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Introduction to Gross Domestic Product

Introduction to Gross Domestic Product. Learning Objectives. Define gross domestic product and explain how it is measured using the expenditure approach. Explain the difference between nominal and real GDP. GDP Dating Exercise.

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Introduction to Gross Domestic Product

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  1. Introduction to Gross Domestic Product

  2. Learning Objectives • Define gross domestic product and explain how it is measured using the expenditure approach. • Explain the difference between nominal and real GDP.

  3. GDP Dating Exercise • Describe the empirical facts before you (ie. GDP generally increases). • Identify peaks, valleys what happened. • Is there regularity in the frequency of changes?

  4. Expansion and Contraction:The Business Cycle • An expansion, or boom, is the period in the business cycle from a trough up to a peak, during which output and employment rise. • A contraction, recession, or slump is the period in the business cycle from a peak down to a trough, during which output and employment fall.

  5. Real GDP, 1900-2002

  6. Real GDP, 1970 I-2003 II

  7. Macroeconomic Concerns • Three of the major concerns of macroeconomics are: • Inflation • Unemployment • Output growth

  8. Output Growth:Short Run and Long Run • The business cycle is the cycle of short-term ups and downs in the economy. • The main measure of how an economy is doing is aggregate output: • Aggregate output is the total quantity of goods and services produced in an economy in a given period.

  9. Output Growth:Short Run and Long Run • A recession is a period during which aggregate output declines. Two consecutive quarters of decrease in output signal a recession. • A prolonged and deep recession becomes a depression. • Policy makers attempt not only to smooth fluctuations in output during a business cycle but also to increase the growth rate of output in the long-run.

  10. The Components ofthe Macroeconomy • Everyone’s expenditure is someone else’s receipt. Every transaction must have two sides.

  11. An Overview of National Income and Product Accounting (NIPA) • Detailed calculations were first worked out by Simon Kuznets during the Great Depression • Large quantities of data collected and organized from a variety of sources around the country • These data are summarized, assembled into a coherent framework, and reported by the government

  12. Gross Domestic Product and Gross National Product • GDP is the market value of all newly produced final goods and services produced by resources located in the United States, regardless of who owns those resources

  13. Final and Intermediate Goods and Services • Final goods and services sold to ultimate, users • Cotton shirts are a final good • Intermediate goods and services are purchased for further reprocessing and resale • Cotton is intermediate good • Keeping final goods and intermediate goods separate in our thinking allows us to avoid double counting

  14. Calculating GDP GDP can be computed in two ways: • The expenditure approach: A method of computing GDP that measures the total amount spent on all final goods during a given period. • The income approach:

  15. The Expenditure Approach • The expenditure approach calculates GDP by adding together the four components of spending. In equation form:

  16. X-M consumption (C) Investment (I) Financial markets S C+I+G+X-M Gov’t (G) transfer payments aggregate income = GDP taxes Disposable income The Circular Flow of Income and Expenditure

  17. Categories of Expenditures • Consumption (C) • All household purchases (blue jeans, twinkies, etc.) • Investment (I) • Purchases not used for current consumption (newly built homes,plant, new inventories) • Government Purchases (G) • Examples include missile systems and paper clips • Net Exports (X - M) • Net exports = exports (X) - imports (M)

  18. Personal Consumption Expenditures • Personal consumption expenditures (C) are expenditures by consumers on the following: • Durable goods: Goods that last a relatively long time, such as cars and appliances. • Nondurable goods: Goods that are used up fairly quickly, such as food and clothing. • Services: Things that do not involve the production of physical things, such as legal services, medical services, and education.

  19. Gross Private Domestic Investment • Investment refers to the purchase of new capital. • Total investment by the private sector is called gross private domestic investment. It includes the purchase of new housing, plants, equipment, and inventory by the private sector.

  20. Gross Private Domestic Investment • Nonresidential investment includes expenditures by firms for machines, tools, plants, and so on. • Residential investment includes expenditures by households and firms on new houses and apartment buildings. • Change in inventories computes the amount by which firms’ inventories change during a given period. Inventories are the goods that firms produce now but intend to sell later.

  21. Government Consumptionand Gross Investment • Government consumption and gross investment (G) counts expenditures by federal, state, and local governments for final goods and services.

  22. Net Exports • Net exports (EX – IM) is the difference between exports and imports. The figure can be positive or negative. • Exports (EX) are sales to foreigners of U.S.-produced goods and services. • Imports (IM) are U.S. purchases of goods and services from abroad).

