Understanding Gross Domestic Product (GDP) and Its Components in Economics - Prof. Nezahat, Exams of Economics

Download Understanding Gross Domestic Product (GDP) and Its Components in Economics - Prof. Nezahat and more Exams Economics in PDF only on Docsity! 1 slide 0 Chapter 2 The Data of Macroeconomics slide 1 Learning Objectives In this chapter, you will learn about: • Gross Domestic Product (GDP) • the Consumer Price Index (CPI) • the Unemployment Rate slide 2 GROSS DOMESTIC PRODUCT …measures: 1. *Total expenditure on domestically produced final goods and services 2. *Total income earned by domestically- located factors of production 3. Total output 4. The sum of value-added at all stages in the production of final goods 2 slide 3 Why expenditure = income In every transaction, the buyer’s expenditure becomes the seller’s income. Thus, the sum of all expenditure equals the sum of all income. slide 4 The Circular Flow Income ($ ) Labor Goods (bread ) Expenditure ($ ) Households Firms slide 5 Stocks vs. Flows stock flow 1. a person’s wealth a person’s saving 2. # of people with # of new college college degrees graduates 3. govt. debt govt. budget deficit Stock: Quantity measured at a given point in time Flow: Quantity measured per unit of time GDP???? How many $ are flowing around the circular system per unit of time. 5 slide 12 2. Investment (I) Def1: spending on [the factor of production] capital. Def2: spending on goods bought for future use. Includes:  business fixed investment spending on plant and equipment that firms will use to produce other goods & services  residential fixed investment spending on housing units by consumers and landlords  inventory investment the change in the value of all firms’ inventories slide 13 U.S. Investment, 2001 $ billions % of GDP Investment $1,633.9 16.0% Business fixed 1,246.0 12.2 Residential fixed 446.3 4.4 Inventory -58.4 -0.6 $ billions of GDP Invest ent $1,633.9 16.0 Business fixed 1,246.0 12.2 Residential fixed 446.3 4.4 Inventory -58.4 -0.6 slide 14 3. Government spending (G) • G includes all government spending on goods and services. • G excludes transfer payments (e.g. unemployment insurance payments), because they do not represent spending on goods and services. 6 slide 15 Government spending, 2001 $ billions % of GDP Gov spending $1,839.5 18.0% Federal 615.7 6.0 Non-defense 216.6 2.1 Defense 399.0 3.9 State & local 1,223.8 12.0 $ billions of GDP Gov spending $1,839.5 18.0 Federal 615.7 6.0 Non-defense 216.6 2.1 Defense 399.0 3.9 State & local 1,223.8 12.0 slide 16 4. Net exports (NX = EX - IM) Def: the value of total exports (EX) minus the value of total imports (IM) U.S. Net Exports, 1960-2000 -400 -350 -300 -250 -200 -150 -100 -50 0 50 1960 1965 1970 1975 1980 1985 1990 1995 2000 $ b il li o n s slide 17 An Important Identity!!! Y = C + I + G + NX where Y = GDP = the value of total output C + I + G + NX = aggregate expenditure 7 slide 18 GDP: An Important and Versatile Concept We have now seen that GDP measures  total income  total output  total expenditure  the sum of value-added at all stages in the production of final goods slide 19 GNP vs. GDP • Gross National Product (GNP): total income earned by the nation’s factors of production, regardless of where located • Gross Domestic Product (GDP): total income earned by domestically-located factors of production, regardless of nationality. (GNP – GDP) = (factor payments from abroad) – (factor payments to abroad) slide 20 Real vs. Nominal GDP • GDP is the value of all final goods and services produced. • Nominal GDP measures these values using current prices. NGDP2003=∑(P03i*Q03i) • Real GDP measure these values using the prices of a base year. RGDP2003=∑(P02i*Q03i) 10 slide 27 How the BLS constructs the CPI 1. Survey consumers to determine composition of the typical consumer’s “basket” of goods. (e.g. 5 apples, 2 oranges etc) 2. Every month, collect data on prices of all items in the basket; compute cost of basket 3. CPI in any month equals Cost of basket in that month 100 Cost of basket in base period × slide 28 Understanding the CPI For good i = 1, 2, 3 Ci = amount of good i in the CPI’s basket Pit = price of good i in month t Et = cost of the CPI basket in month t Eb = cost of the basket in the base period slide 29 Understanding the CPI t b E CPI in month E = ×100t 1t 1 2t 2 3t 3 b P C + P C + P C E = ×100 31 2 1t 2t 3t b b b CC C P P P E E E        = × + +               100 The CPI is a weighted average of prices. The weight on each price reflects that good’s relative importance in the CPI’s basket. Note that the weights remain fixed over time. 11 slide 30 CPI vs. GDP Deflator 1.prices of capital goods • included in GDP deflator (if produced domestically) • excluded from CPI 2. prices of imported consumer goods • included in CPI • excluded from GDP deflator 3. the basket of goods • CPI: fixed • GDP deflator: changes every year slide 31 Fixed versus Changing Weights e.g. Major frosts destroy nation’s X crop. • Q(X) produced falls to zero • P(remaining X) increases significantly
Fixed weights overstate the impact because it doesn’t take into account the subtutability of goods 31 2 1t 2t 3t b b b CC C P P P E E E        = × + +               100 slide 32 Fixed versus Changing Weights
Changing weights understate the impact because it doesn’t take into account the possible loss of welfare due to substitution 1t 2t 3t 1t 2t 3t t t t Q Q Q P P P RGDP RGDP RGDP        = × + +               100 12 slide 33 Additional reasons why the CPI may overstate inflation • Substitution bias: The CPI uses fixed weights, so it cannot reflect consumers’ ability to substitute toward goods whose relative prices have fallen. • Introduction of new goods: The introduction of new goods makes consumers better off and, in effect, increases the real value of the dollar. But it does not reduce the CPI, because the CPI uses fixed weights. • Unmeasured changes in quality: Quality improvements increase the value of the dollar, but are often not fully measured. slide 34 The CPI’s bias • The Boskin Panel’s “best estimate”: The CPI overstates the true increase in the cost of living by 1.1% per year. • Result: the BLS has refined the way it calculates the CPI to reduce the bias. • It is now believed that the CPI’s bias is slightly less than 1% per year. slide 35 CATEGORIES OF THE POPULATION • employed working at a paid job • unemployed not employed but looking for a job • labor force the amount of labor available for producing goods and services; all employed plus unemployed persons • not in the labor force not employed, not looking for work.