1. PowerPoint Slides prepared by: Andreea CHIRITESCU Eastern Illinois University Measuring a Nation’s Income 1 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

2. Economics Microeconomics –Study of how households and firms make decisions and interact in markets Macroeconomics –Study of economy-wide phenomena including inflation, unemployment, and economic growth 2 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

3. Economy’s Income & Expenditure Gross Domestic Product (GDP) –Measures the total income (wages, rent, profit) of firms in the economy –Measures the total expenditure of households on the economy’s output of goods and services For an economy as a whole –Income must equal expenditure 3 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

4. Figure 1 4 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. The Circular-Flow Diagram Households buy goods and services from firms, and firms use their revenue from sales to pay wages to workers, rent to landowners, and profit to firm owners. GDP equals the total amount spent by households in the market for goods and services. It also equals the total wages, rent, and profit paid by firms in the markets for the factors of production.

5. Economy’s Income & Expenditure Circular-flow diagram assumptions: –Markets Goods and services (produced by firms and purchased by households) Factors of production (supplied by households and purchased by firms) –Households spend all of their income to buy all goods and services (goes to firms) –Firms pay wages, rent, profit to resource owners (goes to households) 5 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

6. The Measurement of GDP Gross domestic product (GDP) –Market value of all final goods and services produced within a country in a given period of time “GDP is the market value…” –Market prices reflect the value of the goods; the price buyers are willing to pay. 6 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

7. The Measurement of GDP “… of all…” –All items (food, cars, landscaping) produced in the economy and sold legally in markets –Excludes most items produced and sold illicitly or produced and consumed at home (wine or vegetables from a garden) –Includes market value of housing Rent paid for people renting Estimated rent for people who own 7 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

8. The Measurement of GDP “… final…” –Value of intermediate goods is already included in the prices of the final goods Tires on a new car are not counted in GDP Tires bought to replace old tires are counted in GDP “… goods and services…” –Tangible goods (durable & nondurable goods) & intangible services (haircuts, landscaping, concerts, accounting) “… produced…” –Goods and services currently produced. Excludes secondary transactions such as Craigslist 8 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

9. The Measurement of GDP “… within a country…” –Goods and services produced domestically regardless of the nationality of the producer If a foreign worker produces in U.S., it counts in U.S. GDP If an American corporation produces at a factory in Mexico, it does not count in U.S. GDP. “… in a given period of time” –A year or a quarter GDP is reported quarterly Annualized – Projected for a year (4 quarters) Seasonably adjusted to take out seasonal cycles such as holiday sale s 9 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

10. The Measurement of GDP Statistical Discrepency –GDP can be calculated 2 ways Income to seller Expenditures by buyers –These should be equal but they are slightly off Known as statistical discrepency –GDP calculated and released each qtr focuses on total expenditures in the economy 10 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

11. The Components of GDP Y = C + I + G + NX Identity Y = GDP C = consumption I = investment G = government purchases NX = net exports 11 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

12. The Components of GDP Consumption, C –Spending by households on goods and services –Exception: purchases of new housing Investment, I –Spending on capital equipment, inventories, and structures –Household purchases of new housing –Inventory accumulation 12 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

13. The Components of GDP Government Purchases, G –Government consumption expenditure and gross investment –Spending on goods and services by local, state, and federal governments. Includes salaries of government workers and expenditures on public works. –Does not include transfer payments (Social security, welfare, unemployment because nothing is produced) 13 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

14. The Components of GDP Net exports, NX = Exports - Imports –Exports Spending on domestically produced goods by foreigners –Imports Spending on foreign goods by domestic residents –If a BMW is bought for $50k Include in consumption in consumer spending Subtracted from Exports Net effec tis that it does not effect GDP because it was not produced in the U.S. 14 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

15. The components of U.S. GDP 2009, GDP of the U.S. = $14 trillion GDP per person = $46,372 –Consumption = $32,823 per person –Investment = $5,278 per person –Government purchases = $9,540 per person –Net exports = –$1,269 per person 15 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

16. Table 1 16 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. GDP and Its Components This table shows total GDP for the U.S. economy in 2009 and the breakdown of GDP among its four components. When reading this table, recall the identity Y = C + I + G + NX.

17. Real versus Nominal GDP Total spending rises from one year to the next means –The economy is producing a larger output of goods and services and/or goods and services are being sold at higher prices Nominal GDP –Production of goods and services valued at current prices, not accounting for inflation. Could mean production did not increase, but prices did. 17 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

18. Real versus Nominal GDP Real GDP –Production of goods and services valued at constant prices to account for inflation by designating a base year –Real GDP is not affected by changes in prices so Real GDP shows how the economy’s overall production of goods changes over time by discounting for inflation For the base year –Nominal GDP = Real GDP 18 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

19. Table 2 19 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. Real and Nominal GDP This table shows how to calculate real GDP, nominal GDP, and the GDP deflator for a hypothetical economy that produces only hot dogs and hamburgers.

20. Real versus Nominal GDP The GDP deflator = –Deflates nominal GDP of inflation to calculate real GDP –Ratio of nominal GDP to real GDP times 100 –Is 100 for the base year –Restates the current level of prices relative to the level of prices in the base year prices to isolate changes in productivity 20 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

21. Real versus Nominal GDP Inflation –Economy’s overall price level is rising Inflation rate –Percentage change in some measure of the price level from one period to the next 21 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

22. Real GDP over recent history The GDP data –Real GDP grows over time –Growth averages 3% per year since 1965 –Growth is not steady GDP growth interrupted by recessions 22 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

23. Real GDP over recent history Recession –Two consecutive quarters of falling GDP –Real GDP declines –Lower income –Rising unemployment –Falling profits –Increased bankruptcies 23 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

24. Figure 2 24 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. Real GDP in the United States This figure shows quarterly data on real GDP for the U.S. economy since 1965. Recessions— periods of falling real GDP—are marked with the shaded vertical bars.

25. GDP GDP: “the best single measure of the economic well-being of a society” –Measures both economy’s total income and total expenditure –Larger GDP associated with: Good life, better healthcare Better educational systems –Measures our ability to obtain many of the inputs into a worthwhile life as countries with large GDP are not concerned with affording basic necessities of lif e 25 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

26. GDP GDP is not a perfect measure of well- being –Doesn’t include Leisure, value of almost any activity that takes place outside markets, or quality of the environment –Nothing about distribution of income 26 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

27. International differences: GDP & quality of life Rich countries have higher GDP per person –Better life expectancy, literacy rates, and internet usage Poor countries have lower GDP per person –Worse life expectancy, literacy rates, internet usage 27 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

28. International differences: GDP & quality of life Low GDP per person associated with: –More infants with low birth weight –Higher rates of infant mortality –Higher rates of maternal mortality –Higher rates of child malnutrition –Less common access to safe drinking water –Fewer school-age children are actually in school leading to less educated populace (Low Human Capital) 28 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

29. International differences: GDP & quality of life Low GDP per person associated with –Fewer teachers per student –Fewer televisions –Fewer telephones –Fewer paved roads –Fewer households with electricity Low GPD per person = basic necessities not all met. 29 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

30. Table 3 30 © 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. GDP and the Quality of Life The table shows GDP per person and three other measures of the quality of life for twelve major countries.