  23. Classify each of these scenarios • You buy an old house • You buy some marijuana from a friend • You buy stock in GM • A Japanese firm buys City Brewery • The government makes a welfare payment • You buy a used car • A business fails to sell some of its inventory • A business buys a new truck

  24. Current and Historical Data • US data (BEA) • http://www.bea.doc.gov/bea/newsrel/gdp499p.htm • Historical US Data • http://eh.net/hmit/gdp/ • International • http://www.stls.frb.org/publications/iet/ • http://www.odci.gov/cia/publications/factbook/

  25. GDP and Social Welfare • Society is better off when crime decreases, however, a decrease in crime is not reflected in GDP. • An increase in leisure is an increase in social welfare, but not counted in GDP. • Nonmarket and household activities are not counted in GDP even though they amount to real production.

  26. GDP and Social Welfare • GDP accounting rules do not adjust for production that pollutes the environment. • GDP has nothing to say about the distribution of output. Redistributive income policies have no direct impact on GDP. • GDP is neutral to the kinds of goods an economy produces.

  27. The Underground Economy • The underground economy is the part of an economy in which transactions take place and in which income is generated that is unreported and therefore not counted in GDP.

  28. Gross National Income per Capita • To make comparisons of GNP between countries, currency exchange rates must be taken into account. • Gross National Income (GNI) is a measure used to make international comparisons of output. GNI is GNP converted into dollars using an average of currency exchange rates over several years adjusted for rates of inflation. • GNI divided by population equals gross national income per capita.

  29. Accounting for Price Changes

  30. Nominal Versus Real GDP • Nominal GDP is GDP measured in current dollars, or the current prices we pay for things. Nominal GDP includes all the components of GDP valued at their current prices. • When a variable is measured in current dollars, it is described in nominal terms.

  31. Real GDP • Real GDP is the value of GDP measure in terms of dollars of fixed purchasing power • Real GDP is measured in the dollars of the base year • The base year is a reference year against which other years are measured

  32. The Simplest Example of a Price Index (One Product)

  33. The GDP Price Index, Nominal GDP, and Real GDP • The GDP price index is a comprehensive price index of all goods and services included in the gross domestic product

  34. Calculating Real GDP • A weight is the importance attached to an item within a group of items. • A base year is the year chosen for the weights in a fixed-weight procedure. • A fixed-weight procedure uses weights from a given base year.

  35. Calculating Real GDP

  36. The Problems of Fixed Weights • Structural changes in the economy. • Supply shifts, which cause large decreases in price and large increases in quantity supplied. • The substitution effect of price increases. The use of fixed price weights to estimate real GDP leads to problems because it ignores:

  37. Hypothetical Data Used to Develop Chain-Weighted Indexes

  38. Calculating the GDP Deflator • The GDP deflator is one measure of the overall price level. The GDP deflator is computed by the Bureau of Economic Analysis (BEA). • Overall price increases can be sensitive to the choice of the base year. For this reason, using fixed-price weights to compute real GDP has some problems.

  39. Appendix • Slides after this point will most likely not be covered in class. However they may contain useful definitions, or further elaborate on important concepts, particularly materials covered in the text book. • They may contain examples I’ve used in the past, or slides I just don’t want to delete as I may use them in the future.

  40. Introduction to Macroeconomics • Macroeconomists often reflect on the microeconomic principles underlying macroeconomic analysis, or the microeconomic foundations of macroeconomics.

  41. Government in the Macroeconomy • Fiscal policy refers to government policies concerning taxes and spending. • Monetary policy consists of tools used by the Federal Reserve to control the quantity of money in the economy. • Growth policies are government policies that focus on stimulating aggregate supply instead of aggregate demand.

  42. The Components ofthe Macroeconomy • The circular flow diagram shows the income received and payments made by each sector of the economy.

  43. The Methodology of Macroeconomics • Connections to microeconomics: • Macroeconomic behavior is the sum of all the microeconomic decisions made by individual households and firms. We cannot understand the former without some knowledge of the factors that influence the latter.

  44. Measuring Economic Aggregates

  45. Gross Domestic Product and Gross National Product • GDP is the market value of all final goods and services produced by resources located in the United States, regardless of who owns those resources • GNP is the market value of all final goods and services produced by resources supplied by U.S. residents and firms, regardless of location

  46. Calculating GDP GDP can be computed in two ways: • The expenditure approach: A method of computing GDP that measures the total amount spent on all final goods during a given period. • The income approach: A method of computing GDP that measures the income—wages, rents, interest, and profits—received by all factors of production in producing final goods.

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