GradeBuddy EC 111 1ST EditionLecture 7PREVIOUS LECTUREI. Income And ExpenditureII. The Circular Flow DiagramIII. GDP Is…IV. The Components Of GDPV. ConsumptionVI. InvestmentVII. Government PurchasesVIII. Net ExportsIX. Real Vs. Nominal GDPCURRENT LECTUREI. Real Vs Nominal GDPII. The GDP DeflatorIII. GDP and Economic Well-BeingIV. GDP Does Not Value…V. Why Do We Care About GDPVI. The Consumer Price Index (CPI)VII. How CPI Is CalculatedREAL VS NOMINAL GDP- Nominal GDP is measured using the (then) current prices- Real GDP is measured using the base year prices- The change in nominal GDP reflects both prices and quantities - The change in real GDP is the amount GDP would change if prices stayed constant- Real GDP is usually less than nominal o Usually the difference between the two is very large- Real GDP is corrected for inflation- Economists prefer the real GDPTHE GDP DEFLATOR- The GDP deflator: a measure of overall level of priceso Calculated as: (nominal GDP/Real GDP)*100- One way to measure the economy’s inflation rate is to compute the percent increase in the GDP deflator from one year to the next- Usually not quoted in the media- The GDP deflator for the base year is ALWAYS 100GDP AND ECONOMIC WELL-BEING- Real GDP per capita is the main indicator of the average person’s standard of livingGradeBuddy - GDP is not a perfect measure of well-being- Robert Kennedy issued a very eloquent yet harsh criticismGDP DOES NOT VALUE…- The quality of the environment- Leisure time- Non-market activity (child care provided by parents)- An equitable distribution of incomeWHY DO WE CARE ABOUT GDP- Having a large GDP enables a country to afford better schools, a cleaner environment, health care, ect.- Many indicators of the quality of life are positively correlated with GDP. For example:o Life expectancyo Literacyo Internet usage and technology- CPI and GDP deflator are measures of inflationTHE CONSUMER PRICE INDEX (CPI)- Measures the typical consumer’s cost of living- The basis of cost of living adjustment (COLAs) in many contracts and in socialsecurity- This is the one presented in the mediaHOW THE CPI IS CALCULATED1. Fix the Basket: the Bureau of Labor Statistics (BLS) surveys consumers to determine what’s in the typical consumer’s shopping basket2. Find the Prices: the BLS collects data on the prices of all goods in basket3. Compute the Baskets Cost: use the prices to compute the total cost of the basket4. Choose a Base Year and Compute an Index: the CPI in any year equals: 100*[Cost of basket in the current year/Cost of basket in the current year]5. Computed the Inflation Rate: percent change in CPI from the preceding period. Equals: [(CPI this period-CPI last period)/CPI last period]*100- The CPI for the base year is ALWAYS 100- There are millions of items in the
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