Introduction to Macroeconomics

1. Introduction to Macroeconomics Chapter 20. Measuring the Macroeconomy

2. Measuring the Macroeconomy 1. Measuring Total Output 2. How to Measure Total Output 3. GDP Accounting Complications 4. Measuring Price Changes 5. Empirical Applications

3. 1. Measuring Total Output • Monetary Measure of Value • GDP versus GNP • Omissions from GDP - does not measure social welfare

4. 2. How to Measure GDP • Expenditure Approach • Income Approach

5. Circular Flow of Income and Expenditures

6. Expenditure Approach • GDP = Consumption Spending (C) + Private Domestic Investment (I) + Government Spending (G) + Exports - Imports (NX) • GDP = C + I + G + NX

7. Expenditure Shares 1998 U.S. Nominal Gross Domestic Product Government Spending 17.5 % Consumption 66.8 % Investment 17.5 % Net Exports = - 1.7 % (not shown in slide)

8. Consumption Trends U.S. Japan 1998 U.S. 66.8 % Japan 59.7 %

9. Government Spending Trends U.S. Japan 1998 U.S. 17.5 % Japan 18.2 %

10. Investment Trends Japan U.S. 1998 U.S. 17.5 % Japan 20.0 %

11. Net Export Trends Japan 1998 U.S. - 1.7 % Japan 2.1 % U.S.

12. National Income • National Income with corrections = GDP • National Income with corrections = Personal Income • Personal Income - Personal income taxes - Social Security withholding = Disposable Personal Income

13. 3. GDP Accounting Complications • Double Counting • Intended for “final” use • excludes intermediate products • Value added • excludes used goods • Depreciation

14. Depreciation Gross Domestic Product (GDP) - Depreciation = Net Domestic Product (NDP)

15. Depreciation of Private Capital Stock Percent of Gross Private Investment Percent of GDP

16. 4. Measuring Price Changes • Price Index - a measure of the change in the average level of prices • GDP Deflator • Consumer Price Index

17. GDP Deflator • Nominal GDP • Value of output measured at actual prices (current dollar output) • Does not correct for inflation • Real GDP • Value of output based on prices of some base period (“constant” dollar output) • eliminates effect of inflation • GDP Deflator = Nominal GDP ÷ Real GDP

18. Simple Economy

19. Nominal GDP Current year Quantities x Current year Prices

20. 1992 Nominal GDP = 1992 Quantities x 1992 Prices = 1992 Spending on Food Housing Fun Machines = 4 • $12 + 3 • $9 + 3 • $4 + 2 • $20 = $48 + $27 + $12 + $40 = $127

21. 1994 Nominal GDP = 1994 Quantities x 1994 Prices = 1994 Spending on Food Housing Fun Machines = 5 • $14 + 3 • $10 + 4 • $5 + 2 • $20 = $70 + $30 + $20 + $40 = $160

22. Real GDP Current year Quantities x Base year Prices

23. 1992 Real GDP = 1992 Quantities x 1992 Prices Food Housing Fun Machines = 4 • $12 + 3 • $9 + 3 • $4 + 2 • $20 = $48 + $27 + $12 + $40 = $127

24. 1994 Real GDP = 1994 Quantities x 1992 Prices Food Housing Fun Machines = 5 • $12 + 3 • $9 + 4 • $4 + 2 • $20 = $60 + $27 + $16 + $40 = $143

25. GDP Growth • Growth in Nominal GDP = (160 - 127) • 100 = 26% 127 • Growth in Real GDP = (143 - 127) • 100 = 13% 127

26. GDP Deflator GDP Deflator = Nominal GDP • 100 Real GDP 1992 GDP Deflator = 127• 100 = 100.0 127 1994 GDP Deflator = 160 • 100 = 111.9 143

27. Inflation Change in Average Level of Prices = Percent Change in GDP Deflator Inflation from 1992 to 1994 = (1994 Deflator - 1992 Deflator) • 100 1992 Deflator = (111.9 - 100.0) • 100 = 11.9% 100.0

28. Price Indexes • GDP Deflator • Base-year prices • Quantities variable • Imports excluded • Consumer Price Index • Base year quantities • Prices variable • Imports included

29. Problems With Price Indexes • Substitution bias - changes in relative prices • between goods (butter vs margarine) • between stores (small vs large discounters) • Quality changes and new products • Chain-weighted indexes

30. 5. Empirical Applications • Use Real rather than Nominal values • Compare Per Capita rather than Aggregates • Compare Growth Rates rather than Levels