Macroeconomics Part 2: GDP, Labor, and Inflation

Written by: Caroline Kim

May 10, 2025

Today, we’ll explore part 2 of this three part series on the fundamental elements of macroeconomics. This is all information sourced from the macroeconomics class I took this past semester at college; I’ve learned so much and taken so many useful notes this semester that were referenced in the writing of this post. My hope is that you, the reader, will walk away having learned something new or interesting! The big topics we’ll cover today include GDP, aggregate demand, labor, and inflation. 

GDP, gross domestic product, has been defined as the market value of all final goods and services produced within a country during a given period of time, typically one year. It’s key to note, however, that consumer surplus can not be accounted for in GDP as it is an intrinsic valuation. Similarly, GDP can not account for household production and underground economic opportunities. Other notable terms relevant to GDP are intermediate goods and physical capital. Intermediate goods are components of the final good (tires on a car), and are not accounted for separately since they are included in the final valuation. Physical capital are goods, like factories, that are not a component of but are used to create the final good; therefore, physical capital is included into GDP calculations. A key distinction to be made is the difference between GDP and GNP. GNP refers to gross national products that are goods produced by a country’s firms, regardless of where it is produced. On the other hand, gross domestic products are goods produced in the country, regardless of who produces it. There are two approaches to calculating GDP- the expenditure approach and the income approach. 

Stemming off of our discussion on GDP, is the topic of economic growth and potential GDP. Economic growth refers to an increase in the productive capacity of the economy, which we call potential GDP. The business cycle graphically represents the way that real GDP fluctuates about potential GDP in a wave-like fashion; instances where real GDP is above the potential GDP are inflationary/expansionary periods, and instances where real GDP is below the potential GDP represent recessionary gaps. Now, how does GDP grow- by either an increase in the number of workers or an increase in worker productivity. Worker productivity can be increased through physical capital growth, human capital growth, and technological innovation. 

Aggregate expenditure (AE) relates to real GDP in several ways. If real GDP is less than the equilibrium real GDP, the value of AE exceeds the value of real GDP in the economy; this results in an unexpected shrinking of firms’ inventories, which firms respond to by increasing production/employment to cause real GDP to increase back towards equilibrium real GDP. On the flip sidem if real GDP is greater than equilibrium real GDP, the value of real GDP is greater than the value of AE, resulting in an unexpected increase in firms’ inventories. This results in reduced production/employment and a real GDP decrease back towards its equilibrium point. 

Our next topic involves the discussion of employment and labor; unemployment is undesirable as it results in lost income/production as well as missing/lost human capital. In this case, human capital refers to factors such as one’s education, skills and knowledge. Below is a chart showing the classifications of the labor market. The general population is the largest umbrella, which is broken down into two sectors: working age population, and not working age population. This “not working age population” refers to individuals under 16 years, incarcerated individuals, and those in long-term healthcare facilities. The “working age population” can further be broken down into two groups: the labor force and those not in the labor force. Among those in the labor force are the final two groups: those that are employed and those that are unemployed. There are three types of unemployment, cyclical (due to good/bad times), frictional (takes time to find a job), and structural (changing demand for skills such as tech innovation). Being unemployed implies that the individual does not have paid work, and has either applied to work within the past 4 weeks, is waiting to start a new job in the next 30 days, or is waiting to hear back from a former employer. It is crucial to note, however, that unemployment rates understate true joblessness in the economy because of factors such as underemployment and marginally attached workers (discourage workers). 

A topic commonly discussed throughout the media involves inflation; inflation is defined as increase in the price level, sometimes measured using an annual inflation rate. Naturally, deflation is defined as a decrease in the price represented by a negative inflation rate; hyper-inflation refers to a monthly inflation rate of 50% or more. There are four general problems associated with inflation rate that are not moderate and anticipated. These are as follows: inflation redistributes income from workers to employers, inflation redistributes wealth from lenders to borrowers, inflation reduces production and employment, and inflation diverts produced resources away from producing goods and services. A term relevant to inflation is the consumer price index (CPI), which is a measure of the price level that focuses on the set of goods that are purchased each year by the average urban family of four. 

These are the major topics in part two of our discussion on macroeconomics, and I hope you were able to take away something meaningful. Next week, we will wrap up this three part series on macroeconomics. 

Sources:

Professor Thomas Knight - University of Florida Spring 2025 ECO2013