying a new home if interest rates are low and mortgage payments are more affordable. By raising or lowering interest rates, the Federal Reserve is able to generate recessions or booms. This description of what causes business cycles reflects the Keynesian or New Keynesian view that cycles are the result of imperfections in the economy. Only when prices and expectations are not fully flexible can fluctuations in government spending or the money stock cause large swings in real output. An alternative idea, from the New Classical view, suggests that modern industrial economies are quite flexible. As a result a change in government policy does not necessarily affect real output and employment. In the New Classical view, for example, a change in the stock of money will change only prices; it will have no effect on real interest rates and on people's willingness to invest. According to this view business cycles are the resuit of disturbances in productivity and tastes, not of changes in government economic policy. One implication of this view would be that there is nothing inherently wrong with an economic downturn.

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Questions to the Text

1.What is a business cycle?

2.How can you define an economic boom?

3.How can you define an economic recession?

4.When were business cycles first analyzed?

5.What does the peak of a business cycle refer to?

6.What does the trough of the business cycle refer to?

7.Why does the dating of peaks and troughs involve a certain

amount of subjective judgment?

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