Econ 104 Final Exam Study GuideBill GoffeSection 1:- GDP: Real GDP vs. Nominal GDPGDP: The market value of all final goods and services produced in a country over a pd. of time.*transfer payments (ex: social security, unemployment insurance) is not counted in GDPbecause they’re payments by the Gov’t. *intermediate goods (ex: tires for a car) are also not counted because they’re inputs on final goods.4 Components of GDP (From an expenditure point of view):Y= C+I+G+NX  GDP= (consumption) + (investments) + (Gov’t purchases) + (net exports)1. Consumption: expenditures made by households2. Investment: Final goods and services purchased by business firms (ex: new buildings), changes in inventories, and residential construction purchased by households3. Government Purchases: spending by federal, state, and local governments4. Net Exports: (exports-imports)Real GDP:- The value of final goods and services evaluated at base-year prices.- The prices of goods/ services in base year are used to calculate value of goods. Services in all other years.Nominal GDP: Current Dollar GDP-The value of final goods and services evaluated at current-year prices.*In an economy with rising prices, nominal GDP will be smaller than real GDP in years before the base year, and nominal GDP will be greater than real GDP in years after the base year.* IN the base year: Nominal GDP= Real GDP- GDP Deflator: -measure of the average prices of goods and services compared to the base year.-we can use the values of real GDP and nominal GDP to calculate a measure of price levels in the economy.*Price Level: measures average prices of goods and servicesGDP Deflator= (Nominal GDP/ Real GDP) X 100*A value of the GDP Deflator of 120 tells us that the average prices of goods/ services is 20% higher than the average prices in the base year.GDP Limitations:-excludes 2 types of production:1. Household: goods and services people produce for themselves2. Underground Economy: buying and selling of goods and services that are concealed from the Gov’t to avoid taxes/ regulations because they’re illegal. *Small in U.S.*-GDP doesn’t measure leisure, unless leisure results in a market transaction (ex: spending on a vacation)-GDP doesn’t subtract costs of negative, non-market effects of production (ex: pollution and crime)- CPI (Consumer Price Index):-measures the average price of the goods and services purchased by a typical urban household.CPI= (Expenditures in current year/ expenditures in base year) X 100*A value of the CPI of 218 in a given year means that in that year, the average prices of the market basket has increased 118% from the base year.CPI Limitations: 1. Has a substitution bias because it’s constructed with assumption that people buy same goods/ services and don’t substitute for lower prices.2. Doesn’t fully take into account increases in quality of products over time. 3. Many times, older products are replaced with new, less expensive products.4. The CPI only collects data from traditional stores, and doesn’t sample prices at less expensive outlet stores (ex: Sam’s Club)- Inflation Rate:-rate of change in the index from one year to the next-most often used to measure growth-The base year doesn’t matter when calculating inflationInflation Rate t= [(Price Index t- Price Index t-1) / (Price Index t-1)] X 100*t= current year, (t-1)= previous year**If inflation rate falls between 2 years, the prices are still rising, just at a smaller rate of increase.-Deflation: a fall in prices in the economy-Disinflation: less inflation, prices are rising more slowly-Core Inflation Rate: measures inflation without food and energy*better sense of underlying inflation, because food and energy prices are volatile-Headline Inflation Rate: measures inflation with food and energy- Real Wages and Real Prices:Real Prices: removes inflation from a nominal price-2 ways to remove inflation:1. Subtraction Method: (Δ% real price) = (Δ% nominal price- inflation)*Also used for Δ% real wages*2. Division Method: (Δ% real price) = (nominal price 1) X (CPI 2 / CPI 1)- Real Interest Rates:-adjusts the nominal interest rate for inflation.Real Int. Rate= (Nominal Int. Rate – Inflation Rate)*provides a better measure of the true cost of borrowing and true rate of return to lending, than the nominal int. rate does.- Money:-an asset people are willing to accept in exchange for goods and services or payments ofdebt.-Serves 4 Functions:1. Medium of Exchange (dollars)2. Unit of Account3. Store of Value4. Standard of deferred payment (ex: loan agreement)-In the US, economists break it into 2 parts:M1: cash, checkable depositsM2: M1 + savings accounts*Credit Cards ≠ Money!- Harm from Inflation:-affects the distribution of income and can hurt people-people on fixed nominal income (ex: retirees relying on company pensions) are hurt-Anticipated Inflation: imposes costs by reducing purchasing power of assets (ex: money in checking). Creates additional costs to firms from raising prices (menu costs), the value of money declines-Unanticipated Inflation: affects the distribution of income, causing some people to gainand others to lose. Can decrease real wages, and real int. rates, *Fairly Rare*- Fiscal and Monetary Policy:Fiscal Policy: changes in federal expenditures and taxes-Can change independently of each other-Gov’t Budget Deficit= (expenditures – taxes)Monetary Policy: conducted by Fed. Reserve, Charted by Congress-Congress Mandate: Promote Max Employment and Stable Prices-Influences Federal Funds Rate (ex: interest rates)*A lower rate faster economic growth- Current Values:-Real GDP= $15.8 tril-Nominal GDP= $16.9 tril-CPI= 233.05-Inflation= 1.3%Section 2:- Economic Growth and Zero-sum-Zero Sum: one person’s gain comes as a loss for another person (ex: Poker)-Americans would do better with smaller shares of a rapidly growing economy, than with the large shares, they now possess, of an economy that’s barely moving. - Human Health and Economic Growth:-Long Run economic growth increases living standards-Best measure of living standards is real GDP per person-HIV/ aids slows economic growth-Good health is linked to economic growth, poor health undermines growth- Economic Growth and Changed Lives-Real GDP per capita has grown from $5,600 in 1900 to $42,349 in 2010-Today, the average American purchases 8X more than in 1900-Caused by an increase in labor productivity (output per worker), determined by 2 factors:1. Quantity