Gross Domestic Product [GDP]

1. National Income Accounting [NIA] Gross Domestic Product [GDP] & Its Four Cousins [NDP, NI, PI, & DI]

2. [18th Ed.] National Income Accounting [GDP and its four cousins] - C + Ig + G + Xn [X-M] = GDP–Depreciation= [what is for sale] NDP+NFFIEUS–Statistical discrepancy = NI–Un CorPro–Cor Inc Tax-Soc Sec-Taxesonpro &M+TP= [PIis what you canspend,save,orpay in taxes] PI – Personal Income Taxes = [DI iswhat you can spendorsave] [“Replacement capital”]

3. N.F.F.I. [U.S.A.Profits Overseas] Restof World $220bil. Foreign Profits inU.S.A. $209billion N.F.F.I. = $11 billion If U.S. Profits in the ROW are greater[$220]than foreign profits in the U.S.[$209],add the difference.

4. Components of Gross Domestic Product [C + Ig + G + X - M]

5. GDP = C(70%) + Ig(16%) + G(19%) + Xn(-5%) Expenditures Approach Personal Consumption Expenditure ( C ) • Durable ConsumerGoods[11%] • Nondurables[29%][soup & soap] • Consumer Expenditures for Services[60%] Maytag produced here Spending by HH on all g/s except for new housing. Ferrari produced here

6. Expenditures Approach Personal Consumption Expenditure ( C ) Let’s say this Porsche is produced by a foreign company in Plano, Texas. Gross Private Domestic Investment (Ig) 3 Subcategories[*spending on output not consumed] A. Businessspending on realcapital- tools, machinery, & plants B. New construction (Residential) investment – construction of new houses & apartments [can rent for financial return]. C. Unsold inventory output is “inventory investment.” Firms have pur- chased their unsold output. [Anet increase in inventories isinvestment; a net decrease in inventoriesisnegative investmentor disinvestment(disinvestmentrepresents sale ofoutput produced in a previous year) U.S. capital stock is over $30 trillion.

7. Expenditures Approach Personal Consumption Expenditure ( C ) Gross Private Domestic Investment ( Ig ) Government Purchases (G) [state, local & federal] [“G” purchases of goods/svcs produced (not transfer payments) 3 Subcategories of Government A. Federal government [40%] B. 50 State governments C. 88,000 local governments [60% for state and local]

8. Expenditures Approach Personal Consumption Expenditure (C) Gross Private Domestic Investment (Ig) Government Purchases (G) Net Exports( Xn) Net Exports (Xn)=Exports (X)–Imports (M) [M represents productionoutside a country]

9. Government Purchases 19% Net Exports -5 % Investment 16% Consumption 70% GDP and Its Components (2007)

10. GLOBAL PERSPECTIVE Comparative GDPs in Trillions, 2008 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 U.S. Japan China Germany France U.K Italy Russia Brazil Canada Spain India Mexico Australia South Korea 14.3 4.5 4.2 3.8 3.0 2.9 1.8 Calif. 1.8 1.7 1.6 1.5 1.5 1.2 TX 1.1 1.1 1.0 953

11. We make up4.7%of the world’s population, but produce 18% of GDP [output]. Gross World Product is $60 trillion/6.7 bil.= $9,000 So, World Per Capita is about$9,000. China, India, Indonesia, & Bangladesh have over 40% of the world’s population, but produce only 20% of the world’s GDP. California, with a $1.7 trillion GDP would be number 7. Texas, at $1.1 trillion would be the 8th largest country. Texas produces 20% more than India. We have 18% of the world’s GDP, 25% of global trade, 40% of world stock market capitalization, and nearly 50% of the world’s largest companies.

12. [Selected Countries] Per Capita GDP - 2008 Country Per Capita Sweden 36,900 U.K. 35,300 Germany 34,400 France 33,800 Japan 33,800 Italy 31,000 Australia 24,000 Russia 14,600 Mexico 12,500 China 6,300 Swaziland 4,800 Liberia 500 Congo, Rep of 300 Zimbabwe 200 Country Per Capita Qatar 101,000 Luxembourg 85,100 Bermuda 69,900 Kuwait 60,800 Norway 57,500 U.S. $48,000 Ireland 45,600 Hong Kong 42,000 U.A.E. 40,000 Switzerland 39,800 Iceland 39,400 Canada 38,200 Australia 37,500 Denmark 37,400 China and India are still poorer than he U.S. was in 1900. 75% of Africans live on less than $2 a day & it is getting worse.

