Measuring Macroeconomics

Aggregate Output National income accounts An accounting system used to measure aggregate economic activity. The typical measure of aggregate output in the national income accounts is gross domestic product, or GDP.

GDP: Production and Income There are three ways of defining GDP: 1. The value of the final goods and services produced in the economy. 2. The sum of value added in the economy. 3. The sum of the incomes in the economy.

Nominal and Real GDP Nominal GDP is the sum of the quantities of final goods produced times their current price. Nominal GDP usually increases over time because: 1. production increases … 2. prices increase... Real GDP is constructed as the sum of the quantities of final goods times constant (rather than current) prices.

Nominal and Real GDP Using 1996 dollars to compute real GDP, then: Year Quantity of Cars Price of cars (in,000) Nominal GDP $20$ $24$ $26$338 Year Quantity of Cars Price of cars (in,000) Nominal GDP $24$ $24$ $24$312

Nominal and Real GDP Nominal GDP is also called dollar GDP GDP in current dollars Real GDP is also called GDP in constant dollars GDP adjusted for inflation GDP in 1996 dollars

Nominal and Real GDP From 1960 to 2000, nominal GDP increased by a factor of 19. Real GDP increased by a factor of 4. Nominal and Real GDP U.S. GDP,

“ GDP is obviously the most important macroeconomic variable. ” (?) Two other variables that inform us on other important aspects of how an economy is performing: 1. Unemployment 2. Inflation

The Unemployment Rate labor force = employed + unemployed L = N + U Unemployment rate:

The Inflation Rate The inflation rate is the rate at which the price level changes (typically increases). Two ways to measure inflation: GDP Deflator CPI

The GDP Deflator The rate of change in the GDP deflator equals the rate of inflation:

The Consumer Price Index The GDP deflator measures the average price of domestic output, while the consumer price index (CPI) measures the average price of consumption (the cost of living).

The composition of the CPI ’ s “ basket ”

Measurement Issues - CPI The ‘ average ’ (?) consumption basket. Accounting for quality of products. Updating the consumption basket over time. Substitution of cheaper goods for more expensive ones (or vice versa).

The CPI and the GDP Deflator The inflation rates, computed using either the CPI or the GDP deflator, are largely similar.

Effects of Inflation Inflation makes buyers poorer. Inflation makes sellers richer. Since most people are both buyers (as consumers) and sellers (as owners of factors of production), the average person ’ s income and wealth should not change because of inflation.

Inflation Redistributes Income Inflation redistributes income from those who cannot raise their prices to those who can. People do not raise prices if inflation is unanticipated. People can not raise their prices if they are fixed by a contract. Inflation redistributes income from lenders to borrowers

Dead-Weight Costs of Inflation Informational Costs Uncertainty Costs Menu Costs Shoe-leather Costs

A Road-Map for the course Output is determined by: demand in the short run, say, a few years, the level of technology, the capital stock, and the labor force in the medium run, say, a decade or so. factors such as education, research, saving, and the quality of government in the long run, say, a half century or more.