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Chapter
19
GDP: Measuring Total
Production and Income
Prepared by:
Fernando & Yvonn Quijano
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objectives
19.1 Explain how total production
is measured.
19.2 Discuss whether GDP is a good
measure of well-being.
19.3 Discuss the difference between
real GDP and nominal GDP.
The business cycle does not
affect all industries in the same
way. For example, some
trucking firms experienced
slow sales during 2006 while
airlines were prospering.
19.4 Become familiar with other
measures of total production
and total income.
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Chapter 19: GDP: Measuring Total Production and Income
GDP: Measuring Total Production and Income
Microeconomics The study of how
households and firms make choices, how
they interact in markets, and how the
government attempts to influence their
choices.
Macroeconomics The study of the
economy as a whole, including topics such
as inflation, unemployment, and economic
growth.
Business cycle Alternating periods of
economic expansion and economic
recession.
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Chapter 19: GDP: Measuring Total Production and Income
GDP: Measuring Total Production and Income
Expansion The period of a business cycle
during which total production and total
employment are increasing.
Recession The period of a business cycle
during which total production and total
employment are decreasing.
Economic growth The ability of an
economy to produce increasing quantities of
goods and services.
Inflation rate The percentage increase in
the price level from one year to the next.
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.1
Chapter 19: GDP: Measuring Total Production and Income
Gross Domestic Product Measures Total Production
Measuring Total Production: Gross Domestic Product
Gross domestic product (GDP)
The market value of all final goods
and services produced in a country
during a period of time, typically one
year.
GDP Is Measured Using Market Values, Not Quantities
The word value is important in the
definition of GDP.
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.1
Chapter 19: GDP: Measuring Total Production and Income
Gross Domestic Product Measures Total Production
Measuring Total Production: Gross Domestic Product
GDP Includes Only the Market Value of Final Goods
Final good or service A good or
service purchased by a final user.
Intermediate good or service A
good or service that is an input into
another good or service, such as a
tire on a truck.
GDP Includes Only Current Production
GDP includes only production that
takes place during the indicated
time period.
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.1
Solved Problem
19-1
Chapter 19: GDP: Measuring Total Production and Income
Calculating GDP
PRODUCTION AND PRICE STATISTICS FOR 2007
(1)
PRODUCT
(2)
QUANTITY
(3)
PRICE PER UNIT
100
$50.00
Pizzas
80
10.00
Textbooks
20
100.00
2,000
0.10
Eye examinations
Paper
(1)
QUANTITY
(2)
PRICE PER UNIT
100
$50
$5,000
Pizzas
80
10
800
Textbooks
20
100
2,000
PRODUCT
Eye examinations
(3)
VALUE
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.1
Chapter 19: GDP: Measuring Total Production and Income
Gross Domestic Product Measures Total Production
Production, Income, and the Circular Flow Diagram
FIGURE 19-1
The Circular Flow and the
Measurement of GDP
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.1
Chapter 19: GDP: Measuring Total Production and Income
Gross Domestic Product Measures Total Production
Production, Income, and the Circular Flow Diagram
Transfer payments Payments
by the government to individuals
for which the government does
not receive a new good or
service in return.
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.1
Chapter 19: GDP: Measuring Total Production and Income
Gross Domestic Product Measures Total Production
Components of GDP
Personal Consumption Expenditures, or “Consumption”
Consumption Spending by
households on goods and services,
not including spending on new houses.
Gross Private Domestic Investment, or “Investment”
Investment Spending by firms on new
factories, office buildings, machinery, and
additions to inventories, and spending by
households on new houses.
Don’t Let This Happen to YOU!
Remember What Economists Mean by Investment
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.1
Chapter 19: GDP: Measuring Total Production and Income
Gross Domestic Product Measures Total Production
Components of GDP
Government Consumption and Gross Investment, or
“Government Purchases”
Government purchases
Spending by federal, state,
and local governments on
goods and services.
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.1
Making
Chapter 19: GDP: Measuring Total Production and Income
the
Spending on Homeland Security
Connection
Government spending on homeland security more than
doubled between 2001 and 2006.
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.1
Chapter 19: GDP: Measuring Total Production and Income
Gross Domestic Product Measures Total Production
Components of GDP
Net Exports of Goods and Services, or “Net Exports”
Net exports Exports
minus imports.