13. GDP – measures legal production in U.S. in one year. To Be or Not To Be Counted in GDP What 8 Things Do Not Count In GDP GDP measures allfinal goods/services produced by workers and capital located in the U.S., regardless of ownership. [Domestically located resources] Final goods are goods ready for consumption.

14. What Eight Things Do Not Count In GDP? 1. Intermediate Goods – components of the final good. A. Ford buys batteries or tires for its cars. B. KFC buys chickens to eventually sell to customers.

15. GDP - what is not counted [#2] 2. 2nd Hand Sales – no current production. A. 1957 Chevy bought in 2007 57 Chevy [Gas was 30¢ gallon.] Salesman [It has not been produced again in 1963 & would not count.] The salesman is doing productive work. His commission would count. B. Boots produced in 1980 are bought in a Thrift Store in 09. They also have not been produced again. Salesman’s commission would count. You are buying his services. Shoe salesman

16. The next two slides are “Nonproduction Transactions”[ just “Financial Transactions”] They include:A. Stock Market Transactions B. Public Transfer PaymentsC. Private Transfer Payments

17. GDP - what is not counted [#3] 3. Purely Financial Transactions – stocks, bonds, CDs. There is no current production. Ex: If 100 shares of Dell stock is bought Buying stock is not buying a product but buying ownership of the firm. Buying bonds is making a loan. I’m not buying a Dell computer but part ownership of Dell. Exchanging one financial asset for another [swapping bits of paper]

18. “Now that I’ve gotten my welfare check, I can get an iPhone 3G” GDP – what is not counted [#4]. 4. Public Transfer Payments–welfare, unemployment, social security. [There is nocontribution to final production] Also, Private Transfer Payments, like your parents giving you $250 cash for Christmas, or - $100 for making an “A” in economics. [Just transferring funds from one private individual to another private individual]

19. 5. Unreported “Legal” Business Activity Unreported“legal”business activity [tax avoidance[does not count. This is two-thirds of the “underground economy.” Before LASIK Surgery And what if the dentist doesn’t report $400 for teeth whitening? Then he has LASIK but the surgeon doesn’t report $500 of his $3,400 bill? And what if this waitress doesn’t report all tips?

20. 6. Illegal business activity is also not counted. Illegal business activity, becauseit goes unreported, also does not count. Making up 1/3 of the “underground economy,” also called the [“black market”] it includes murder for hire, gambling, drugs, prostitution, and money laundering. “I’m getting $1,000 to kill you, Ziggy, but at least it will not count in GDP.” Money Laundering Making money illegally (drug money) and making it look like it was legally earned (like buying a laundry mat or car wash that deal in cash) and report it as legally earned.

21. U.S. Underground Economy Illegal $300 B Legal $600 B Drugs $120 Self Employed$255 Bribery $35 Gambling and Loan Sharking $10 Other Legal $25 Rents & Royalties $30 Pornography $20 Fraud $30 Corporate Profits $50 Other Illegal $20 Prostitution $30 Interest $55 Stolen Goods $35 Wages and Salaries $185 What gets reported is the “Above Ground” What doesn’t get reported is the “Underground”

22. U.S. Underground Economy Underground Economy[compared to “above ground”] Unreported exchanges that take place - legal and Illegal [Hidden – “off the books”] Total illegal activities - $300 billion Totallegalactivities - $600 billion Totallegal and illegal -$900 billion Underground Economy 1. Illegal business activities (1/3) – gambling, narcotics trade, prostitution, loan sharking, etc. 2. Unreported legal business activities (2/3) a. waitresses not reporting all of her tips b. Cabdriver not reporting all of his income c. Self employed cheat the most. Off-the-books cash transactions d. $300 billion *IRS estimates that about $300 billion in income taxes from the underground economy escapes federal taxes each year. $300 B

23. Underground Economy [as a Percentage of GDP for Select Nations] Percentage of GDP 0 5 10 15 20 25 30 Mexico S. Korea India Italy Spain China Sweden Germany France United Kingdom Japan Switzerland United States Source: Journal of Economic Literature

24. 7. Non-market Transactions Are Not Counted Work in your own household or volunteer workin the community does not count because there was no payment. You need to do some of this housework.

