Macroeconomic Measurements, Part II GDP and Real GDP

Del Mar College

John Daly©2002 South-Western Publishing, A Division of Thomson Learning

Gross Domestic Product

• GDP is the total market value of all final goods and services produced annually within a country’s borders.

• GDP is a Flow Variable: A Flow Variable is a variable that is only meaningful over a period of time.

• GDP is NOT a Stock Variable: A Stock Variable is a variable that is meaningful at a moment in time. The US money supply is a stock variable.

GDP? GNP? What’s different?

• Gross National Product is the total market value of all final goods and services provided annually by the citizens of a country

• GDP measures all final goods produced in a country, whether by citizens or not. GNP measures all final goods produced by citizens whether in that country or not.

Total Market Value

• Total Market Value is the monetary value of goods and services at today’s prices.

• Only final goods are counted to protect against the error of over-counting.

What GDP Omits

• Underground Activities

• Sale of Used Goods• Financial Transactions• Government Transfer

payees.• Leisure• Not adjusted for

“bads”

GDP or Per Capita GDP

• Per Capita GDP is the GDP divided by the population.

• GDP figures are useful for obtaining an estimate of the productive capabilities of an economy but they do not necessarily measure happiness or well being.

Q & A

• Give an example that illustrates the difference between the U.S. GDP and the U.S. GNP.

• Suppose the GDP for a country is $0. Does this mean that there was no productive activity in the country? Explain your answer.

Two Ways of Computing GDP

Expenditures:• Consumption includes

spending on durable goods, spending on non-durable goods, and spending on services.

• Investment is the sum of purchases of newly produced capital goods, changes in business inventories, and purchase of new residential housing.

Expenditures

• Government purchases include federal, state, and local government purchases of goods and services and gross investment in highways, bridges, and so on.

• Net Exports is the total number of exports minus the number of imports.

Computing GDP using the Expenditure Approach

• Anything that is not sold is “bought” by the firm that produces it.

• GDP=Consumption + Investment + Government Purchases + Net Exports

The Income Approach to Measuring GDP

• Domestic Income is the total income earned by the people and businesses within a country’s borders.

• National Income is the total income earned by U.S. citizens and businesses, no matter where they are located.

Income Approach to GNP• Compensation of Employees: Wages, salaries, Social

Security benefits, and employee benefit plans plus the monetary value of fringe benefits, tips, and paid vacations

• Proprietors’ Income is all forms of income earned by self-employed individuals and the owners of unincorporated business, including unincorporated farmers.

• Corporate Profits include all income earned by the stockholders of corporations.

• Rental Income of Persons is the income received by individuals for the use of their non-monetary assets.

National Income to GDP

GDP=National Income – Income earned from the rest of the world +Income earned by the rest of the world + Indirect business taxes + Capital consumption allowance + Statistical discrepancy

National GDP Making Some Adjustments

• Remember that the National income excludes foreign nationals and includes citizens abroad, but the GDP has to adjust for both of these incomes.

• Indirect Business Taxes usually comprise excise taxes, sales taxes, and property taxes.

• Capital Consumption Allowance or depreciation is the cost to replace capital goods that break or wear down

• Statistical discrepancies or pure computational errors often occur

Other National Income Accounting Measurements

• Net Domestic Product = GDP – Capital consumption allowance

• Personal Income = National income – Undistributed Corporate Profits – Social Security Taxes – Corporate Profits Taxes + Transfer Payments

• Disposable Income = Personal Income – Personal Taxes

• Per Capita Macroeconomic Measurements Divides these factors by the population.

Q & A

• Describe the expenditure approach to computing GDP.

• Will GDP be smaller than the sum of consumption, investment, and government purchases if net exports are negative? Explain your answer.

• If GDP is $400 billion, and the country’s population is 100 million, does it follow that each individual in the country has $40,000 worth of goods and services?

Real GDP

• Real GDP is GDP adjusted for price changes.

• Real GDP is equal to the change in Base year prices multiplied by current year quantities.

• Annual economic growth has occurred if the Real GDP in one year is higher than the previous year.

Ups and downs of the Business Cycle

• Peak: at the peak of the business cycle, Real GDP is at a temporary high.

• Contraction: A decline in the real GDP. If it falls for two consecutive quarters, it is said to be in a recession.

• Trough: The Low Point of the GDP, just before it begins to turn up.

• Recovery: When the GDP is rising from the trough.

• Expansion: when the real GDP expands beyond the recovery

The Business Cycle

Q & A

• Suppose GDP is $6,039 billion in year 1 and $6,245 billion in year 2. What has caused the rise in GDP?

• Suppose Real GDP is $5,233 billion in year 1 and $5,267 billion in year 2. What has caused a rise in the Real GDP?

• Can an economy be faced with endless business cycles and still have its Real GDP grow over time? Explain your answer.