Chapter 10 - Measuring a Nation’s Income PDF

Chapter 10: Measuring a Nation’s Income  In this chapter, Gross Domestic Product (GDP) Components of GDP? GDP correction for Inflation GDP as a measure of society’s well-being © 2015 Cengage Learning. All Rights Reserved. May not be copied, scanned,...

Chapter 10: Measuring a Nation’s Income  In this chapter, Gross Domestic Product (GDP) Components of GDP? GDP correction for Inflation GDP as a measure of society’s well-being © 2015 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. Income and Expenditure  Gross Domestic Product (GDP) measures: total income of everyone in the economy. total expenditure on the economy’s output of goods and services For the economy as a whole, income equals expenditure because every dollar a buyer spends is a dollar of income for the seller. Gross Domestic Product (GDP) Is… …the market value of all final goods & services produced within a country in a given period of time.  Market value: Goods and services at current market price  Exclude  things without market value (e.g. housework)  Transactions in the “Underground Economy” (illegal: unrecorded and untaxed economic activity) Gross Domestic Product (GDP) Is… …the market value of all final goods & services produced within a country in a given period of time. Includes only Final goods and services Not Intermediate good and services Final goods already embody the value of the intermediate goods used in their production. Gross Domestic Product (GDP) Is… …the market value of all final goods & services produced within a country in a given period of time. GDP includes tangible goods (like DVDs, mountain bikes, beer) and intangible services (dry cleaning, concerts, cell phone service). Gross Domestic Product (GDP) Is… …the market value of all final goods & services produced within a country in a given period of time. GDP includes currently produced goods, not goods produced in the past. Gross Domestic Product (GDP) Is… …the market value of all final goods & services produced within a country in a given period of time. Value of production that occurs within a country’s borders, whether done by its own citizens or by foreigners located there. Gross Domestic Product (GDP) Is… …the market value of all final goods & services produced within a country in a given period of time. Usually a year or a quarter (3 months) The Components of GDP  Recall: GDP is total spending.  Four components:  Consumption (C)  Investment (I)  Government Purchases (G)  Net Exports (NX)  These components add up to GDP (denoted Y): Y = C + I + G + NX Consumption (C)  is total spending by households on g&s.  Durable goods: TV, cars, …  Non-durable goods: food and clothing  Services (intangible items): haircuts, medical care, and education  Note on housing costs:  For renters, consumption includes rent payments.  For homeowners, consumption includes the imputed rental value of the house, but not the purchase price or mortgage payments. Investment (I)  is total spending on goods that will be used in the future to produce more goods.  includes spending on  capital equipment (e.g., machines, tools)  structures (factories, office buildings, houses)  inventories (goods produced but not yet sold) Note: “Investment” does not mean the purchase of financial assets like stocks and bonds. Government Purchases (G)  is all spending on the g&s purchased by govt at the federal, state, and local levels.  G excludes transfer payments, such as Social Security or unemployment insurance benefits. They are not purchases of g&s. Net Exports (NX)  NX = exports – imports  Exports represent foreign spending on the economy’s g&s.  Imports are the portions of C, I, and G that are spent on g&s produced abroad.  Adding up all the components of GDP gives: Y = C + I + G + NX U.S. GDP and Its Components, 2023 US population 2023 = 336 million billions % of GDP per capita Y $27,939 100.0 $83,150 C 18,888 67.6 56,214 I 4,975 17.8 14,800 G 4,857 17.4 14,450 NX -781 –2.8 –2,325 Questions  Which countries have the largest economy (1st - 3rd) in the world?  Which US states have the largest economy (1st - 3rd)? 18  ACTIVE LEARNING 1 GDP and its components In each of the following cases, determine how much GDP and each of its components is affected (if at all). A. Debbie spends $300 to buy her husband dinner at the finest restaurant in Boston. B. Sarah spends $1200 on a new laptop to use in her publishing business. The laptop was built in China. C. Jane spends $800 on a computer to use in her editing business. She got last year’s model on sale for a great price from a local manufacturer. D. General Motors builds $500 million worth of cars, but consumers only buy $470 million worth of them. © 2015 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.  ACTIVE LEARNING 1 Answers A. Debbie spends $300 to buy her husband dinner at the finest restaurant in Boston. Consumption and GDP rise by $300. B. Sarah spends $1200 on a new laptop to use in her publishing business. The laptop was built in China. Investment rises by $1200, net exports fall by $1200, GDP is unchanged. © 2015 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.  