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Chapter 2
Measuring
Macroeconomic
Data
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• To examine the different approaches to
measuring gross domestic product
• To understand real versus nominal GDP
• To understand how to measure inflation
• To understand how to measure
unemployment
• To understand different interest rates
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Measuring Economic Activity:
National Income Accounting
• Gross domestic product (GDP) is the
total value of goods and services produced
in an economy
– the broadest measure of economic activity
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Measuring Economic Activity:
National Income Accounting (cont’d)
• National income accounting is an
accounting system that measures economic
activity and its components
• Fundamental identity of national
income accounting:
Total Production = Total Expenditure = Total Income
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Measuring GDP: The Production
Approach
• GDP is the current market value of all final
goods and services newly produced in the
economy during a fixed period of time
• In the case of apples and oranges, we
multiply the their prices and quantities, and
then add them up:
GDP = (price of apples ✕ quantity of apples)
+ (price of oranges ✕ quantity of oranges)
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Market Value
• Not all goods and services are counted in
GDP because they are:
–
–
Nonmarket goods and services, which do not
have a market price (e.g., household services
produced within a family), or
Produced in the underground economy
• Many nonmarket goods and services are
counted in GDP by their imputed values
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Newly Produced Goods and Services
• GDP includes only goods and services that
are newly produced in the current period
• If you buy a 3-year-old car from a car
dealership
–
–
The cost of the used car is not included in GDP
The value of the services provided by the car
dealership is included in GDP
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Valued-Added Technique
• Value added is the value of a firm’s
output minus the cost of the intermediate
goods purchased by the firm
• By adding up the value added from each
firm, we get the final value of the goods
and services produced
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Capital Goods
• A capital good (e.g., a robot) is used in
the production of other goods that is not
used up in the stages of production
• New capital goods are classified as final
goods because they are not included in
spending on other final goods and yet their
production is part of economic activity
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Inventory Investment
• Inventory investment is the change in
inventories (firms’ holdings of raw
materials, unfinished goods and unsold
finished goods) over a given period of time
• Inventory investment is included in GDP
for the same reason that we include capital
goods
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Fixed Period of Time
• We calculate GDP over a fixed period of
time, such as a quarter or a year
• GDP is a flow, which is an amount per a
given unit of time
• By contrast, a stock is a quantity at a
given point in time
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Policy and Practice: Can GDP Buy
Happiness?
•
•
•
•
Is GDP the best measurement of national well-being?
In 1972, the king of Bhutan proposed the
replacement of GDP by “gross national happiness”
that incorporates factors such as spirituality and
culture
In 1990, the United Nations began to rank countries
on a so-called human development index, which is a
combination of life expectancy, education, literacy,
educational participation, and GDP
In 2008, a French economic commission led by Nobel
Prize winner Joseph Stiglitz called for modifications to
GDP with factors such as political freedom, physical
safety, and work-life balance
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Box: Stocks Versus Flows
• A stock is often an accumulation of flows
over time
• Examples:
–
–
Inventory investment is a flow, which
accumulates into the stock of inventories
Saving is a flow, which accumulates into a
person’s wealth
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FIGURE 2.1 Stocks Versus Flows
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Measuring GDP: The Expenditure
Approach
• GDP is the total spending on currently
produced final goods and services in the
economy
• National income identity:
where
Y
C
I
G
NX
Y = C + I + G + NX
=
=
=
=
=
GDP = total production (output)
consumption expenditure
investment
gov’t purchases of goods & services
net exports = exports - imports
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TABLE 2.1 GDP and Its Components,
2009
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Consumption Expenditure
• Total spending for currently produced
consumer goods and services
• Consumption was 70.8% of GDP in 2009
• Basic categories:
1. Consumer durables
2. Nondurable goods
3. Services
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Investment
• Spending on currently produced capital
goods that are used to produce goods and
services over an extended period of time
• Investment was 11.4% of GDP in 2009
• Basic categories:
1. Fixed investment
2. Inventory investment
3. Residential investment
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Box: Meaning of the Word
Investment
• For non-economists, an investment
normally refers to the purchase of common
stocks or bonds
• For economists, investment spending refers
to the purchase of physical assets, such as
new machines or new houses—purchases
that add to GDP
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Government Purchases
•
•
•
•
•
Spending by the government on currently
produced goods and services
Government purchases were 20.6% of GDP
in 2009
Government consumption includes
government purchases for short-lived goods
and services like health care and police
Government investment includes spending
for capital goods like buildings and computers
represents
Pure government transfers (e.g., Social
Security and Medicare) are excluded from G
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Net Exports
• Net exports (or trade balance) are
exports minus imports
• Why subtract imports from GDP?
