Transcript My lecture

Mankiw: Brief Principles of
Macroeconomics, Second Edition
(Harcourt, 2001)
Ch. 5: Measuring A Nation’s Income
Why Measure A Nation’s Income
• To have a sense of an economy’s size.
• The well being of a citizen, on average,
depends on the nation’s income and its
population.
• As the income of the society increases, the
average person will have a higher standard
of living.
– One can drown in a lake of 3-ft average depth.
– Standard of living may not necessarily be the
goods and services a household can consume.
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Dr. Ugur Aker
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Nation’s Income Has Connections
to Other Macro Measures
• As nation’s income rises at a fast rate,
unemployment drops.
• A fast, sustained increase in nation’s income
may spur inflation.
• A drop in nation’s income will lower interest
rates.
• A fast increase in nation’s income will raise
trade deficit and depreciate its currency.
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Definition of GDP
• Gross Domestic Product is the value of all the final
goods and services produced within a country in a year.
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How do you determine the value of child care?
How do you include the production of steel or plastics?
How do you include the sales of existing homes?
How do you account for $4 million paid at an auction for a
Van Gogh painting?
– How do you account for Mexican agricultural workers’
output when the workers send most of the income they earn to
Mexico?
• Counts as US GDP and similar to US imports.
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Why GDP Is Equal to Income?
• How is my contribution to the US economy
calculated?
– The amount of educational service I create is equal
to my gross income.
• How is the income of a real estate agent
calculated?
– When she sells a 25-yr old house, she gets a
percent of the price as a payment for her services.
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Why GDP Is Equal to Income?
• How is the GDP contribution of the textbook
company calculated?
– After they pay the author, the paper company and
the ink company, the amount of revenue they get
from textbook sales plus the value of their book
inventory (unsold books) is their contribution to
the US GDP.
– Their contribution is equal to wages, salaries, rent,
interest and profits they pay.
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Circular Flow
Consumption expenditures of households
Households
Firms
Income (wages, salaries, rent, interest, profit)
earned by households
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Circular Flow
• Upper flow is equal to GDP.
• Lower flow is equal to income.
• If GDP < Income, businesses will reduce
production and create less income.
• If GDP > Income, businesses will want to
expand production and create more income.
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How Can We Measure GDP?
• Expenditure Approach: the upper flow.
Y = C + I + G + NX
• Income Approach: the lower flow.
Y = Sum of factor incomes
Y = Wages + Salaries + Rent + Interest +
Profits
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Components of Expenditure
Approach
• Consumption includes spending on food,
entertainment, shelter, health care,
transportation, clothing, household items,
insurance, education.
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Components of Expenditure
Approach
• Investment includes purchases made by
firms to generate future income. Machinery,
tools, buildings, trucks and cars are part of
investment if they are bought to generate
future income. By convention, newly built
houses and inventory are included under
investment.
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Components of Expenditure
Approach
• Government purchases are expenditures of
federal, state and local governments on
goods and services plus their payrolls.
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Components of Expenditure
Approach
• Net exports is exports minus imports.
• Dell Computer sales in China are part of US
exports.
• Dell Computer purchases of plastic molds
for their computers from China are part of
US imports.
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How To Find US GDP Numbers?
• Go to http://home.hiram.edu/ Click on Library link on the left.
You will get to http://library.hiram.edu/
• On the top left of the page there is a link that says “Begin
Research By Subject Area.” Click on it. You will get to
http://library.hiram.edu/subject.htm
• Click on economics. You will get to
http://library.hiram.edu/economics.htm. Go to Stat-USA link
towards the bottom of the page. Click on it. You will get to
http://www.stat-usa.gov/
• Click on the US Department of Commerce link. You will be at
http://www.doc.gov/ Click on the left frame on Bureau of
Economic Analysis: http://www.bea.doc.gov/bea/rels.htm. Scroll
all the way down and click on Survey of Current Business link.
You will be at http://www.bea.doc.gov/bea/pubs.htm ready to
choose the monthly publication.
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Dr. Ugur Aker
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A GDP Increase Always Increases
The Size of the Economy
• WRONG!
• What if GDP in 1998 were 1000, in 1999
were 1500 but inflation was 50%?
• In this case, the increase in GDP is solely
attributable to price increases, not
improving the well being (standard of
living) of the average citizen.
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Dr. Ugur Aker
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Nominal vs. Real Measures
• In macroeconomics, most variables are
measured in real terms, not nominal terms.
• Real variable eliminates the effect of inflation.
• Nominal variable includes the effect of
inflation.
• GDP comparisons are always made with real
GDP.
• Nominal GDP uses current prices.
• Real GDP uses base year prices.
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An Example of Real and Nominal GDP
The Economy Produces 2 Goods: Pizza and Soda
Year
1997
1998
1999
Pp
10
11
13
Qp Ps
1000 2
1000 3
1200 4
Qs Nominal GDP
5000 $20,000.00
6000 $29,000.00
7000 $43,600.00
Real GDP GDP Deflator
$20,000.00
100.0
$22,000.00
131.8
$26,000.00
167.7
Nominal GDP is calculated by adding the amounts spent on each
Product. Real GDP is calculated by using the prices of pizza and
Soda from 1997 o calculate the amounts spent in future years.
GDP Deflator is Nominal GDP/Real GDP.
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Real and Nominal GDP
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What Is Wrong With Real GDP?
• Real GDP increases if you sell your services rather
than provide them free.
• If you build a house through Habitat for Humanity
your work doesn’t count as part of GDP. If you
get paid for the same work, it counts.
• If you pollute during production and someone
pays to clean the environment, the GDP will be
higher than if the producer tried to reduce
pollution during production so no clean-up was
necessary.
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Underground Economy
• If market transactions cannot be tracked by
data collectors, they may be ignored.
• Transactions with high cash usage and no
paper trail can remain hidden from the
government.
• GDP may actually be much higher than
government statistics if there is a large
underground economy.
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