All Terrain Thinking

A Compendium of things I think are Important

Economics: It's not just whats' in your wallet

Macroeconomic Measurement

"How can people, businesses, and institutions plan for the future when they do not know what tomorrow will bring? ...In this unpredictable context, freedom is the ability to act both with confidence and a full knowledge of uncertainty. ... Scenarios are a tool for helping us to take a long view in a world of great uncertainty. ... Scenario planning is about making choices today with an understanding of how they might turn out." Schwartz, "

It is now time to look at the primary measures of macroeconomic performance - the statistics we use to answer the question: How's the economy doing?  As indicated earlier, we are going to organize our discussion by looking at the indicators of performance in the four aggregate markets - output, labor, capital, and foreign exchange.  Because we are talking about markets, the discussion will focus on three sets of measures -  price, output, and disequilibrium.  The indicators we will be discussing are presented in the table below.

One of the common themes in our discussion of each of the markets is the need to make the distinction between real and nominal measures.  One of the features of all advanced economies is that market prices change to reflect changes in relative scarcity.  For example, an increase in demand for labor should be reflected in an increase in wages - the price of labor.  Similarly, if there is an increase in the supply of funds to the capital market, then there should be a decrease in the price of the funds - interest rates should fall.  In the output market where GDP measures the value of currently produced goods and services, an increase in GDP should reflect an increase in output. 

Unfortunately things are not always this simple - an increase in GDP is not always an indicator of increased output, an increase in wages is not always an indicator of higher earnings, and lower interest rates are not always a signal of reduced scarcity in the capital market.   What can distort these measures is a change in the price level, and there is a need to have a technique for separating out the change in the price level from the change in quantity and / or relative scarcity.  In our discussion of each market we will examine the techniques for adjusting data to achieve this separation.

Macroeconomic Indicators

In the output market, there will be separate sections on quantity measures and measures of prices and inflation.   The most common measure of quantity is Gross Domestic Product (GDP) and we will examine what GDP measures, what it does not measure, and how to make comparisons over time and across nations.  As for a measure of the level of prices, the Consumer Price Index (CPI) is the most common measure.  We will look at how an index is constructed, how we measure inflation, and how you would use the index to adjust nominal data for inflation.  The section will also include a discussion of the controversy surrounding the accuracy of the CPI.  

The discussion of the labor market will open with a primer on demographics.   Population is the driving force in an economy with population growth providing workers for the nation's offices and factories and buyers for the goods and services produced in those offices and factories. In this section we will examine both the growth and changing composition of the labor force.  The US is in the midst of pronounced changes in the age, racial and ethnic distributions of the population, as well as its regional and urban-rural mix, and in this section we will briefly examine these changes.  There will then be a discussion of the primary quantity measures in the labor market  - Labor force and Employment - and the link between the population and the labor force - labor force participation rates.  The two labor market price measures discussed are Average Weekly Earnings and the Employment Cost Index and once again we will examine the adjustment of the data for inflation.  The section will end with a discussion of labor market disequilibrium as measured by the Unemployment Rate. 

Of all of the major markets, the one you are likely to hear the most about is the capital market.  If you watch the nightly news or listen to most early morning news reports, you will likely hear about stock prices - the Dow Jones Industrial and the NASDAQ.  You are also likely to run into interest rates if you have a student loan, borrowed money to buy a car, or have a balance on your credit cards and you have probably heard more than you wanted to about Alan Greenspan's decisions regarding interest rates in 1999.  In the section on the capital market, we will examine the major players in the financial market and the financial instruments used to move funds in the market with special emphasis on interest rates - the price of money.  In this section we will also look more closely at stocks and bonds.

Finally, in the foreign exchange market we will look at the measures of international transactions. At this time we will only look at some of the measures used to describe the magnitude of the flow of goods, services, and capital across national borders; measures of any imbalance (trade deficit, balance of payments deficit); and the exchange rate which is simply the price of a country's currency.

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