25. 8. U.S. Corporations Producing Goods Overseas Nike in Indonesia GM in France IfU. S. corporationsproduce goods overseas, it does not count in GDP, but would count in GNP. Remember, we are measuring production inside the U.S. Imports represent production outside of the U.S.

26. Eight Things Not Counted in GDP [no production] • Second Hand Sales[no production] • Public/Private Transfer Payments • Purely Financial Transactions • Intermediate Goods 5. U.S. Corporations producing overseas 6. Non-market transactions [household or volunteer work] Underground Economy 7. Illegal business activity 8. Unreported legal business activity

27. Do These Count in GDP? -When Outback buys potatoes for baked potatoes • When a tattoo business buys ink for tattoos • When Tom Thumb buys spam to sell it to you • When the popsicle maker buys the sticks • Dell buys a computer monitor frame • Ice cream that Braums buys for sundaes • A bakery buys an apple to put in its pies • When Ford buys a windshield wiperfor a car • When hooker, J-Lo Ho, is paid $200.00

28. Is It Counted In GDP? On the next slide, read each sentence and determine, “To Be or Not To Be Counted?” That is the question. If “Yes”, put “Y” and tell if it is “C”, “Ig”, “G”, or “X”. If “No”, put “N” and give the number from below on why it is not counted in GDP. GDP DOES NOT INCLUDE 1. Second hand sales [no current production] [but the salesman’s commission counts] 2. Public/Private transfer payments [no current production] 3. Purely financial transactions [no current production] [broker’s fees do count] 4. Intermediate goods [component of final good] 5. U.S. corporations producing overseas. 6. Non-market transactions [ household or volunteer work. Underground Economy [not reported] 7. Illegal business activity [prostitution, murder-for-hire, illegal drugs, etc.] 8. Unreported legal business activity [“off the books”] Example: C Y ___ ___ 1. New Toyota Tundra truck manufactured in San Antonio and sold to your economics teacherthe year it was produced. ___ ___ 2. You buy a new Wii at GameStop in 2008. Does it count if you resell it on eBay in March of 2009? 1 N

29. Is It Counted In GDP? ___ ___ 1. You buy a purple “TinkyWinky” from Wal-Mart. ___ ___ 2. You and your family paint your house. [labor involved] ___ ___ 3. You marry your housemaid. [“working-for-love”] [her services] ___ ___ 4. You buy 100 shares of Microsoft Corporation. ___ ___ 5. You volunteer to babysit your little sister to help your parents while they work. ___ ___ 6. Bob buys a 1965 ford Mustang convertible which is in mint condition. ___ ___ 7. The salesman gets a commission [pay] for selling that 1965 Ford Mustang in 2008. ___ ___ 8. You and your friend volunteer to cook at the senior class picnic. ___ ___ 9. Dr. Payne does $1,000 worth of dental work but reports only $500 of it. Does the $500 the dentist keeps and doesn’t report count? ___ ___ 10. You are given s suitcase full of $100 bills from the sale of smuggled drugs. ___ ___ 11. Your mother is teaching you to read [and not having much success]. ___ ___ 12. Your dad bakes you a home-baked loaf of bread. [his labor] ___ ___ 13. You buy a loaf of bread from Kroger’s Grocery Store. ___ ___ 14. The U.S. government purchases 5 B-2 Bombers for $2 B each. ___ ___ 15. Ford buys a ton of sheet metal used in making car doors. ___ ___ 16. You buy a new “iPod Classic” from the Apple store, ___ ___ 17. You send in a $90 check to your dentist for cleaning your teeth. ___ ___ 18. Your family buys a new house next to the mansion of Bill Gates. ___ ___ 19. 100 additional teachers are hired by the Frisco ISD. ___ ___ 20. GM invest in $500 million worth of robots to assemble their cars. ___ ___ 21. You volunteer 10 hours a week of your time to work for senior citizens. ___ ___ 22. Ford produces 25,000 new F150s which are not sold by the end of the year. ___ ___ 23. Russia buys 3,000 Dell computers as they become Rusky Dell Dudes. ___ ___ 24. A man’s wife does all his cooking and sewing, working for him 16 hours per day. ___ ___ 25. Nike produces $10 million worth of Nike Air Jordan’s in Vietnam. C Y 6 N N 6 3 N 6 N 1 N C Y 6 N 8 N 7 N N 6 N 6 • 2ndHd sales • Transfers • Financial • Intermediate • Overseas • Non-market • Illegal • Unreported C Y G Y 4 N Y C C Y Ig Y G Y Ig Y 6 N Ig Y X Y 6 N 5 N

