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Chapter 20

Chapter 20. Gross Domestic Product Accounting. Economic Principles. The circular flow of resources, goods, and services The circular flow of money The expenditure approach to measuring GDP. Economic Principles. The income approach to measuring GDP

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Chapter 20

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  1. Chapter 20 Gross Domestic Product Accounting Gottheil — Principles of Economics, 7e

  2. Economic Principles • The circular flow of resources, goods, and services • The circular flow of money • The expenditure approach to measuring GDP Gottheil — Principles of Economics, 7e

  3. Economic Principles • The income approach to measuring GDP • The relationship between GDP, NDP, and national income • The limitations of GDP as a measure of economic well-being Gottheil — Principles of Economics, 7e

  4. Gross Domestic Product Accounting Circular flow of goods, services, and resources • The movement of goods and services from firms to households, and of resources from households to firms. Gottheil — Principles of Economics, 7e

  5. EXHIBIT 1 THE CIRCULAR FLOW OF GOODS, SERVICES, AND RESOURCES Gottheil — Principles of Economics, 7e

  6. Exhibit 1: The Circular Flow of Goods, Services, and Resources 1. What do households supply to the resource market? • Households supply their resources—labor, capital, land, entrepreneurship—to the firms in the resource market. Gottheil — Principles of Economics, 7e

  7. Exhibit 1: The Circular Flow of Goods, Services, and Resources 2. What do firms provide to households in the product market? • Firms provide households with goods and services in the product market. Gottheil — Principles of Economics, 7e

  8. Gross Domestic Product Accounting Circular flow of money • The movement of income in the form of resource payments from firms to households, and of income in the form of revenue from households to firms. Gottheil — Principles of Economics, 7e

  9. EXHIBIT 2 THE CIRCULAR FLOW OF MONEY Gottheil — Principles of Economics, 7e

  10. Exhibit 2: The Circular Flow of Money What do firms in the resource market pay to households for resources provided? • Firms pay money in the form of wages, interest, rent and profit to households for resources supplied. Gottheil — Principles of Economics, 7e

  11. Two Approaches to Calculating GDP • Economists calculate GDP in two ways: the expenditure approach to GDP and the income approach to GDP. • Regardless of which method is used, the values should be equivalent. Gottheil — Principles of Economics, 7e

  12. The Expenditure Approach Expenditure approach • A method of calculating GDP that adds all expenditures made for final goods and services by households, firms and government. Gottheil — Principles of Economics, 7e

  13. The Expenditure Approach When using the expenditure approach to GDP, one must be certain that only final goods and services are counted. Otherwise, goods may be double counted. Gottheil — Principles of Economics, 7e

  14. The Expenditure Approach Final goods • Goods purchased for final use, not for resale. Gottheil — Principles of Economics, 7e

  15. The Expenditure Approach Intermediate goods • Goods used to produce other goods. Gottheil — Principles of Economics, 7e

  16. The Expenditure Approach Value added • The difference between the value of a good that a firm produces and the value of the goods the firm uses to produce it. Gottheil — Principles of Economics, 7e

  17. EXHIBIT 3 MARKET VALUE AND VALUE ADDED OF GOODS PRODUCED Gottheil — Principles of Economics, 7e

  18. Exhibit 3: Market Value and Value Added Goods Produced 1. What is the total market value of the wool sweater in Exhibit 3? • The total market value is $94. Gottheil — Principles of Economics, 7e

  19. Exhibit 3: Market Value and Value Added Goods Produced 2. Why shouldn’t the total market value be used when calculating GDP? • The total market value counts the original resource multiple times. Gottheil — Principles of Economics, 7e

  20. Exhibit 3: Market Value and Value Added Goods Produced 2. Why shouldn’t the total market value be used when calculating GDP? • For example, the $4 value for wool on the sheep makes up part of the $13 value for wool fabric and $50 value for a wool sweater. Gottheil — Principles of Economics, 7e

  21. The Expenditure Approach There are four expenditure categories of GDP: 1. Personal consumption 2. Gross private domestic investment 3. Government purchases 4. Net exports Gottheil — Principles of Economics, 7e

  22. The Expenditure Approach 1. Personal consumption expenditures (C): • All goods and services bought by households. These expenditures are grouped into categories of durable goods, nondurable goods, and services. Gottheil — Principles of Economics, 7e

  23. The Expenditure Approach 1a. Durable goods: • Goods expected to last at least a year. For example, refrigerators, automobiles, and washing machines. Gottheil — Principles of Economics, 7e

  24. The Expenditure Approach 1a. Durable goods: • During recessions, consumers tend to hang on to their durable goods, so that sales of new durable goods are relatively weak. During times of prosperity, consumers are more likely to discard old durables, and sales of new durables are strong. Gottheil — Principles of Economics, 7e

  25. The Expenditure Approach 1b. Nondurable goods: • Goods expected to last less than a year. For example, food, clothing, gasoline and toiletries. Households spend more on nondurables than on durables. Gottheil — Principles of Economics, 7e

  26. The Expenditure Approach 1c. Services: • Productive activities that are instantaneously consumed. For example, medical care, a lecture, and appliance repair. Households spend more on services than durable and nondurable goods combined. Gottheil — Principles of Economics, 7e

