Macroeconomics Chapter Notes 1 Chapter 10 Measuring a Nation s Income The Economy s Income and Expenditure Gross Domestic Product o Everyone s total income of everyone o Total expenditure on the economy s output of goods and services o Income Expenditure through buyers and sellers Measurement of Gross Domestic Product GDP market value of all final goods and services produced within a country in a given period of time o Includes many products into a single measure of the value of economic activity o Market Prices reflect the value of those goods o Produced domestically regardless of the nationality of the producer Example GDP When a Canadian citizen works temporarily in the U S her production is part of American owns a factory in Haiti production of factory is not included Exclusions Inclusions o Produced and sold illicitly such as illegal drugs o Produced and consumed at home o All items produced in the economy and sold legally in markets o Housing services provided by the stock of housing o Final Goods Value Intermediate goods is already included in the prices of the final goods o Intermediate Goods produced and added to a firm s inventory of goods for use or sale at a later date which adds onto the gdp but subtracts after it is used or sold o Tangible Goods food clothing cars o Intangible Services haircuts house cleaning doctor visits o Goods and Services Currently Produced selling a new car is included selling a used car is not o Produced within a Country o In a Given Period of Time usually a year or a quarter three months Overall 1 In a Given Period of Time 2 Government Adds Up Total Income in Economy 3 Within the Country 4 Goods and Services Currently Produced 5 Tangible Goods and Intangible Services 6 Final Good Components of GDP Gross Domestic Product o Consumption Investment Government Purchases Net Exports o Y C I G NX 2 Consumption Goods Investment Spending by households on goods and services with the exception of purchases of new housing o Durable Goods automobiles and appliances o Nondurable Goods food and clothing o Intangible Services household spending on education haircuts and medical care Purchase of goods that will be used in the future to produce more goods and services Purchases of Capital Equipment Inventories Structures Government Purchases Spending on goods and services by local state and federal governments o Includes gov t salaries and expenditures on public works Transfer Payments o Not made in exchange for a currently produced good or service o Do not reflect the economy s production o Example Social Security Benefits for retired elders Equal the foreign purchases of domestically produced goods Exports minus the domestic purchases of Net Exports foreign goods imports Export Import Include Goods and Services produced abroad minus sign o Included in Consumption Investment and Government Purchases plus sign Real vs Nominal GDP Increase in Total Spending o Producing a larger output of Goods and Services o Increase in P for G S Economists measure of Total Q of G S the economy is producing that is not affected by the change in P Real GDP preferred by Economists 3 o Evaluating current production using prices that are fixed at past levels o Constant Base Year Prices to place a value on the production of G S o Shows how the economy s overall production of G S changes over time o Reflects E ability to satisfy people s needs and desires Nominal GDP o Current prices to place a value on the economy s production of G S o Reflects the Quantities and Prices of G S the economy is producing GDP Deflator Nominal GDP Real GDP x 100 M change in nominal GDP from the base year that cannot by attributable to a change in real GDP Measures the current level of prices relative to the level of prices in the base year Monitor the avg level of prices in the economy and rate of inflation Is GDP a Good Measure of Economic Well Being Perfect measure of economic well being because people prefer higher to lower incomes Does not directly measure those things that make life worthwhile o Measures our ability to obtain many of the inputs intro a worthwhile life Not a perfect measure of well being Excludes the value of leisure and value of a clean environment Shows how the economy is doing o Policy makers and economists need concrete data on which to base their judgments 4 Chapter 11 Measuring the Cost of Living The Consumer Price Index Measure of the overall cost of the goods and services bought by a typical consumer o Changes in cost of living o How much incomes must increase to maintain a constant standard of living Calculating the Consumer Price Index 1 Fix the Basket 2 Find the Prices o Determine which prices are most important to the typical consumer o Of each goods and services in the basket at each point in time 3 Compute the Basket s Cost o Use on the data on prices to calculate the cost of the basket of goods and services at different times 4 Choose a Base Year and Compute the Index o Designate on year as the base year the benchmark against which other years are compared 5 Compute the Inflation Rate 5 Bureau of Labor of Statistics BLS Computes and reports the consumer price index inflation rate producer price index Processes data on the prices of thousands of G S Determines how quickly the cost of living for the typical consumer is rising o Reports the index for specific metropolitan areas within the country o Narrow categories of g s Producer Price Index PPI Measures cost of a basket of G S bought by firms Useful in predicting changes in the CPI Problems in Measuring the Cost of Living 1 Substitution bias o Price index computed assuming a fixed basket of goods o Ignores possibility of consumer substitution o Overstates the increase in the cost of living from one year to the next 2 Introduction of New Goods o Consumers have more variety from which to choose each dollar is worth more o Reduces the cost of maintaining the same level of economic well being CPI based on a fixed basket of G S Does not reflect the increase in the value of the collar that arises from the introduction of new goods 3 Unmeasured Quality Change o Changes in quality remain a problem because quality is hard to measure GDP Deflator vs the Consumer Price Index Monitors both to analyze how quickly prices are rising Differences o 1 GDP Deflator reflects the prices of all G S produced domestically CPI reflects the prices of all G S bought by consumers o 2 How various prices are weighted to yield a single number for
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