Transcript Chapter 20: Measuring a Nation's Production and Income

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Chapter 20, ECON125
CHAPTER 20
Measuring a Nation’s
Production and Income
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Chapter 20, ECON125
Macroeconomics
Macroeconomics is the branch of economics that deals with
any nation’s economy as a whole.
Macroeconomics focuses on issues such as unemployment,
inflation, growth, trade, and the gross domestic product.
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Chapter 20, ECON125
Macroeconomics
Macroeconomics focuses on two basic issues:
Understanding economic growth in the long run and the factors
behind the rise in living standards in modern economies.
Understanding economic fluctuations—the ups and downs of
the economy over time.
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Chapter 20, ECON125
Production, Income,
and the Circular Flow
The most fundamental concepts in macroeconomics are
production and income.
The circular flow diagram makes a simple but fundamental
point: Production generates income.
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Chapter 20, ECON125
Production, Income,
and the Circular Flow
The circular flow diagram
shows how production of
goods and services
generates income for
households and how
households purchase
goods and services
produced by firms.
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Chapter 20, ECON125
Production, Income,
and the Circular Flow
In factor markets,
households supply inputs
to production.
Households are paid
wages for their work, and
interest, dividends and
rents for supplying capital.
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Chapter 20, ECON125
Production, Income,
and the Circular Flow
Households use their
income to purchase goods
and services in product
markets.
The payments received by
firms are used to pay for
factors of production.
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Chapter 20, ECON125
Production, Income,
and the Circular Flow
In sum, corresponding to
the production of goods
and services in the
economy are flows of
income to households.
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Chapter 20, ECON125
Measuring Gross Domestic
Product
The most common measure of the total output of an
economy is gross domestic product (GDP), the total
market value of all the final goods and services produced
within an economy in a given year.
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Chapter 20, ECON125
Measuring Gross Domestic
Product
“Total market value” refers to the quantity of goods multiplied
by their respective prices. Using prices allows us to express
the value of everything in a common unit of measurement.
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Chapter 20, ECON125
Measuring Gross Domestic
Product
“Final goods and services” refers to the goods and services
that are sold to the ultimate, or final, purchasers.
In order to avoid double counting, we do not count
intermediate goods, or goods used in the production
process that are not final goods or services. The value of
the final good already reflects the price of the intermediate
goods contained in it.
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Chapter 20, ECON125
Measuring Gross Domestic
Product
“In a given year” means that the sale of goods produced in
prior years, for example, used cars, are not included in GDP
this year.
Since we use the prices times the quantities of goods to
measure the value of GDP, GDP will increase when prices
increase, even if the physical quantities of the goods
produced remain the same.
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Chapter 20, ECON125
Measuring Gross Domestic
Product
Reality PRINCIPLE
What matters to people is the real value of
money or income–its purchasing power–not
the face value of money or income.
A measure of total output that does not increase just
because prices increase is called real GDP. Real GDP
takes into account price changes by using the same prices
for both years.
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Chapter 20, ECON125
Measuring Gross Domestic
Product
Nominal GDP is the value of GDP in current dollars.
Nominal GDP can increase for one of two reasons:
The production of goods and services has increased, or
The prices of those goods and services has increased.
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Chapter 20, ECON125
U.S. Real GDP
1930-2000
Real GDP has
grown substantially
over this period.
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Chapter 20, ECON125
U.S. Real GDP
1930-2000
Sustained
increases in the
real production of
an economy over a
period of time is
what economists
call economic
growth.
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Chapter 20, ECON125
Who Purchases GDP?
Economists divide GDP into four broad expenditure
categories:
Consumption expenditures: purchases by consumers.
Private investment expenditures: purchases by firms.
Government purchases: purchases by federal, state, and
local governments.
Net exports: net purchases by the foreign sector, or domestic
exports minus domestic imports.
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Chapter 20, ECON125
Who Purchases GDP?
Composition of U.S. GDP, Second Quarter 2000
(billions of dollars expressed at annual rates)
GDP
Consumption
Expenditures
Private Investment
Expenditures
Government
Purchases
Net
Exports
9,945
6,706
1,852
1,742
-355
A quarter is a 3-month period with the second quarter
running from April through June.
GDP was approximately $9.9 trillion. U.S. population is
approximately 281 million people, making GDP per person
about $35,342.
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Chapter 20, ECON125
Consumption Expenditures
Consumption expenditures are purchases of newly produced
goods and services by households. Consumption is broken
down into:
Durable goods that last for a long time.
Nondurable goods that last for a short time.
Services that reflect work done in which people play a
prominent role in the delivery.
Consumption comprises 67% of total purchases.
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Chapter 20, ECON125
Private Investment Expenditures
Private investment expenditures include:
Spending on new plants and equipment.
Newly produced housing.
Increase in inventories during the current year.
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Chapter 20, ECON125
Private Investment Expenditures
New investment expenditures are called gross investment.
The true addition to the stock of capital of the economy is
net investment. Net investment equals gross investment
minus depreciation.
Depreciation is the deterioration of plants, equipment, and
housing in a given year.
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Chapter 20, ECON125
Private Investment Expenditures
Note: Investment in everyday talk refers to the purchase of
an existing financial asset. Investment in GDP accounts
refers to the purchase of new final goods and services by
firms. Don’t confuse the two.
