Interpreting GDP: Real vs. Nominal Figures & Quality of Life

1. Chapter 8 homework • Number 4: Matt Herr • Number 6: Carolyn Kostanzer • Number 8: Carlos Perez • Number 16: Risa Satomura • Number 18: Robert Saunders • Alternate: Kyoko Yamashita

2. Chapter 9 GDP and the Business Cycle

3. Does a higher GDP mean that the economy is better??? We can calculate it…how do we interpret it???

4. Real and Nominal GDP • Nominal GDP is the market value of new output evaluated at the output’s current market price. • When nominal GDP changes, it could be due to a change in output, a change in prices or a change in both. • We need a measure that changes only when there is a change in the level of output.

5. Real and Nominal GDP • Real GDP is the value of the economy's output at constant dollars. • Real GDP is calculated using prices from a base year. • Because it is calculated using constant prices, real GDP changes only when output changes.

6. The GDP Deflator • Since nominal and real GDP are calculated using prices from different years, they can be used to measure general price changes in the economy. • Unlike the CPI (only included Consumption goods), the GDP deflator includes the prices of all goods and services produced in the United States.

7. The GDP Deflator (cont’d) • Example: Nominal GDP in 2004 was $11.7T and real GDP with 2000 as the base year was $10.8T. The GDP deflator was: • Interpretation: Prices rose by 8% between 2000 and 2004.

8. How is this different from the CPI??? • CPI calculated from a “basket of goods” that people buy • GDP deflator includes these as well as capital goods • New plant and equipment • And good and services sold to foreign households

9. Real GDP Per Capita • If one nation has higher real GDP than another, that doesn’t necessarily mean its residents have higher incomes. • Why? Because population varies across countries. • Real GDP per capita measures a country’s real income per person. • Found by dividing a nation’s real GDP by its population.

10. Real GDP and the Quality of Life • Real GDP is the single best measure of a nation’s average income, but there are problems with using GDP as a measure of welfare.

11. Real GDP and the Quality of Life (cont’d) • GDP counts some production that does not add to the quality of life. • Examples: Spending on crime prevention and military weapons • Real GDP ignores non-market activities that add to the quality of life. • Examples: Meals prepared at home, cleaning your house are not included doing your laundry • Unless you hire someone to do it for you

12. Real GDP and the Quality of Life (cont’d) • GDP ignores the role of leisure in the quality of life. • Leisure activities represent forgone production, and are therefore not counted in GDP. • GDP ignores production in the underground economy. • There are some transactions that never get recorded in official statistics. • How much??? • Some suggest that about 8–9% of the official GDP of the United States.

13. Real GDP and the Quality of Life (cont’d) • Uneven income distribution may affect well-being. • Neither GDP nor GDP per capita takes the distribution of income into account. • Who has the money??

14. Life Lessons • The grass isn’t always greener even if the money is. • In 2004, GDP per capita in the United States was approximately $40,000, compared to $28,000 in France. Yet there was not a large number of people looking to immigrate from France to the United States. • Compared to the French, Americans: • Work longer hours and have fewer vacations • Pay for more services such as healthcare and childcare