1. Pump Primer Using your textbook: Define Gross Domestic Product. List at least three categories that are not listed in GDP.

2. Unit V: Economics of the Government By Alan J. Carper Bob Jones University Press. 1998 “ECONOMICS for Christian Schools”

3. “Measuring the Wealth of the Nation” Chapter 12

4. Objectives Define gross domestic product Define gross domestic product Differentiate between final and intermediate goods Differentiate between final and intermediate goods Identify the four categories of expenditures used to tabulate the GDP Identify the four categories of expenditures used to tabulate the GDP Explain why the nominal GDP figure is not entirely accurate and needs adjustment to become more useful Explain why the nominal GDP figure is not entirely accurate and needs adjustment to become more useful

5. Define trade deficit and trade surplus Define trade deficit and trade surplus List the reasons that a nation might experience a trade deficit List the reasons that a nation might experience a trade deficit Explain the positions of the protectionists and the supporters of free trade Explain the positions of the protectionists and the supporters of free trade Objectives

6. MACROECONOMIC APPROACHES AND PATHWAYS The Two Main Schools of Thought The Two Main Schools of Thought The two main approaches to macroeconomics are based on two schools of thought: The two main approaches to macroeconomics are based on two schools of thought: Classical macroeconomics Classical macroeconomics Keynesian macroeconomics Keynesian macroeconomics (Bade slide 4)

7. MACROECONOMIC APPROACHES AND PATHWAYS Classical macroeconomics is a body of theory about how a market economy works and why it experiences economic growth and fluctuations. Classical macroeconomics is a body of theory about how a market economy works and why it experiences economic growth and fluctuations. The economy will fluctuate, and growth will slow down from time to time. The economy will fluctuate, and growth will slow down from time to time. But no government remedy can improve the performance of the market. But no government remedy can improve the performance of the market. The classical view = markets work well and deliver the best available macroeconomic performance. The classical view = markets work well and deliver the best available macroeconomic performance. (Bade slide 5)

8. MACROECONOMIC APPROACHES AND PATHWAYS Classical macroeconomic fell into disrepute during the 1930s, which was a decade of high unemployment and stagnant production throughout the world. (i.e., Great Depression) Classical macroeconomic fell into disrepute during the 1930s, which was a decade of high unemployment and stagnant production throughout the world. (i.e., Great Depression) Classical macroeconomics predicted that the Great Depression would end, but gave no method for ending it more quickly. Classical macroeconomics predicted that the Great Depression would end, but gave no method for ending it more quickly. (Bade slide 6)

9. MACROECONOMIC APPROACHES AND PATHWAYS Keynesian macroeconomics is a body of theory about how a market economy works that stresses it inherent instability and the need for active government intervention to achieve full employment and sustained economic growth. Keynesian macroeconomics is a body of theory about how a market economy works that stresses it inherent instability and the need for active government intervention to achieve full employment and sustained economic growth. John Maynard Keynes, in his book “The General Theory of Employment, Interest, and Money,” began this school of thought. John Maynard Keynes, in his book “The General Theory of Employment, Interest, and Money,” began this school of thought. Keynes’ theory was that too little consumer spending and investment lead to the Great Depression. Keynes’ theory was that too little consumer spending and investment lead to the Great Depression. (Bade slide 7)

10. MACROECONOMIC APPROACHES AND PATHWAYS Keynes’ solution to depression and high unemployment was increased government spending. Keynes’ solution to depression and high unemployment was increased government spending. But Keynes predicted that his policy aimed at curing unemployment in the short term might increase it in the long term. But Keynes predicted that his policy aimed at curing unemployment in the short term might increase it in the long term. This prediction became reality during the 1960s and 1970s, when inflation exploded, growth slowed, and unemployment increased. This prediction became reality during the 1960s and 1970s, when inflation exploded, growth slowed, and unemployment increased. It was time for another challenge to the mainstream: new macroeconomics It was time for another challenge to the mainstream: new macroeconomics (Bade slide 8)

11. MACROECONOMIC APPROACHES AND PATHWAYS The New Macroeconomics The New Macroeconomics New macroeconomics is a body of theory about how a market economy works based on the view that macro outcomes depend on micro choices—the choices of rational individuals and firms interacting in markets. New macroeconomics is a body of theory about how a market economy works based on the view that macro outcomes depend on micro choices—the choices of rational individuals and firms interacting in markets. New classical macroeconomics incorporates the ideas of classical economists that markets work and new Keynesian macroeconomics that markets adjust slowly. New classical macroeconomics incorporates the ideas of classical economists that markets work and new Keynesian macroeconomics that markets adjust slowly. (Bade slide 9)

