1. Chapter 2 Measurement

2. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-2 Measuring GDP: The National Income and Product Accounts What is GDP and How Do We Measure It? – GDP: Value of Domestically Produced Output – Commerce Department’s National Income and Product Accounts (NIPA) – Business, Consumer, and Government Accounting The Equivalence of Three Methods

3. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-3 A Simple Fictional Island Economy Sectors: a coconut producer, a restaurant, consumers, and a government Coconut producer: produces 10 million coconut, each sold at $2. 6 million go to the restaurant, remaining 4 go to the consumers. Restaurant: sells $30 million meals Government: provides protection from attacks from other islands. It collects taxes ($4.5 million from firms, 1 million from consumers). Consumers: work for the business and government, receive interest, pay taxes.

4. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-4 Table 2.1 Coconut Producer

5. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-5 Table 2.2 Restaurant

6. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-6 Table 2.3 After-Tax Profits

7. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-7 Table 2.4 Government

8. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-8 Table 2.5 Consumers

9. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-9 The Product Approach Value Added: VA = total revenue – the value of intermediate goods

10. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-10 Table 2.6 GDP Using the Product Approach

11. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-11 The Expenditure approach GDP = Consumption (C) + Investment (I) + Government Expenditure (G) + Net Exports (NX=X-IM)

12. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-12 Table 2.7 GDP Using the Expenditure Approach

13. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-13 The Income approach GDP = Wage Income + After-Tax Profits + Interest Income + Taxes

14. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-14 Table 2.8 GDP Using the Income Approach

15. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-15 Add in Inventory Investment Suppose now the coconut producer produces 13 million instead 10 million, but only sell out 10 million. What is GDP now? Answer: $49.5 million.

16. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-16 Add in International Trade Suppose now the restaurant imports additional 2 million coconuts from other islands at $2 each. What is GDP now? Answer: $39.5 million.

17. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-17 What is GNP? GNP = GDP + NFP NFP: Net Factor Payments = Factor payments to US citizens - Factor payments to foreigners

18. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-18 What does GDP Leave Out? Nonmarket activity: home production, leisure, …… Underground economy: illegal drug trade, baby-sitting, …… Valuing Government Production

19. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-19 Table 2.9 Gross Domestic Product for 2002

20. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-20 Nominal and Real GDP and Price Indices Nominal GDP: GDP at current price Real GDP: GDP corrected for inflation

21. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-21 Table 2.10 Real GDP: Example

22. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-22 Nominal GDP GDP1 = $130, GDP2 = $292 Change = (GDP2-GDP1)/GDP1 = 225% Real GDP Base year 1: RGDP1 = $130, RGDP2 = $176 Change (g1) = 35.4% Base year 2: RGDP1 = $222.50, RGDP2 = $292 Change (g2) = 31.2%

23. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-23 Chain-Weighting Scheme

24. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-24 Figure 2.1 Nominal GDP (black line) and Chain-Weighted Real GDP(colored line) for the Period 1947–2003

25. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-25 Measures of the Price Level Implicit GDP Price Deflator = (Nominal GDP / Real GDP) * 100 CPI(t) = (Cost of base year quantities at prices of year t / Cost of base year quantities at base year prices) * 100

26. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-26 Table 2.11 Implicit GDP Price Deflators: Example Cont’d

27. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-27 Figure 2.2 Inflation Rate Calculated from the CPI (blue line), and Calculated from the Implicit GDP Price Deflator (black line).

28. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-28 Problems Measuring Real GDP and Prices Substitution Biases: make CPI upward biased. Accounting for Quality Changes: increase in prices maybe reflect the improvement in quality. Inflation is biased upward. Treatment of Newly-Introduced Goods: bias downward GDP growth, upward the inflation

29. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-29 Measures of Savings, Wealth, and Capital Flow: a rate (change) per unit of time – Saving, Investment, Consumption, … Stock: the quantity in existence of some object at a point in time – Capital, Wealth, …

30. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-30 Private Disposable Income and Private Sector Saving

31. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-31 Government Surpluses, Deficits, and Government Saving

32. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-32 Saving, Investment, and the Current Account

33. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-33

34. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-34 Labor Market Measurement BLS Categories – Employed – Unemployed: unemployed during the past week but actively searched for work during the last four weeks – Not in the Labor Force

35. Copyright © 2005 Pearson Addison-Wesley. All rights reserved. 2-35 The Unemployment Rate = Number unemployed / Labor force Participation Rate = Labor force / Total working age population