III THE DATA OF MACROECONOMICS

1. III THE DATA OF MACROECONOMICS

2. 5 Measuring a Nation’s Income

3. Microeconomics and Macroeconomics • Microeconomics is the study of how individual households and firms make decisions and how they interact with one another in markets • Macroeconomics is the study of the economy as a whole • Its goal is to explain the economic changes that affect many households, firms, and markets at once CHAPTER 5 MEASURING A NATION’S INCOME

4. Macroeconomics • Macroeconomics answers questions like these: • Why is average income high in some countries and low in others? • Why do prices rise rapidly in some time periods while they are more stable in others? • Why do production and employment expand in some years and contract in others? CHAPTER 5 MEASURING A NATION’S INCOME

5. The Importance of Data • In macroeconomics, data is crucial • Data helps policy makers see what problems, if any, need to be addressed • Data helps macroeconomists identify the theories that make correct predictions and the theories that make incorrect predictions • Data often reveals interesting puzzles that macroeconomic theories need to solve CHAPTER 5 MEASURING A NATION’S INCOME

6. Total Income • When judging whether an economy is doing well or poorly, it is natural to look at the total income that everyone in the economy is earning CHAPTER 5 MEASURING A NATION’S INCOME

7. Total Income • We can temporarily boost our standard of living by borrowing from others. • But in the long run we can’t keep borrowing indefinitely • This is why a nation’s standard of living depends heavily on its total income CHAPTER 5 MEASURING A NATION’S INCOME

8. Income = Expenditure • We could measure either total income or total expenditure • We will get the same number either way • For an economy as a whole, income must equal expenditure because: • Every transaction has a buyer and a seller. • Every dollar of spending by some buyer is a dollar of income for some seller. CHAPTER 5 MEASURING A NATION’S INCOME

9. But what about saving? • Q: People typically save part of what they earn. How then is income equal to expenditure for the economy as a whole? • A: What people save tends to be loaned to businesses who then spend what they borrowed. CHAPTER 5 MEASURING A NATION’S INCOME

10. International Trade • We buy foreign-made goods and foreigners buy goods made by us • Q: In that case, how can our total income be equal to our total expenditure? • A: Very good point! It is better to say that total income equals the total expenditure on domestically produced goods (GDP) CHAPTER 5 MEASURING A NATION’S INCOME

11. Gross Domestic Product • Gross Domestic Product (GDP) is one measure of a country’s total income • There are other measures • GDP is the total market value of all final goods and services produced within a country in a given period of time. • For example, the GDP of the United States was nearly seventeen trillion dollars in 2013 • $16,803.0 billion, according to the U.S. Department of Commerce CHAPTER 5 MEASURING A NATION’S INCOME

12. Gross Domestic Product • We just saw that GDP is the total market value of all final goods and services produced • Therefore, GDP is also the total expenditure on all final goods and services produced • As expenditure is equal to income, GDP is also total income CHAPTER 5 MEASURING A NATION’S INCOME

14. GDP is the Market Value … • In GDP, all output is valued at market prices. • The market value of all sandwiches produced is both the total expenditure of the buyers of those sandwiches and the total income of the makers of those sandwiches • As our goal is to measure total income, it therefore makes sense to measure the market values of the various produced goods and add them up CHAPTER 5 MEASURING A NATION’S INCOME

15. … Of All Final Goods … • GDP records only the value of final goods, not intermediate goods • Intermediate goods are those goods that disappear inside other goods that are produced for sale • Final goods are goods that are not intermed iate goods • This way, the value of intermediate goods is counted only once, not twice or thrice. CHAPTER 5 MEASURING A NATION’S INCOME

16. … Of All Final Goods … • Intermediate goods are sold by their producers to producers of other goods • Examples: milk sold by a dairy to an ice-cream company, grapes sold by a vineyard to a winemaker, printer paper sold to Kinko’s • Final goods are goods that are sold to the final users of those goods • Examples: milk you buy at the supermarket, table grapes you buy at the farmer’s market, printer paper you buy for your computer printer • All goods made this year but not sold by year’s end are regarded as final goods (inventories) CHAPTER 5 MEASURING A NATION’S INCOME

17. … Of All Final Goods … • Suppose a dairy farmer sells milk worth $50,000 to an ice-cream company. • The farmer does not buy anything from any other firm. • The total income of the dairy farmer and her employees is, therefore, $50,000 • The ice-cream company uses the milk to produce ice-cream which it sells for $75,000. • The ice-cream company does not buy anything from any firm other than the dairy. • Therefore, the total income of the owners and employees of the ice-cream firm is $25,000. • Therefore, the total income of this country is $75,000 • This is accurately measured by the value of the ice-cream (the final good) alone • Had we also counted milk, the intermediate good, we would have calculated total income to be $125,000, which would have been an exaggeration. CHAPTER 5 MEASURING A NATION’S INCOME

18. … and Services … • GDP includes both • tangible goods (food, clothing, cars) and • intangible services (haircuts, housecleaning, doctor visits, legal consultations). • Trade in assets does not affect GDP. • Such trade does not require new productive activity, it is merely the transfer of ownership of an asset from one person to another CHAPTER 5 MEASURING A NATION’S INCOME

19. … Produced Within a Country … • GDP measures the value of all production within the geographic boundaries of a country. • The citizenship of the owners of the resources used in production is not the key issue • Production by foreigners living in a country is counted in the country’s GDP • Production by a country’s citizens working in other countries is not counted CHAPTER 5 MEASURING A NATION’S INCOME