12. MACROECONOMIC APPROACHES AND PATHWAYS The key difference between the two new schools is in their view of how quickly price and wages adjust in the face of excess demand or excess supply. The key difference between the two new schools is in their view of how quickly price and wages adjust in the face of excess demand or excess supply. But this difference is tiny, and a consensus is emerging. But this difference is tiny, and a consensus is emerging. The Road Ahead The Road Ahead We follow the new consensus and begin with an explanation of what determines real GDP and employment and the pace of economic growth. We follow the new consensus and begin with an explanation of what determines real GDP and employment and the pace of economic growth. (Bade slide 10)

13. Gross Domestic Product “One person’s spending is another person’s income.”

14. Gross Domestic Product The gross domestic product, or GDP, is commonly used to measure economic growth. The gross domestic product, or GDP, is commonly used to measure economic growth. The GDP in the dollar value at market prices of all final goods and services produced in the economy during a stated period. The GDP in the dollar value at market prices of all final goods and services produced in the economy during a stated period. Final goods are goods intended for the final user. Final goods are goods intended for the final user. For example, gasoline is a final good; but crude oil, from which gasoline and other products are derived, is not. For example, gasoline is a final good; but crude oil, from which gasoline and other products are derived, is not. (NCEE slide 26)

15. GDP also “aims to be a full count of the value of everything that is produced.” GDP also “aims to be a full count of the value of everything that is produced.” Includes only those items that are traded in U.S. markets. Includes only those items that are traded in U.S. markets. GDP does not include: GDP does not include: sale of used goods (used cars) sale of used goods (used cars) sale of intermediate goods sale of intermediate goods illegal transactions illegal transactions purely financial transactions (A financial transaction does not involve production of a good or service. It is a transfer of assets.) purely financial transactions (A financial transaction does not involve production of a good or service. It is a transfer of assets.) do-it-yourself activities do-it-yourself activities imports (goods made outside of U.S.) imports (goods made outside of U.S.) Gross Domestic Product

16. How GDP is Measured Business Investment: a. Gross private domestic investment (GPDI), or business investment - sum of all business spending on capital investment and unplanned inventories. Government Spending - Federal, state and local governments purchase approx. $1 of every $5 worth of products and services Business Investment: a. Gross private domestic investment (GPDI), or business investment - sum of all business spending on capital investment and unplanned inventories. Government Spending - Federal, state and local governments purchase approx. $1 of every $5 worth of products and services (Carper, 170-171)

17. How GDP is Measured Net Exports a. Exports (products sold to other countries) b. Imports products purchased from other countries includes net income from assets abroad (Carper, 172)

18. Households Government Firms The Financial Market The Output Market The Input Market Rest of World $ I XMTG TTR Incomes Expenditures C I G NX Government borrows crowding out both consumption and Investment. Expansionary policy reduces government revenues Expansionary policy adds extra flows of government spending C=Consumption Spending I=Investment Spending G=Government Spending NX=Net exports (Exports minus Imports) T=Taxes TR=Government Transfer PaymentsS=Savings

19. Macroeconomic Goals Activity 11 by Advanced Placement Economics Teacher Resource Manual. National Council on Economic Education, New York, N.Y.

20. Before using GDP to measure output growth, we must first adjust GDP for price changes. Before using GDP to measure output growth, we must first adjust GDP for price changes. Let’s say GDP in Year 1 is $1,000 and in Year 2 it is $1,100. Does this mean the economy has grown 10 percent between Year 1 and Year 2? Let’s say GDP in Year 1 is $1,000 and in Year 2 it is $1,100. Does this mean the economy has grown 10 percent between Year 1 and Year 2? Not necessarily. If prices have risen, part of the increase in GDP in Year 2 will merely represent the increase in prices. Not necessarily. If prices have risen, part of the increase in GDP in Year 2 will merely represent the increase in prices. We call GDP that has been adjusted for price changes real GDP. If it isn’t adjusted for price changes, we call it nominal GDP. We call GDP that has been adjusted for price changes real GDP. If it isn’t adjusted for price changes, we call it nominal GDP. To compute real GDP in a given year, use the following formula: To compute real GDP in a given year, use the following formula: Real GDP in Year 1 = (nominal GDP x 100) / price index Part C: Measuring Short-Run Economic Growth

21. To computer real output growth in GDP from one year to another; To computer real output growth in GDP from one year to another; Subtract real GDP from one year to another; Subtract real GDP from one year to another; Subtract real GDP for Year 2 from real GDP in Year 1. Subtract real GDP for Year 2 from real GDP in Year 1. Divide the answer (the change in real GDP from the previous year) by real GDP in Year 1. Divide the answer (the change in real GDP from the previous year) by real GDP in Year 1. The result, multiplied by 100, is the percentage growth in real GDP from year 1 to Year 2. The result, multiplied by 100, is the percentage growth in real GDP from year 1 to Year 2. (If real GDP declines from Year 1 to Year 2, the answer will be a negative percentage.) (If real GDP declines from Year 1 to Year 2, the answer will be a negative percentage.) Here’s the formula: Here’s the formula: Output growth = (real GDP in Year 2 – real GDP in Year 1) real GDP in Year 1 x 100 Example: If real GDP in Year 1 = $1,000 and in Year 2 = $1,028, then the output growth rate from Year 1 to Year 2 is 2.8%: (1,028 – 1,000)/1,000 =.028, which we multiply by 100 in order to express the result as a percentage (2.8%).

