Basic Economic Ideas

Here are some basic economic ideas (as the title suggests) and how they keep coming around in business and government cycles to bite us on the backside.

1. GDP
GDP is Gross Domestic Product. Translated, that means the total amount of stuff – goods and services – made in a nation in a year. It doesn’t matter who made it in that nation, if it was made there and accounted for, it’s part of GDP. Yes, there’s black and gray market stuff and home production that isn’t counted in the total, but I want to focus on what is in the total, so I’ll keep going.

GDP is equal to the sum of all consumer spending, all government spending, all business investment, and the difference of the value of all exports minus the value of all imports. Imports deduct from GDP because they represent money from the nation under consideration being spent towards boosting some other nation’s GDP. Exports add to GDP because the represent people from other nations spending more in the nation under consideration, boosting that nation’s demand. There’s an equation for this:

GDP = Consumer Spending + Government Spending + Investment Spending + (Exports – Imports)

or, abbreviated:

GDP = C + G + I + Xn <- Xn is economists' shorthand for "net exports" or exports - imports) Now, if we do some fancy math (which I leave as an exercise to interested students), we get the following equation: Total Private Financial Balance + Total Government Fiscal Balance - Current Account (Trade) Balance = 0 That means if both the private sector and the government sector save lots of money (run surpluses) and have positive balances, there has to be a big trade surplus. There's no other way to get to zero. Should trade ever collapse, like it did in the Great Depression, then the government and private sector can have a fight over who gets to save and who gets to borrow heavily, unless both spend exactly what they make, no more and no less. Right now, trade is sharply off and people are saving more money. That means the government will have to run big deficits. But if the government is unable to borrow money to finance those deficits, then it has to either run a surplus or balance the budget. In either case, significant private saving will not be possible without a big trade surplus. Therefore, trade is really really important, which is why it's the subject of a great deal of attention in my Economics course. 2. Growth Any change in growth of a nation's GDP will be a matter of the change in its population plus the change in its productivity. In nations with declining populations, such as Russia and Japan, major gains in productivity will be required to maintain current GDP, let alone increases in GDP. Without those productivity gains, GDP will decline, as will the general standard of living in those nations. Now, nations can borrow more money each year as long as their GDP is also increasing. When GDP levels off or begins to decline, so does tax revenue (generally speaking). That, in turn, reduces a nation's ability to pay interest on its existing debts - and, therefore, its ability to borrow more money. If a nation experiences declining growth and already has high levels of debt, it will face an increased prospect of defaulting in part or in whole on its debt. In modern times, such defaults usually take the form of currency devaluations. Currency devaluations typically result in low currency values as a result of high inflation - and high inflation wipes out private savings, unless one has contacts in high government that give warning in advance of devaluations.

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