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Chapter 20, ECON125
Government Purchases
Government purchases refer to purchases of newly
produced goods and services by all levels of government.
Transfer payments are funds paid to individuals from
governments (for example, Social Security, welfare, interest
on government debt) and are not associated with the
production of goods and services.
A large part of the federal government budget is not part of
GDP.
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Chapter 20, ECON125
Net Exports
Net exports are total exports minus total imports.
Net exports are included in GDP to correctly measure U.S.
production.
When we buy more goods from abroad than we sell, we
have a trade deficit.
A trade surplus occurs when our exports exceed our
imports.
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Chapter 20, ECON125
U.S. Trade Balance as a Share of
GDP, 1960 - 2000
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Chapter 20, ECON125
Net Exports
When the U.S. runs a trade deficit, we are forced to sell
some of our assets to individuals or governments in foreign
countries.
We give up more dollars from exports than we receive from
imports. Excess dollars in the hands of foreigners are used
to buy U.S. assets.
If a country runs a trade surplus with one country and an
equally large deficit with another, it does not add to its stock
of foreign assets.
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Chapter 20, ECON125
Trade Balance as a
Percent of GDP, 2000
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Chapter 20, ECON125
Who Gets the Income?
The income that flows to the private sector is the national
income which is the net national product less indirect taxes.
To measure national income, economists must make three
adjustments to gross domestic product (GDP).
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Chapter 20, ECON125
Who Gets the Income?
The three adjustments to GDP are as follows:
Add the net income earned by U.S. firms and residents abroad;
subtract income earned in the U.S. by foreign firms to arrive at
gross national product (GNP).
Subtract depreciation from GNP to arrive at net national
product (NNP).
Subtract indirect taxes, which are sales taxes or excise taxes
on products.
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Chapter 20, ECON125
Who Gets the Income?
From GDP
From
to National
GDP to National
Income, Income,
Second Quarter
Second 2000
Quarter
(billions
2000 of
dollars)
(billions of dollars)
Gross domestic product
plus net income from abroad =
9,945
Gross national product
minus depreciation =
9,937
Net national product
minus indirect taxes (and other adjustments) =
8,693
National income
7,983
After making all three adjustments, we reach national
income.
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Chapter 20, ECON125
Who Gets the Income?
Composition of U.S. National Income, Second Quarter 2000
(billions of dollars)
National income
7,983
Compensation of employees
5,603
Corporate profits
964
Rental income
141
Proprietor’s income
709
Net interest
566
Approximately 70% of all national income goes to workers in
the form of wages and benefits.
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Chapter 20, ECON125
Who Gets the Income?
The sum of all the income (wages, interest, profits, and rent)
generated by an organization is value added.
National income is calculated by adding the value added for all
the firms, plus nonprofit and government organizations.
Personal income is income received by households
(including transfer payments).
Personal disposable income is the income that
households keep after paying taxes.
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Chapter 20, ECON125
Real Versus Nominal GDP
GDP Data for a Simple Economy
Quantity Produced
Price
Year
Cars
Computers
Cars
Computers
Nominal GDP
2004
4
1
$10,000
$5,000
$45,000
2005
5
3
$12,000
$5,000
$75,000
Differences between nominal GDP and real GDP arise only
because of changes in prices.
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Chapter 20, ECON125
Real Versus Nominal GDP
GDP Data for a Simple Economy
Quantity Produced
Price
Year
Cars
Computers
Cars
Computers
Nominal GDP
2004
4
1
$10,000
$5,000
$45,000
2005
5
3
$12,000
$5,000
$75,000
To calculate real GDP we use constant prices.
Quantity Produced
Price
Year
Cars
Computers
Cars
Computers
Real GDP
2004
4
1
$10,000
$5,000
$45,000
2005
5
3
$10,000
$5,000
$65,000
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Chapter 20, ECON125
Real Versus Nominal GDP
Quantity Produced
Price
Year
Cars
Computers
Cars
Computers
Real GDP
2004
4
1
$10,000
$5,000
$45,000
2005
5
3
$10,000
$5,000
$65,000
Using the information on the table, we can calculate the
growth of real GDP:
We can also measure the change in prices over time using
an index number called the GDP deflator.
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Chapter 20, ECON125
Real Versus Nominal GDP
An index is set at 100 in a given year, say the year 2004,
called the base year. Prices in other years are compared to
prices in 2004:
The value 115 means that prices rose by 15% ([115100)/100] between the two years.
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Chapter 20, ECON125
Real Versus Nominal GDP
The Commerce Department uses a chain index to calculate
changes in prices that includes an average of price changes
using base years from neighboring years.
Data produced by the Commerce Department measures real
GDP in chained-dollars and a chain-type price index for
GDP.
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Chapter 20, ECON125
GDP as a Measure of Welfare
GDP is our best measure of the value of output produced,
but not a perfect measure. There are several recognized
flaws in the construction of GDP:
1. GDP ignores transactions that do not take place in organized
markets, such as the work we perform at home.
2. GDP ignores leisure time, along with other non-market
activities.
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Chapter 20, ECON125
GDP as a Measure of Welfare
GDP is our best measure of the value of output produced,
but not a perfect measure. There are several recognized
flaws in the construction of GDP:
3. GDP ignores the underground economy, where transactions
are not reported to official authorities.
4. Finally, GDP does not value changes in the environment that
arise from the production of output.
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Chapter 20, ECON125