ECONOMIC MEASURES In order to ensure that our economic goals of full employment, stable prices and economic growth are met, our government constantly takes measurements of the economy (National Income & Product Accounts) Three important measurements are Gross Domestic Product (GDP) Unemployment rate Inflation rate

Gross Domestic Product What’s a Gross Domestic Product? Broccoli? I was gonna say “Preparation H.” GDP This is the most important measure of economic activity.

GDP is used to compare economic standard of living world wide Top GDPs of the World

GDP is a measure of the income and expenditures of an economy GDP is a measure of the income and expenditures of an economy. Every dollar spent is a dollar of income earned by someone else. Expenditures Expenditures Market for Goods and Services Goods & Services Firms Households Income Labor, land, and capital Inputs for production Market for Factors of Production Income 7

Expanded Circular Flow

The Definition of Gross Domestic Product GDP is the market value of all final goods and services produced within a country in a given time period.

EXPENDITURES APPROACH: spending by the four sectors are added together Current GDP Data Consumer Spending 71% (Consumption) +Business Spending 13 % (Investment) +Government Spending 20% +Foreign Spending -4 % (Net EXports) Net Exports = Exports – Imports [Imports represent production outside a country]

Wages (income from labor) + Rents (income from natural resources) THE INCOME (Factor Payment) APPROACH This approach adds together all the income earned in the production of goods & services Wages (income from labor) + Rents (income from natural resources) + Interest (income from capital investments) + Owner’s Income (profit earned by sole proprietorship and partnerships) + Corporate Profits = TOTAL INCOME EARNED

VALUE ADDED APPROACH GDP is calculated by adding up the value of their production of final goods and services. The cost of intermediate goods (inputs in the production process) must be subtracted out to avoid double counting. We count only each producer’s value added (value of production minus input costs) in the calculation of GDP

Calculating GDP

EXPENDITURES APPROACH Consumption (Personal Spending) Spending by Households Durable Goods[12%] Nondurable Goods[29%][soup & soap] Services[59%]

EXPENDITURES APPROACH Investment - Spending by Businesses on capital 4 Subcategories A. Tools, equipment , machinery B. Buildings (offices, factories) C. Residential buildings (your house) D. Inventory adjustments

EXPENDITURES APPROACH Government Purchases (state/local & federal) Government purchases of goods/services produced (not transfer payments) 3 Subcategories A. Federal government 37% B. 50 State governments C. 84,000 local governments 63% for state and local

EXPENDITURES APPROACH Net Exports Net Exports = Exports – Imports [Imports represent production outside a country]

GDP measures FINAL GOODS AND SERVICES (products in the form sold to consumers) not intermediate goods Intermediate Goods – components of the final good. A. Ford buys batteries or tires for its cars. B. KFC buys chickens to eventually sell to customers.

Second Hand Sales = no current production. It includes goods and services CURRENTLY PRODUCED, not transactions involving goods produced in the past. Second Hand Sales = no current production. A. If a 1957 Chevy is bought in 2009 Chevy [It has not been produced again so would not count.] B. Boots produced in 2000 are bought in a Resale Store in 09. They also have not been produced again. A salesman’s commission on a used good would count. You are buying his services.

– what is not counted Purely Financial Transactions – stocks, bonds, CDs. There is no current production. A. If 100 shares of Dell stock is bought I’m going to buy 100 shares of Dell Stock. Exchanging one financial asset for another

– what is not counted Transfer Payments –welfare, unemployment, social security. [There is no contribution to final production] “Now that I’ve gotten my welfare check, I can get a mini iPod.”

Unreported Legal Business Activity Unreported “legal” business activity does not count. This is two-thirds of the “underground economy.” And what if the dentist doesn’t report $400 for teeth whitening? What if an eye surgeon doesn’t report $500 of his his $3,400 IntraLASIK bill? And what if this waitress doesn’t report all tips?

Illegal business activity is also not counted. Illegal business activity, because it goes unreported, also does not count. Making up 1/3 of the “underground economy,” it includes murder for hire, gambling, and drugs Illegal business activity is also not counted. “I’m getting $1,000 to kill you, Ziggy, but at least it will not count in GDP.”

Non-market Transactions Are Not Counted Work in your own household or volunteer work in the community does not count because there was no payment. So, don’t marry your housekeeper, gardener, or fitness instructor, or you will hurt GDP.

It measures the value of production that takes place WITHIN A SPECIFIC TIME PERIOD, usually a year or a quarter (three months). Inventory adjustments must be made to know what was produced within each period.

The difference between GDP & GNP is about 2/10 of 1%. GNP – Ownership All goods/services produced legally for pay by citizens of a country. [Citizenship mattered, not geography] China Europe Nike in Indonesia Plano, TX GDP - Location All goods/services produced legally for pay in a country’s borders. [Geography matters, not citizenship] in Chicago Provo,UT BMW in Waco Honda in Ohio The difference between GDP & GNP is about 2/10 of 1%.

Nominal GDP versus Real GDP We use GDP to evaluate whether or not our economy is growing. If we produce more goods and services this year than last year we can conclude that we are growing. Because GDP is measured by adding up our spending on output (PRICE X quantity) this is not always clear since prices tend to rise from year to year.

Nominal GDP versus Real GDP Nominal GDP is the dollar amount we spent this year on goods and services. It is found by multiplying output bought at current price level. If we have inflation nominal GDP goes up.

Nominal GDP versus Real GDP Real GDP is corrected for the effects of inflation. It is found by multiplying output bought at a constant price level. If Real GDP has increased then output has increased.

GDP and Economic Well-Being GDP is the best single measure of the economic well-being of a society. GDP per person (per capita) tells us the income and expenditure of the average person in the economy. Higher GDP per person indicates a higher standard of living.

GDP IS NOT A PERFECT MEASURE Does not include the value of leisure time. Does not include value of labor done at home or on a volunteer basis. Excludes any measure of the quality of the environment. Does not account for the unequal distribution of income. May overstate incomes & production because of inflation

GDP Deflator An accurate view of the economy requires adjusting nominal to real GDP by using the GDP deflator. The GDP deflator measures the current level of prices relative to the level of prices in the base year. It tells us the rise in nominal GDP that is attributable to a rise in prices rather than a rise in the quantities produced.

GDP Deflator The GDP deflator is calculated as follows:

Converting Nominal GDP to Real GDP Nominal GDP is converted to real GDP as follows:

GDP Growth How fast GDP grows determines to a large extent the level of economic prosperity a country enjoys. For a nation to enjoy continued prosperity GDP must grow at a faster rate than the population. GDP growth can be determined using the rate of change formula. Current GDP – Previous GDP x 100 Previous GDP

CHANGES IN GDP Price Level o Real Gross Domestic Product The level of output (income and expenditures) is changed if there is a change in AGGREGATE DEMAND. AS1 Price Level b P2 P1 a AD2 AD1 o Q1 Q2 Real Gross Domestic Product

CHANGES IN GDP Price Level o Real Gross Domestic Product The level of output (income and expenditures) is changed if there is a change in AGGREGATE SUPPLY. AS1 AS2 Price Level P1 a P2 b AD1 o Q1 Q2 Real Gross Domestic Product