  27. The Expenditure Approach 2. Gross private domestic investment (I): • The purchase by firms of plant, equipment, and inventory goods. Gottheil — Principles of Economics, 7e

  28. The Expenditure Approach 2. Gross private domestic investment (I): • Plant (or new structure) and equipment purchases may either replace worn out plants and equipment or increase the quantity of plants and equipment. Gottheil — Principles of Economics, 7e

  29. The Expenditure Approach 2a. Inventory investment: • Stocks of finished goods and raw materials that firms keep in reserve to facilitate production and sales. Gottheil — Principles of Economics, 7e

  30. The Expenditure Approach 3. Government purchases (G): • All goods and services bought by government. For example, goods such as national defense materials, interstate highway, and post offices, and services such as justice and education. Gottheil — Principles of Economics, 7e

  31. The Expenditure Approach 4. Net exports (X – M): • An economy’s exports to other economies, minus its imports from other economies. Gottheil — Principles of Economics, 7e

  32. The Expenditure Approach All final goods and services that make up GDP, then, can be expressed in the form: GDP = C + I + G + (X – M) Gottheil — Principles of Economics, 7e

  33. EXHIBIT 4 EXPENDITURE APPROACH TO 2008 GDP ($ BILLIONS) Source: Bureau of Economic Analysis, U.S. Department of Commerce, 2008. Gottheil — Principles of Economics, 7e

  34. Exhibit 4: Expenditure Approach to 2008 GDP ($ billions) 1. What was the largest category of GDP expenditure in 2008? • The largest category was personal consumption expenditures at $10,053.7 billion. Gottheil — Principles of Economics, 7e

  35. Exhibit 4: Expenditure Approach to 2008 GDP ($ billions) 2. Why was the net exports category of expenditure negative in 2008? • The category was negative (–$717.9 billion) because the value of U.S. imports was greater than the value of U.S. exports. Gottheil — Principles of Economics, 7e

  36. EXHIBIT EXPANDED CIRCULAR FLOW: INCOME AND EXPENDITURE APPROACHES TO GDP Gottheil — Principles of Economics, 7e

  37. The Income Approach Income approach • A method of calculating GDP that adds all the incomes earned in the production of final goods and services. Gottheil — Principles of Economics, 7e

  38. The Income Approach National income • The sum of all payments made to resource owners for the use of their resources. Gottheil — Principles of Economics, 7e

  39. The Income Approach The income payments are arranged into five categories: (1)the compensation of employees, (2) interest, (3) corporate profit, (4) rental income, and (5) proprietors’ income. Gottheil — Principles of Economics, 7e

  40. The Income Approach The compensation of employees is divided into two categories: wages and salaries and supplements. Supplements (or fringe benefits) include such things as bonuses, paid vacations, and contributions to employees’ Social Security. Gottheil — Principles of Economics, 7e

  41. The Income Approach Corporate profit represents the return to owners of incorporated firms. Corporate profit is divided into three categories—dividends, corporate reinvestment, and corporate taxes. All three are included in the income approach to GDP. Gottheil — Principles of Economics, 7e

  42. The Income Approach Rent is the payment for use of property. Although most people don’t pay themselves rent for using their own property, the rent is still estimated in GDP accounting. Net rental income is total rental income minus depreciation. Gottheil — Principles of Economics, 7e

  43. The Income Approach Proprietors’ income is the income earned by unincorporated firms for the goods and services they produce. Proprietors’ income is the net income after paying such expenses as rent, utilities, and supplies. Gottheil — Principles of Economics, 7e

  44. EXHIBIT 5 2008 NATIONAL INCOME ($ BILLIONS) Source: Bureau of Economic Analysis, U.S. Department of Commerce, 2008. Gottheil — Principles of Economics, 7e

  45. Exhibit 5: 2008 National Income ($ billions) What was the largest category of income in the U.S. in 2008 according to Exhibit 5? • Compensation of employees was by far the largest category of income at $8,110.7 billion, or 64.9 percent of the national income. Gottheil — Principles of Economics, 7e

  46. Bringing GDP and National Income into Accord GDP, according to Exhibit 4, was $14,201 billion in 2008. Yet national income, according to Exhibit 5, was only $12,481.3 billion. Gottheil — Principles of Economics, 7e

  47. Bringing GDP and National Income into Accord In order to bring the two into accord, first gross domestic product is converted to gross national product. Then depreciation of capital and indirect business taxes are subtracted from gross national product. Gottheil — Principles of Economics, 7e

  48. Bringing GDP and National Income into Accord Gross National Product (GNP) • The market value of all final goods and services in an economy produced by resources owned by people of that economy, regardless of where the resources are located. Gottheil — Principles of Economics, 7e

  49. Bringing GDP and National Income into Accord While GDP measures location, GNP measures ownership. For example, the value of goods produced by a U.S.-owned firm in Spain are not counted in our GDP, but are counted in our GNP. Gottheil — Principles of Economics, 7e

  50. Bringing GDP and National Income into Accord Capital depreciation • The value of existing capital stock used up in the process of producing goods and services. Gottheil — Principles of Economics, 7e

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