–
Answer: Spending on imports is included in
consumption expenditure, investment, and
government purchases, but is not produced in
this country
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FIGURE 2.2 Expenditure Components
of U.S. GDP, 1950-2010
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Changes in the Spending Components
of GDP Over Time
• Consumption grew steadily as a share of
GDP from 1970 to 2008
• Investment is much more volatile than
other components of GDP
• Government purchases have actually
remained quite stable at around 20% of
GDP
• Net exports have been negative
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Box: An International Comparison of
Expenditure Components
• The United States differ from other
countries by having the highest share of
GDP going to consumption, the lowest
share of investment, and net exports have
been negative
• By contrast, China has the lowest share of
consumption, the highest share of
investment, and the largest share of net
exports
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FIGURE 2.3 Shares of Expenditure
Components for Different Countries
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Measuring GDP: The Income
Approach
• Compensation of employees – wages and salaries of
employees, and employee benefits
• Corporate profits – profits after taxes of corporations
• Other income – income of the self-employed, royalty
income and net interest earned by individuals, etc.
• Depreciation – the loss of value of capital from wear
and tear
– net domestic product = GDP – depreciation
• Net factor income – wages, profits, and rent paid to
U.S. residents by foreigners minus factor income paid
by U.S. residents to foreigners
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TABLE 2.2 Income Approach to GDP,
2009
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Income Measures
• National income = Compensation of
employees + other income + corporate
profits
• Gross national product (GNP) = national
income + depreciation
– total income earned by U.S. residents
• Gross domestic product (GDP) = GNP + net
factor income
– domestically produced measure of gross product
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Income Measures (cont’d)
Private Disposable Income =
GDP + net factor income + transfer payments
received from the government + interest
payments on government debt – taxes
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Income Measures (cont’d)
Net Government Income =
taxes – transfers – interest payments on
government debt
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Real Versus Nominal GDP
• A nominal variable is a measure at current
market (nominal) prices (e.g., nominal GDP)
• A real variable is a measure in terms of
quantities of actual goods and services (e.g.,
real GDP)
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Real Versus Nominal GDP
(cont’d)
Nominal GDP
Real GDP =
Price Level
or
Nominal GDP =
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Price Level ✕ Real GDP
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Real Versus Nominal GDP
(cont’d)
• If 2005 is the base year, then real GDP for
the year 2010 is:
Real GDP in 2012 =
(price of apples in 2005 ✕ quantity of apples in 2012)
+ (price of oranges in 2005 ✕ quantity of oranges in 2012)
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Real Versus Nominal GDP
(cont’d)
• Raw data on GDP tends to fall in cold and
snowy months
• Therefore, economic statistics like GDP data
are seasonally adjusted to account for
regular seasonal fluctuations within a year
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Chain-Weighted Measures of Real
GDP
• If prices of some important goods changed
dramatically relative to other goods, using a
fixed base-year for prices when calculating
real GDP can produce misleading results
• Chain-weighted measures of GDP allow
the base year to change continuously
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Measuring Inflation
• Price indexes are measures of the price
level
• Examples:
– GDP deflator (or implicit price deflator)
– Personal consumption expenditure deflator
– Consumer price index
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GDP Deflator
GDP Deflator for Year y
Nominal GDP in Year y
= 100 x
Real GDP in Year y
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PCE Deflator
PCE Deflator for Year y
Nominal PCE in Year y
= 100 x
Real PCE in Year y
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Consumer Price Index
• A measure of the average prices of
consumer goods and services, i.e., a cost of
living index
• Calculated monthly by the Bureau of Labor
Statistics using a basket of thousands of
consumer goods and services
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Consumer Price Index
• If the basket consists of 2 apples and 1
orange, then the CPI for 2010 with a base
year of 2005 is:
CPI for 2010 =
(10 x price of gas/gallon in 2012)+(2 x price of apples in 2012)
100 x
(10 x price of gas/gallon in 2015)+(2 x price of apples in 2015)