ACTIVE LEARNING 1 Answers C. Jane spends $800 on a computer to use in her editing business. She got last year’s model on sale for a great price from a local manufacturer. Current GDP and investment do not change, because the computer was built last year. D. General Motors builds $500 million worth of cars, but consumers only buy $470 million of them. Consumption rises by $470 million, inventory investment rises by $30 million, and GDP rises by $500 million. © 2015 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. Real versus Nominal GDP  Inflation can distort economic variables like GDP, so we have two versions of GDP:  Nominal GDP  values output using current prices  not corrected for inflation  Real GDP  values output using the prices of a base year  is corrected for inflation EXAMPLE: Pizza Latte year P Q P Q 2011 $10 400 $2.00 1000 2012 $11 500 $2.50 1100 2013 $12 600 $3.00 1200 Compute nominal GDP in each year: Increase: 2011: $10 x 400 + $2 x 1000 = $6,000 37.5% 2012: $11 x 500 + $2.50 x 1100 = 30.9% $8,250 2013: $12 x 600 + $3 x 1200 = EXAMPLE: Pizza Latte year P Q P Q 2011 $10$10 400 $2.00 $2.00 1000 2012 $11 500 $2.50 1100 2013 $12 600 $3.00 1200 Compute real GDP in each year, using 2011 as the base year: Increase: 2011: $10 x 400 + $2 x 1000 = $6,000 20.0% 2012: $10 x 500 + $2 x 1100 = $7,200 16.7% 2013: $10 x 600 + $2 x 1200 = $8,400 EXAMPLE: Nominal Real year GDP GDP 2011 $6000 $6000 2012 $8250 $7200 2013 $10,800 $8400 In each year,  nominal GDP is measured using the (then) current prices.  real GDP is measured using constant prices from the base year (2011 in this example). EXAMPLE: Nominal Real year GDP GDP 2011 $6000 $6000 2012 $8250 37.5% $7200 20.0% 2013 $10,800 30.9% $8400 16.7%  The change in nominal GDP reflects both prices and quantities.  The change in real GDP is the amount that GDP would change if prices were constant (i.e., if zero inflation). Hence, real GDP is corrected for inflation.  Nominal and Real GDP in the U.S., 1965–2013 $18,000 $16,000 $14,000 $12,000 Real GDP billions $10,000 (base year 2009) $8,000 $6,000 Nominal $4,000 GDP $2,000 $0 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 The GDP Deflator  The GDP deflator is a measure of the overall level of prices.  Definition: nominal GDP GDP deflator = 100 x real GDP  One way to measure the economy’s inflation rate is to compute the percentage increase in the GDP deflator from one year to the next. EXAMPLE: Nominal Real GDP year GDP GDP Deflator 2011 $6000 $6000 100.0 2012 $8250 $7200 14.6% 114.6 2013 $10,800 $8400 12.2% 128.6 Compute the GDP deflator in each year: 2011: 100 x (6000/6000) = 100.0 2012: 100 x (8250/7200) = 114.6 2013: 100 x (10,800/8400) = 128.6  ACTIVE LEARNING 2 Computing GDP 2011 (base yr) 2012 2013 P Q P Q P Q Good A $30 900 $31 1000 $36 1050 Good B $100 192 $102 200 $100 205 Use the above data to solve these problems: A. Compute the GDP deflator in 2013. © 2015 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.  ACTIVE LEARNING 2 Answer 2011 (base yr) 2012 2013 P Q P Q P Q Good A $30 900 $31 1000 $36 1050 Good B $100 192 $102 200 $100 205 A. Compute the GDP deflator in 2013. Nom GDP = $36 x 1050 + $100 x 205 = $58,300 Real GDP = $30 x 1050 + $100 x 205 = $52,000 GDP deflator = 100 x (Nom GDP)/(Real GDP) = 100 x ($58,300)/($52,000) = 112.1 © 2015 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. GDP and Economic Well-Being  Real GDP per capita is the main indicator of the average person’s standard of living.  But GDP is not a perfect measure of well-being. GDP Does Not Value:  the quality of the environment  leisure time  non-market activity, such as the child care a parent provides at home  an equitable distribution of income Then Why Do We Care About GDP?  Having a large GDP enables a country to afford better schools, a cleaner environment, health care, etc.  Many indicators of the quality of life are positively correlated with GDP. For example…  GDP and Life Expectancy in 12 countries 90 Bangladesh China Japan Life expectancy (years) 80 Mexico U.S. Brazil Germany 70 Russia Indonesia India 60 Pakistan 50 Nigeria 40 $0 $10,000 $20,000 $30,000 $40,000 $50,000 Real GDP per person 34  GDP and Average Schooling in 12 countries 14 Germany Japan 12 U.S. Average years of school 10 Russia China Mexico 8 Brazil 6 Indonesia 4 India 2 $0 $10,000 $20,000 $30,000 $40,000 $50,000 Real GDP per person 35  GDP and Water Quality in 12 countries 100% Indonesia Germany Satisfaction with water quality 90% Bangladesh U.S. Japan Brazil (% of population) 80% China 70% Mexico India 60% Pakistan Russia 50% Nigeria 40% $0 $10,000 $20,000 $30,000 $40,000 $50,000 Real GDP per person 36  Summary Gross Domestic Product (GDP) measures a country’s total income and expenditure. The four spending components of GDP include: Consumption, Investment, Government Purchases, and Net Exports. Nominal GDP is measured using current prices. Real GDP is measured using the prices of a constant base year and is corrected for inflation. GDP is the main indicator of a country’s economic well-being, even though it is not perfect. © 2015 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.