Understanding Gross Domestic Product: Terminology, Measurement, and Approaches - Prof. Chr, Papers of Macroeconomics

Download Understanding Gross Domestic Product: Terminology, Measurement, and Approaches - Prof. Chr and more Papers Macroeconomics in PDF only on Docsity! 1 Chapter 2: Terminology & Measurement • Why is chapter 2 important? • The NIPA Accounts • Approaches to Measuring GDP • Real versus nominal variables 2 • Why we study terminology – Understand the language used by economists, politicians, business people, journalists – Economic theories (models) need to be compared to the data – Are the data measured correctly? – What is missing in the reported data? 5 • Gross National Product: GDP=GNP- NFP – Net Factor Payments: payments to domestically owned factors located abroad – payments to foreign factors located domestically. Example: Toyota produces a car in the US – GDP: production within a countries borders • 3 Approaches to measuring GDP – Product Approach (output produced); Expenditure Approach (spending by purchasers); Income Approach (income generated by production) – Product Approach: market value of final goods and services produced in a given period – Expenditure Approach: total spending on final goods and services in a given period – Product = Expenditure because market value is determined by looking at total spending – Market value of production = sum of spending for final products + change in inventories 6 – In both cases measuring GDP = C + I + G + NX – National Income: Value of production should equal total income since what is being produced belongs to somebody Compensation of employees + Rental income + Proprietors’ income + Corporate profits + Net interest +Indirect Business Taxes + Depreciation – National Product (expenditure) and National Income are 2 ways to measure the same aggregate economic activity – NP = NE = NI Why? – Any output produced (product approach) is purchased by someone (expenditure approach) and results in income to someone (income approach) • Payments by businesses represents income for individuals • Revenues from sales of goods and services are collected by businesses: difference between a firms payments for inputs and revenues from sales equals profits 7 Example Orange Inc Transactions • Wages paid to employees: $15,000 • Indirect taxes: $ 5,000 • Revenue from sale of oranges: $35,000 – Oranges sold to public $10,000 – Oranges sold to Juice Inc $25,000 Juice Inc Transactions • Wages paid to employees $10,000 • Indirect taxes $ 2,000 • Oranges purchased from Orange Inc $25,000 • Revenue received from sale of OJ $40,000 10 • Price Indexes – Measure how prices of goods (and services) change over time – Price Index is a level variable: the growth rate in the price level is the inflation rate : It = (Pt – Pt-1) / Pt-1 – Comparing prices over time helps us decide how much to adjust payments or saving over time • Example: During the revolutionary war govt. officials tracked the cost (in terms of currency) to acquire 5 bushels of corn, 68lbs of beef, 10lbs of wool and 16lbs of leather. Soldiers nominal wages increased as the price of this market basket increased to maintain a constant real wage 11 – Consumer Price Index (CPI): reflects the change in a fixed market basket of goods of constant quality • Fixed: market basket does not change over time so we are measuring the cost of acquiring those same goods • Goods in the basket are included and weighted according to how much is spent on them in a base year (t.v.’s versus gum) – Producer Price Index (PPI): Price of intermediate goods (cotton, oil), Does an increase in PPI increase the CPI? Variable weight index allows the market basket to change over time. The implicit price deflator (IPD) uses a variable weight index • Changes in the IPD may reflect more than changes in prices. People may substitute away from some goods. If prices remain constant but people change their market basket the CPI remains constant while the IPD changes 12 • CPI overstates inflation by about 1% a year – Changes in Quality bias (0.6%) – Substitution bias (0.4%) – Implications • Increases in real incomes are understated • Some government, union payments are indexed (but not as much as one might expect)