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Policy and Practice: Policy and
Overstatements of the Cost of Living
• The CPI is used in determining labor
contracts and government payments such
as Social Security benefits
• A study led by Michael Boskin of Stanford
University found that increases in the CPI
overstate increases in the cost of living by
1% point
• Measurements errors in the CPI could have
important implications
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Inflation Rate
• The inflation rate is the % rate of change of
the price level over a particular period:
Pt - Pt 1
Pt
t =
=
Pt 1
Pt 1
where
t = inflation rate in period t
Pt = period level at time t
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FIGURE 2.4 U.S. Inflation Rates with
Different Price Indexes, 1950-2010
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Percentage Change Method and the
Inflation Rate
• Because:
% Change in (x X y ) = (% Change in x)
+ (% Change in y )
• We know that:
% Change in No minal GDP =
(% Change in the Price Level)
+ (% Change in Real GDP)
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Percentage Change Method and the
Inflation Rate (cont’d)
• Because the % change in the price level is
the inflation rate, while the % changes in
nominal and real GDP are the growth rate:
Inflation Rate = (Growth Rate of Nominal GDP)
- (Growth Rate of Real GDP)
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Measuring Unemployment
• The unemployment rate is the percentage of
people in the civilian population who want to
work but who do not have jobs
• The Bureau of Labor Statistics classifies each
adult over age 16 into:
1. Employed
2. Unemployed
3. Not in the labor force
•
Discouraged workers (those who would live to work
but have given up looking, and those who have
voluntarily left the labor force)
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Measuring Unemployment
(cont’d)
Labor Force =
Number of Employed + Number of Unemployed
Number of Unemployed
Unemployment Rate =
Number of Employed
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Measuring Unemployment
(cont’d)
Labor Force
Labor-Force Participation Rate =
Adult Population
Employed
Employment Ratio =
Adult Population
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FIGURE 2.5 Unemployment in the
Adult Civilian Population, 2010
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Macroeconomics In The News:
Unemployment and Employment
• The Bureau of Labor Statistics reports
employment and unemployment data using two
alternative surveys: the household survey and
the survey of business establishments
• The two surveys sometimes give a different
picture of labor market conditions due to:
• The household survey counts workers, while the
establishment survey counts jobs
• The household survey counts the self-employed as
working, while the establishment does not
• The establishment survey covers more workers
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2-50
Measuring Interest Rates
• An interest rate is the cost of borrowing,
or the price paid for the rental of funds
• Interest rates are returns for holding debt
securities, such as bonds
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Macroeconomics In The News:
Interest Rates
• Interest rates that receive media attention
are:
– Prime rate
– Federal funds rate
– London Inter-Bank Offered Rate (LIBOR)
– Treasury bill rate.
– Ten-year Treasury bond rate
– Federal Home Loan Mortgage Corporation rate
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Real Versus Nominal Interest Rates
• A nominal interest rate makes no
allowance for inflation
• The real interest rate is the amount of
extra purchasing power a lender must be
paid for the rental of his/her money
– The ex ante real interest rate is adjusted
for expected changes in the price level
– The ex post real interest rate is adjusted
for actual changes in the price level
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2-53
Real Versus Nominal Interest Rates
(cont’d)
• The Fisher equation:
i
= nominal interest rate
r = nominal interest rate
e = expected inflation
i = r + e
or
r = i - e
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Real Versus Nominal Interest Rates
(cont’d)
• Example: For a one-year loan with a 4%
nominal interest rate (i=4%) and you expect
the inflation to be 6% in a year ( e=6%),

then:
r = 4% - 6% = -2%
• When the real interest rate is low, there are
greater incentives to borrow and invest, but
fewer incentives to lend.
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The Important Distinction Between
Real and Nominal Interest Rates
• Credit markets are where households and
businesses get funds (credit) from each
other
• Because the real interest rate reflects the
real cost of borrowing, it is likely to be a
better indicator of the incentives to borrow,
invest, and lend in credit markets than
nominal interest rates
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FIGURE 2.6 Real and Nominal Interest Rates
(Three-Month Treasury Bill), 1955-2010
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