30. 18th Ed. NIA – 2007 [$13,841] “UCanSee Those Thunderducks” $9,734 [“C”] Consumption [66%] -Depreciation $1,687 -$344 UndisCor Pro -$467 Corp Inc Tax -$8979Soc Sec Con -1009 Taxes on pro.& M +N.F.F.I. $34 Y earned/not received $12,154 [Replacement capital] [births-deaths] “Available for sale” -Statistical Discrep. $29 [to make the income approach match the expenditure approach] +$2,237 Trans Pay Y received/not earned $11,659 PI is what we can spend, save, or pay in taxes. “Income received by households, whether earned or unearned” • Personnel • Taxes • -$1,482 Gross Private Domestic Investment $2,125 $12,221 “Income earned by U.S. resources” plus taxes on pro- duction & imports $10,177 DI is what we can SPEND or SAVE. ROW[$264] U.S. [$230] NFFI = $34 Government Purchases $2,690 Xn(X-M) -$708 NDP PI GDP NI DI

31. Depreciation, Investment&Disinvestment Positive Net Investment IgexceedsDepreciation Negative Net Investment DepreciationexceedsIg Ig $2,105 Trillion In Investment of$531 bil. Depreciation 1933 $7.6 billion [in current dollars] Disinvestment of $6 billion Great Depression [1933] Expanding productive capacity Declining productive capacity Depreciation 2005 $1,574 Trillion Ig $1.6 billion Ig($1.6)-D($7.6)=(Disinv. of $6) (Disinvest. of $6)+D($7.6)=($1.6) Ig($1.6)–Disinv.($6)=(Depr. of $7.6) Ig($2,105)-D($1,574)=(In of $531) In($531)+D($1,574)= (Ig of $2,105) Ig($2,105)-In($531)=(Depr. of$1,574)

32. THE MIX OF OUTPUT IN 1900 THE MIX OF OUTPUT IN 2000 Construction and Mining 6% Construction and Mining 9% Government 18% Manufacturing 22% Farming 2% Services 22% Farming 37% Manufacturing 20% Services 54% Government 10% A Century of GDP Changes

33. N.F.F.I. [U.S.A.Profits Overseas] Restof World $220billion Foreign Profits inU.S.A. $210billion N.F.F.I. = $10 billion If U.S. profits in the ROW [$220] are greater than foreign profits in the U.S. [$210],add the difference.

34. Elaborate Circular Flow Showing NIA G D P DI PI NI NDP

35. [18th Edition]NIA Practice – “How To Do It” Personal taxes 403 -Undistributed corp. profits46 Imports 362-Social Security contrib. 169 +Transfer payments 283Personal consumption 2,316 -Corporate Income Taxes 88Gross private domes invest. 503 -Taxes on prod. & imports 231 Government purchases 673 Exports 465Depreciation [Capital consumption] 307 Statistical Discrepancy 10 N.F.F.I.E. in the U.S. -12 I’m going through an academic recession. C = $_______ Ig = $_______ G = $_______ Xn = $_______ Gross Domestic Product (GDP) -Consumption of fixed capital Net Domestic Product (NDP) +Net For. Factor Inc. Earn. U.S. -Statistical Discrepancy National Income (NI) -Undistributed Corporate Profits -Corporate income taxes -Social Security Contributions -Taxes on prod. & imports +Transfer payments Personal Income (PI) -Personal Taxes Disposable Income (DI) 2,316 $_____ ______ $______ ______ ______ $_____ ______ ______ ______ ______ ______ $_____ ______ $_____ 503 English C Accounting C American History D Economics F 673 +103 ROW $100 3,595 -307 3,288 -12 -10 $112 3,266 -46 -88 -534 -169 NFFI = -$12 -231 +283 3,015 -403 2,612

