1. Chapter 7Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved ECON Designed by Amy McGuire, B-books, Ltd. 7 CHAPTER Tracking the U.S. Economy Macro McEachern 2010- 2011

2. Chapter 7Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved National Income Accounts LO 1  GDP  Market value  All final goods and services  Produced during a year  By resources located in US  One person’s spending  Another person’s income

3. Chapter 7Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved GDP: Expenditure Approach LO 1  Consumption, C  Personal consumption expenditures  Households  Services  Nondurable goods  Durable goods  2/3 rds of GDP

4. Chapter 7Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved GDP: Expenditure Approach LO 1  Investment, I  Gross private domestic investment  New capital goods  Physical capital  New residential construction  Net additions to inventories  Current production not used for current consumption  Inventories  Goods in process  Finished goods  1/6 th of GDP

5. Chapter 7Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved GDP: Expenditure Approach LO 1  Government purchases, G  Government consumption and gross investment  Goods and services  Not included:  Transfer payments  1/5 th of GDP

6. Chapter 7Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved GDP: Expenditure Approach LO 1  Net exports, X-M  Exports (X) minus imports (M)  Physical items  Invisibles (intangibles)  Negative  Imports > Exports  2% of GDP for last decade  5-6% of GDP recently C+I+G+(X-M)=Aggregate expenditure=GDP

7. Chapter 7Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved GDP: Income Approach LO 1  Aggregate income  Sum of income from production  Earned by resource suppliers  Wages  Interest  Rent  Profit Aggregate expenditure = GDP = Aggregate income

8. Chapter 7Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved LO 1 Computation of Value Added for a New Desk The value added at each stage of production is the sale price at that stage minus the cost of intermediate goods, or column (1) minus column (2). The value added at each stage sum to the market value of the final good. Exhibit 1 Stage of Production (1) Sale Value (2) Cost of Intermediate Goods (3) Value Added Logger Miller Manufacturer Retailer $20 50 120 200 - $20 50 120 $20 30 70 80 Market value of final good$200

9. Chapter 7Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved Circular Flow of Income and Expenditure 1: GDP=aggregate income 2: Taxes leak 3: Transfer payments enter Net taxes: NT = taxes – transfers 4: Disposable income flows to households DI = aggregate income – NT 5: Households spend or save DI Consumption enters Savings leak 6: Investment enter 7: Government purchases enter 8: Imports leak 9: Exports enter 10: Consumption + Investment + Government purchases + Net export = Aggregate expenditure LO 2 Exhibit 2

10. Chapter 7Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved Circular Flow: Income and Expenditure LO 2  Expenditure flow  DI = C + S  Consumption, C  Savings, S – to financial markets  Investments, I (borrowed)  Firms – on capital  Households – residential construction  Government spending, G  Net exports = X-M  C+I+G+(X-M) = GDP

11. Chapter 7Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved Leakages = Injections LO 2  C+I+G+(X-M)=DI+NT  C+I+G+(X-M)=C+S+NT  I+G+X=S+NT+M  Injections  I, G, X  Leakages  S, NT, M

12. Chapter 7Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved LO 4 Accounting for Price Changes  Nominal GDP  Prices in same year  Price index  In base year = 100  (Price in current year / Price in base year)*100

13. Chapter 7Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved Hypothetical Example of a Price Index (base Year = 2008) The price index equals the price in the current year divided by the price in the base year, all multiplied by 100. LO 4 Exhibit 3

14. Chapter 7Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved LO 4 Accounting for Price Changes  Consumer price index, CPI  Market basket  (Cost of basket in current year / Cost in base year)*100  Overstates inflation, 1% per year  Quality bias  Substitution  Discount stores  Widely used products