20. … In a given period of time • GDP measures the value of production that takes place within a specific interval of time, usually a year or a quarter (three months). • GDP includes goods and services currently produced, not transactions involving goods produced in the past. • Transactions involving used cars or buildings that were constructed in the past are not counted CHAPTER 5 MEASURING A NATION’S INCOME

21. What’s not counted in GDP? • GDP includes all items produced in the economy and sold legally in markets. • It excludes items produced and sold illicitly, such as illegal drugs. • GDP excludes most items that are produced and consumed at home and that never enter the marketplace. CHAPTER 5 MEASURING A NATION’S INCOME

22. Real Versus Nominal GDP • Nominal GDP values the production of goods and services at current prices. • Real GDP values the production of goods and services at constant prices. CHAPTER 5 MEASURING A NATION’S INCOME

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24. Real and Nominal GDP of USA CHAPTER 5 MEASURING A NATION’S INCOME

25. The GDP Deflator • The GDP deflator is a measure of the overall level of the prices of the final goods and services produced within a country during a given period of time CHAPTER 5 MEASURING A NATION’S INCOME

26. The GDP Deflator • It tells us what part of the rise in nominal GDP over a period of time is attributable to a rise in prices rather than a rise in the quantities produced. CHAPTER 5 MEASURING A NATION’S INCOME

27. The GDP Deflator • The GDP Deflator is calculated as follows: CHAPTER 5 MEASURING A NATION’S INCOME

28. Example: 2013 • US Nominal GDP was $16,803.0billion • US Real GDP was $15,767.1billion (chained 2009 dollars) • US GDP Deflator = (16,803.0/15,767.1) × 100 = 106.57 • This means that, roughly, final goods and services were on average 6.57% pricier in 2013 compared with 2009 CHAPTER 5 MEASURING A NATION’S INCOME

29. The GDP Deflator • Why call it a deflator? • Nominal GDP changes from one year to the next partly because of inflation • Real GDP, on the other hand, changes because of changes in production alone • The GDP Deflator can convert Nominal GDP to Real GDP by deflating the effect of inflation in Nominal GDP CHAPTER 5 MEASURING A NATION’S INCOME

30. Converting Nominal GDP to Real GDP • We just saw that • Therefore, • Therefore, if you know the Nominal GDP and the GDP Deflator, you can calculate the Real GDP CHAPTER 5 MEASURING A NATION’S INCOME

31. The Components of GDP CHAPTER 5 MEASURING A NATION’S INCOME

32. The Components of GDP • We have seen that GDP is the total expenditure on domestically-produced final goods and services • Knowing the total expenditure is not enough, however • We also need to know the components of the total expenditure CHAPTER 5 MEASURING A NATION’S INCOME

33. The Components of GDP • If total expenditure falls, total income will fall too … • … which is not good! • To figure out why total expenditure is falling, policy makers need to find out whether some particular component of expenditure is chiefly responsible for the fall in total spending • If the chief culprit is identified, policy makers would have a better chance of fixing the problem

34. Components of GDP • GDP = Consumption Spending + Investment Spending + Government Spending + Exports – Imports • Macroeconomists look not only at total spending (GDP), they also look at the above components of total spending CHAPTER 5 MEASURING A NATION’S INCOME

35. The Components Of GDP • Consumption (C): • The spending by households on goods and services, with the exception of purchases of new housing. • Investment (I): • The spending on capital equipment, inventories, and structures, including new housing. CHAPTER 5 MEASURING A NATION’S INCOME

36. The Components Of GDP • Government Purchases (G): • The spending on goods and services by local, state, and federal governments. • Does not include transfer payments because they are not made in exchange for currently produced goods or services. • Net Exports (NX): • Exports minus imports. CHAPTER 5 MEASURING A NATION’S INCOME

37. The Components Of Real GDP: 2013 CHAPTER 5 MEASURING A NATION’S INCOME

38. The Components Of Nominal GDP: 2013 CHAPTER 5 MEASURING A NATION’S INCOME

39. Components of GDP • GDP = Consumption Spending + Investment Spending + Government Spending + Exports – Imports • Q: Why do we subtract imports? CHAPTER 5 MEASURING A NATION’S INCOME

40. Components of GDP: Why do we subtract imports? • GDP is the total spending on all final “Made in USA” goods. • But consumption, investment, and government spending all include spending on foreign goods. • Therefore, to make the two sides of the equation the same, we must take out all spending on imported goods lurking inside consumption, investment, and government spending CHAPTER 5 MEASURING A NATION’S INCOME

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44. U.S. Exports and Imports, as a percentage of real GDP CHAPTER 5 MEASURING A NATION’S INCOME

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46. Growth Rates • To calculate the growth rate of some variable (such as GDP), use the following formula:

47. http://research.stlouisfed.org/fred2/series/GDPCA CHAPTER 5 MEASURING A NATION’S INCOME

48. Where to find US data • Bureau of Economic Analysis, U.S. Department of Commerce: http://bea.gov • Federal Reserve Bank of St. Louis: http://research.stlouisfed.org/fred2/categories/18 CHAPTER 5 MEASURING A NATION’S INCOME

49. International Comparisons • When the GDP numbers for various countries’ are being compared, the same currency units must be used for all countries • There are two ways of converting from national countries to the US dollar (or some othercommon currency) • Use market exchange rates • Use a common set of prices (PPP) CHAPTER 5 MEASURING A NATION’S INCOME

50. GDP per capita, in US dollars Source: World Economic Outlook 2008 database, IMF CHAPTER 5 MEASURING A NATION’S INCOME