36. National Income Accounting

37. [18th Edition] Personal taxes 370 -Undistributed corp. profits65 Statistical Discrepancy 12-Social Security contrib. 158 +Transfer payments 330Personal consumption 1,820 -Corporate Income Taxes 98Gross private domes invest. 447 -Taxes on prod. & imports 265 Government purchases 587 Exports 377Depreciation [capital consumption] 317 Imports 348N.F.F.I.E. in the U.S. 10 NIA #1 C = $ Ig = $ G = $ Xn = $ Gross Domestic Product (GDP) -Consumption of fixed capital Net Domestic Product (NDP) +Net For. Factor Inc. Earn. U.S. -Statistical Discrepancy National Income (NI) -Undistributed Corporate Profits -Corporate income taxes -Social Security Contributions -Taxes on prod. & imports +Transfer payments Personal Income (PI) -Personal Taxes Disposable Income (DI) 1,820 447 587 +29 $2,883 -317 $2,566 +10 -12 $2,564 -65 -98 -158 -265 +330 $2,308 -370 $1,938 ROW $110 $100 NFFI = $10

38. [18th Edition] Exports 95-Undistributedcorp. profits37 Imports 75-Social Security contrib. 25 +Transfer payments 39Personal consumption 310 -Corporate IncomeTaxes 55 Gross privatedomes invest. 85 -Taxes on prod. & imports15 Government purchases 130 Personal taxes 60 N.F.F.I.E. -18 Statistical Discrepancy 15 Depreciation 25 NIA #2 C = $ Ig = $ G = $ Xn = $ Gross Domestic Product (GDP) -Consumption of fixed capital Net Domestic Product (NDP) +Net For. Factor Inc. Earn. U.S. -Statistical Discrepancy National Income (NI) -Undistributed Corporate Profits -Corporate income taxes -Social Security Contributions -Taxes on prod. & imports +Transfer payments Personal Income (PI) -Personal Taxes Disposable Income (DI) 310 85 130 +20 $545 -25 $520 -18 -15 $487 -37 -55 -25 -15 +39 $394 -60 $334 ROW $100 $118 NFFI = -$18

39. [18th Edition] Personal taxes 50 -Undistributed corp. profits23 Exports 109-Social Security contrib. 40 Imports 89 Personal consumption 358 +Transfer payments41Gross private domes invest. 130 -Corporate income taxes 38Government purchases 165 -Taxes on prod. & imports 21Depreciation [capital consumption] 45 Statistical Discrepancy 8 N.F.F.I.E. in the U.S. -23 NIA #3 C = $ Ig = $ G = $ Xn = $ Gross Domestic Product (GDP) -Consumption of fixed capital Net Domestic Product (NDP) +Net For. Factor Inc. Earn. U.S. -Statistical Discrepancy National Income (NI) -Undistributed Corporate Profits -Corporate income taxes -Social Security Contributions -Taxes on prod. and imports +Transfer payments Personal Income (PI) -Personal Taxes Disposable Income (DI) 358 130 165 +20 $673 -45 $628 -23 -8 $597 -23 -38 -40 -21 +41 $516 -50 $466 ROW $100 $123 NFFI = -$23

40. [18th Edition] Personal taxes 60 -Undistributed corp. profits16 Exports 37-Social Security contrib. 32 Imports 23 Personal consumption 312 +Transfer payments50Gross Investment 104 -Corporate income taxes 42Government purchases 110 -Taxes on prod. & imports 34N.F.F.I.E. in the U.S. -30 Depreciation[cap. Consumption] 24 Statistical Discrepancy 14 NIA #4 C = $ Ig = $ G = $ Xn = $ Gross Domestic Product (GDP) -Consumption of fixed capital Net Domestic Product (NDP) +Net For. Factor Inc. Earn. U.S. -Statistical Discrepancy National Income (NI) -Undistributed Corporate Profits -Corporate income taxes -Social Security Contributions -Taxes on prod. and imports +Transfer payments Personal Income (PI) -Personal Taxes Disposable Income (DI) 312 104 110 +14 $540 -24 $516 -30 -14 $472 -16 -42 -32 -34 +50 $398 -60 $338 A “streaker” ROW $100 $130 NFFI = -$30

