Measuring a Nation’s Income Professor Chris Adam Australian Graduate School of Management University of Sydney and University of New South Wales

INTRODUCTION Macroeconomics – study of economy as a whole Explain economic changes that affect many households, firms and markets at once Consider data that are used to monitor overall economy

GROSS DOMESTIC PRODUCT GDP Total income of everyone working in economy Total expenditure on economy’s output of goods and services For economy as a whole, income must equal expenditure Circular flow diagram

GROSS DOMESTIC PRODUCT GDP is … the market value … use of prices … of all … external sales; imputation … final … vs intermediate … goods and services … tangibles and intangibles … produced … current production … within a country … vs Gross National Product … in a given period of time. quarterly; annually

COMPONENTS OF GROSS DOMESTIC PRODUCT Algebra! Y = C + I + G + NX Y is GDP C is consumption: household spending I is investment: spending that creates future income G is government: spending by government NX is net exports: exports (foreign-purchased, domestic-produced g&s) minus imports (domestic-purchased, foreign-produced g&s)

MEASURING GDP Three methods: GDP expenditure: method described above GDP income: sum of factor incomes, consumption of fixed capital, net indirect taxes GDP production: market value of g&s produced minus cost of g&s used (“intermediate production”); also called “value added”

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REAL vs NOMINAL GDP Increase of GDP(E) over time We produced more g&s at the same prices? We paid more for the same g&s? Some combination? Nominal GDP: value of g&s produced now using current prices Real GDP: value of g&s produced now using previous (unchanging) prices

REAL vs NOMINAL GDP Nominal GDP GDP deflator = x 100 Real GDP Real GDP has grown over time but not constantly GDP not measure “beauty of our poetry”, but can tell us if we can afford poetry

WHAT GDP MISSES Leisure reduction increases GDP but may reduce well-being Removal of environmental regulation may increase GDP but reduce quality of environment Use of market prices excludes non-market activities