22. To understand the impact of output changes, we usually look at real GDP per capita. To understand the impact of output changes, we usually look at real GDP per capita. To do so, we divide the real GDP of any period by a country’s average population during the same period. To do so, we divide the real GDP of any period by a country’s average population during the same period. This procedure enables us to determine how much of the output growth of a country simply went to supply the increase in population and how much of the growth represented improvements in the stand of living of the entire population. This procedure enables us to determine how much of the output growth of a country simply went to supply the increase in population and how much of the growth represented improvements in the stand of living of the entire population.

23. In this example, the average standard of living fell even though output growth was positive. Developing countries with positive output growth but high rates of population growth often experience this condition. In this example, the average standard of living fell even though output growth was positive. Developing countries with positive output growth but high rates of population growth often experience this condition. Year 1 Real GDP per capita = Year 1 real GDP Population in Year 1 = $1,000 100 = $10 Year 2 Real GDP per capita = $1,028 110 = $9.30 Example, let’s say the population in Year 1 was 100 and in Year 2 it was 110. What was the real GDP per capita in Years 1 and 2?

24. Nominal and Real GDP Nominal and Real GDP Nominal GDPPrice Index Population Year 3$5,000125 11 Year 4$6,600150 12 8.What is the real GDP in Year 3? _____________________________ 9.What is the real GDP in Year 4? _____________________________ 10.What is the real GDP per capita in Year 3? ____________________ 11.What is the real GDP per capita in Year 4? ____________________ 12.What is the rate of real output growth between Years 3 and 4? __________________________________________ 13. What is the rate of real output growth per capita between Years 3 and 4? __________________________________________ (Hint: Use per-capita data in the output growth rate formula.) $4,000 [(100 x $5,000) / 125] $4,400 [(100 x $6,600) / 150] $364 ($4,000 / 11) $367 ($4,400 / 12) 10% [($4,400 – 4,000) / 4,000] x 100 0.82% [($367 – 364) / 364] x 100

25. Foreign Trade Reasons for Trade Deficits: 1. Domestic Inability to Produce 2. Better Quality of Foreign Goods 3. Cheaper Foreign Materials 4. Lower Foreign Wages 5. Lower Foreign Capital Costs 6. Foreign Government Subsidies (Carper, 176-178)

26. Foreign Trade Trade Policy, Protectionism, and Free Trade 1. Protectionists 2. Free Trade (Carper, 180)

27. John Stuart Mill (1806-1873) Economic Philosopher Economic Philosopher “Analyzed contemporary economic thought” “Analyzed contemporary economic thought” “Advanced the idea that society did not have the ability to alter its economic production capabilities, but did have the ability to alter the way it distributed its economic products.” “Advanced the idea that society did not have the ability to alter its economic production capabilities, but did have the ability to alter the way it distributed its economic products.” Major work, “The Principles of Political Economy” Major work, “The Principles of Political Economy” Government should control the distribution of wealth Government should control the distribution of wealth Individual freedom Individual freedom Social reforms Social reforms Shorter work hours Shorter work hours Tax reform Tax reform Laid foundation for advancements in economics Laid foundation for advancements in economics Economic Philosopher Economic Philosopher “Analyzed contemporary economic thought” “Analyzed contemporary economic thought” “Advanced the idea that society did not have the ability to alter its economic production capabilities, but did have the ability to alter the way it distributed its economic products.” “Advanced the idea that society did not have the ability to alter its economic production capabilities, but did have the ability to alter the way it distributed its economic products.” Major work, “The Principles of Political Economy” Major work, “The Principles of Political Economy” Government should control the distribution of wealth Government should control the distribution of wealth Individual freedom Individual freedom Social reforms Social reforms Shorter work hours Shorter work hours Tax reform Tax reform Laid foundation for advancements in economics Laid foundation for advancements in economics (Carper, 180)

28. GNP Activity With a partner complete the GNP Activity. With a partner complete the GNP Activity.

29. Works Cited Bade, Robin and Michael Parkin. Foundations of Economics. Pearson Education, Inc.: Boston, 2004. Bade, Robin and Michael Parkin. Essential Foundations of Economics. Power Point presentation. Carper, Alan. Economics for Christian Schools. Greenville: Bob Jones University Press, 1998. "The New King James Version." Logos Bible Software. CD_ROM. ed. 2004. Bade, Robin and Michael Parkin. Foundations of Economics. Pearson Education, Inc.: Boston, 2004. Bade, Robin and Michael Parkin. Essential Foundations of Economics. Power Point presentation. Carper, Alan. Economics for Christian Schools. Greenville: Bob Jones University Press, 1998. "The New King James Version." Logos Bible Software. CD_ROM. ed. 2004.