41. GDP • GDP can be measured either by total spending on U.S. production or by total income received from that production. • Expenditure approach[C+Ig+G+Xn] • Adds up the aggregate expenditure on all final goods and services produced during that year Gross Domestic Production • Income approach [R+I+P+SA+W (RIP SAW)] • Adds up the aggregate income earned during the year by those who produce that output Gross Domestic Income[sales]

42. Two Approaches to GDP Expenditure Approach Gross Domestic Production Income Approach Gross Domestic Sales Rents Consumption by Households + + Interest + Investment by Businesses G D P + Profits + = = Government Purchases Statistical Adjustments [corporate income taxes, Dividends, undistributed Corporate profits] + + Expenditures By Foreigners Wages

43. The Circular-Flow Diagram Resource Market 1 $ 2 $ • Goods/services? • Consumer expenditures? • Land, labor, capital and • entrepreneurial ability? • Rent, wages, interest, • and profits? Households Businesses $ $ 3 4 Product Market

44. THE INCOME APPROACH [RIP SAW] Compensation of Employees Rents Interest Profits [Proprietors’ Income] SA [statistical adjustments] Corporate Income Taxes Dividends Undistributed Corporate Profits Wages

45. Expenditure and Income Approach to GDP [2007] Receipts: Expenditures Approach C $9734 Ig 2125 G 2690 Xn-708 GDP $13,841 Allocations: Income Approach____ Compensation of employees $7874 Rents 65 Interest 603 Proprietor’s income 1043 Corporate Profits 1627 Taxes on production & imports1009 National Income $12,221 Net Foreign Factor Inc 96 Statistical Discrepancy29 Consumption of fixed capital1687 GDP $13,841

46. FRQ 2007 Answer: No, it was counted the year it was produced. Because it was not produced again, it would not be counted. That would be double counting. [2 pts: 1 pt for saying not included and 1 pt for saying not produced in 2006] 3. [8 pts] Indicate whether each of the following is counted in the U.S. GDP for the year 2006. Explaineach ofyour answers. (a) The value of used textbooksold through online auction in 2006. b. Rent paid in 2006 by residents in an apartment building built in 2000 Answer: Yes, rents consist of the income received by the households and businesses that supply property resources. The properties have to be maintained or “serviced” each year. It is included in the income approach to GDP. [2 pts: 1 pt for “yes” and 1 pt for saying this is the payment for services] c. Commissions earned in 2006 by a stockbroker Answer: Yes, payment is being made for productive services of the broker. So the purchase of stocks would not count but his work would. [2 pts: 1 pt for “yes” and 1 pt for saying this is the payment for services] d. The value of autos produced in 2006 entirely in South Korea by a firm fully owned by U.S. citizens Answer: No, GDP measures production inside the U.S. regardless of ownership. These autos were produced in South Korea. [2 pts: 1 pt for “not included” and 1 pt for saying produced in Korea]

47. What is the difference between Nominal GDP [prices of output in the current year] [measures “output and prices”] and Real GDP [base year prices of the year being measured] [measures “only output”]

48. Importance of Real GDP in Determining aRecession Real GDP measures current output at base-year prices. Apple GDP Example A country produces 10 apples in base year x $1; Nominal [current] & Real [constant]GDP both=$10 Year 2: A country produces 10 apples x $1.25; Nominal GDP=$12.50 (no recession but worse off) [Real GDP would = $10 (10 apples x $1)] Or Year 2: Acountry produces 9 apples x $1.25; Nominal GDP=$11.25 but real is $9 (9 apples x $1) (recessionalthough nominal GDP is up)

49. Nominal[money]GDPv. Real GDP An increase in prices and/or output will increase nominal GDP. Only an increase in output will increase real GDP. Nominal GDP could increase even if output falls. Real GDP = Nominal Y/GDP deflator x 100 So,nominal GDP measures output & prices. Real measures only output [actual production] Constant (real) GDPv.current (money) GDP

50. No Recession [Real GDP must decline for 6 months]