1. 7 McGraw-Hill/IrwinCopyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved. Measuring Domestic Output and National Income

2. National Income Accounting Assess health of economy Track long run course Formulate policy Gross Domestic Product (GDP): Total market value of all final goods and services produced within a country within a year Assessing the Economy’s Performance LO1

3. Gross Domestic Product Monetary measure Avoid multiple counting Market value final goods Exclude intermediate goods Value added counted LO1

4. Gross Domestic Product Exclude financial transactions Public transfer payments Private transfer payments Stock (and bond) market transactions Exclude second hand sales LO1

5. Circular Flow LO1 RESOURCEMARKET Households sell Businesses buy PRODUCTMARKET Businesses sell Households buy BUSINESSES buy resources sell products HOUSEHOLDS sell resources buy products

6. Circular Flow Revisited LO2

7. Two Approaches to GDP Income approach Count income derived from production Expenditure approach Count sum of money spent buying the final goods LO2

8. Two Approaches to GDP GDP, output, and income all refer to the same thing and can be used interchangeably. LO2

9. Expenditures Approach Personal consumption expenditures (C) Durable goods Nondurable goods Services Spending on houses is not included Largest component of GDP LO2

10. Expenditures Approach Gross private domestic investment (I g ) Machinery, equipment, and tools All construction Changes in inventories LO2

11. Changes in Inventories Changes in inventories represent the difference between what was produced during the year, and what was purchased. LO2

12. Changes in Inventories If inventories increase, more was produced than purchased, so the increase in inventories must be added to Ig and GDP. Vice versa if inventories fell. LO2

13. Net Investment Net Investment includes only added capital during the year. I n = I g – Depreciation Consumption of Fixed Capital (Depreciation) – amount of capital goods used during the year. LO2

14. Net Investment I g > CFC; therefore I n > 0 and economy is growing. I g = CFC; therefore I n = 0 and economy is stagnant. I g < CFC; therefore I n < 0 and economy is experiencing negative growth. LO2

15. Expenditures Approach Government purchases (G) Goods and services Publicly owned capital Excludes transfer payments Net exports (X n ) Add exported goods Subtract imported goods X n = exports - imports GDP = C+I g +G+X n LO2

16. Compensation Rents Interest Proprietor’s Income Corporate Profits Taxes on Production and Imports National Income Net Foreign Factor Income (-) Consumption of Fixed Capital (+) Statistical Discrepancy (+) Gross Domestic Product $ 8,612 541 440 1,225 2,031 1,123 $13,972 253 2,543 -17 $ 16,245 Personal Consumption (C) Gross Private Domestic Investment (I g ) Government Purchases (G) Net Exports (X n ) Gross Domestic Product in Billions Receipts Expenditures Approach Allocations Income Approach $11,150 2,475 3,167 -547 $ 16,245 U.S. Economy 2012 LO2 Source: Bureau of Economic Analysis, www.bea.gov

17. Comparative GDP LO2

18. Other National Accounts Net Domestic Product (NDP) Measures what has been added to the stock of capital and the new output National Income (NI) Includes all income earned by U.S.-owned resources whether they are located in the United States or abroad LO2

19. Other National Accounts Personal Income (PI) Includes all income received whether it was earned or unearned Disposable Income (DI) Income that households receive and able to spend as they desire DI = C + S LO2

20. U.S. Income Relationships 2012 Gross Domestic Product (GDP) Less: Consumption of Fixed Capital Equals: Net Domestic Product (NDP) Less: Statistical Discrepancy Plus: Net Foreign Factor Income Equals: National Income (NI) Less: Taxes on Production and Imports Less: Social Security Contributions Less: Corporate Income Taxes Less: Undistributed Corporate Profits Plus: Transfer Payments Equals: Personal Income (PI) Less: Personal Taxes Equals: Disposable Income (DI) $ 16,245 2,543 $ 13,702 -17 253 $ 13,972 1,066 951 435 542 2,766 $ 13,744 1,498 $ 12,246 LO2

21. Nominal vs. Real GDP Nominal GDP Uses current prices Real GDP Adjusted for inflation Use base year’s prices LO3

22. GDP Price Index Use price index to determine real GDP Price Index In Given Year =x100 Price Good in Specific Year Price of Good In Base Year Real GDP = Nominal GDP Price Index (in hundredths) LO3

23. Shortcomings of GDP Nonmarket activities Leisure Improved product quality The underground economy GDP and the environment Composition and distribution of the output Noneconomic sources of well-being LO4

24. Underground Economy LO4