An Equation for GDP and Some Actual Values
Y  C  I  G  NX
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.1
Chapter 19: GDP: Measuring Total Production and Income
Gross Domestic Product Measures Total Production
An Equation for GDP and Some Actual Values
FIGURE 19-2
Components of GDP in 2006
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.1
Chapter 19: GDP: Measuring Total Production and Income
Gross Domestic Product Measures Total Production
An Equation for GDP and Some Actual Values
• Consumer spending on services is greater than the sum
of spending on durable and nondurable goods.
• Business fixed investment is the largest component of
investment.
• Purchases made by state and local governments are
greater than purchases made by the federal government.
• Imports are greater than exports, so net exports are
negative.
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.1
Chapter 19: GDP: Measuring Total Production and Income
Gross Domestic Product Measures Total Production
Measuring GDP by the Value-Added Method
Value added The market value
a firm adds to a product.
Table 19-1
Calculating Value Added
FIRM
VALUE OF PRODUCT
VALUE ADDED
Cotton Farmer
Value of raw cotton = $
Value added by cotton farmer
=1
Textile Mill
Value of raw cotton woven
into cotton fabric = $3
Value added by cotton textile
mill = ($3 – $1)
=2
Value of cotton fabric made
into a shirt = $15
Value added by shirt
manufacturer = ($15 –$3)
= 12
Value of shirt for sale on
L.L. Bean’s Web site = $35
Value added by L.L. Bean
= ($35 – $15)
= 20
Shirt Company
L.L. Bean
Total Value Added
= $35
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.2
Chapter 19: GDP: Measuring Total Production and Income
Does GDP Measure What We Want It to Measure?
Shortcomings in GDP as a Measure of Total Production
Household Production
Household production refers to goods and
services people produce for themselves.
The Underground Economy
Underground economy Buying and
selling of goods and services that is
concealed from the government to avoid
taxes or regulations or because the
goods and services are illegal.
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.2
Making
Chapter 19: GDP: Measuring Total Production and Income
the
Connection
How the Underground Economy Hurts
Developing Countries
In some developing countries, more than half the workers
may be in the underground economy.
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.2
Chapter 19: GDP: Measuring Total Production and Income
Does GDP Measure What We Want It to Measure?
Shortcomings of GDP as a Measure of Well-Being
The Value of Leisure Is Not Included in GDP
GDP Is Not Adjusted for Pollution or Other
Negative Effects of Production
GDP Is Not Adjusted for Changes in Crime
and Other Social Problems
GDP Measures the Size of the Pie but Not
How the Pie Is Divided Up
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.2
Making
Chapter 19: GDP: Measuring Total Production and Income
the
Did World War II Bring Prosperity?
Connection
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.3
Chapter 19: GDP: Measuring Total Production and Income
Real GDP versus Nominal GDP
Calculating Real GDP
Real GDP The value of final
goods and services evaluated at
base-year prices.
Nominal GDP The value of final
goods and services evaluated
at current-year prices.
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.3
Solved Problem
19-3
Chapter 19: GDP: Measuring Total Production and Income
Calculating Real GDP
2000
PRODUCT
2009
QUANTITY
PRICE
QUANTITY
PRICE
Eye examinations
80
$40
100
$50
Pizzas
90
11
80
10
Textbooks
15
90
20
100
2009
QUANTITY
2000
PRICE
100
$40
$4,000
Pizzas
80
11
880
Textbooks
20
90
1,800
PRODUCT
Eye examinations
VALUE
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.3
Chapter 19: GDP: Measuring Total Production and Income
Real GDP versus Nominal GDP
Comparing Real GDP and Nominal GDP
FIGURE 19-3
Nominal GDP and
Real GDP, 1990–2006
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.3
Chapter 19: GDP: Measuring Total Production and Income
Real GDP versus Nominal GDP
The GDP Deflator
Price level A measure of the average
prices of goods and services in the
economy.
GDP deflator A measure of the price
level, calculated by dividing nominal GDP
by real GDP and multiplying by 100.
Nominal GDP
GDP deflator 
 100
Real GDP
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.3
Chapter 19: GDP: Measuring Total Production and Income
Real GDP versus Nominal GDP
The GDP Deflator
2005
2006
NOMINAL GDP
$12,456 billion
$13,247 billion
REAL GDP
$11,049 billion
$11,415 billion
FORMULA
APPLIED TO 2005
APPLIED TO 2006
GDP  Nominal GDP 100
Deflator Real GDP
 $12,456 billion 

 100  113
 $11,049 billion 
 $13,247 billion 

 100  116
 $11,415 billion 
116  113
 2.7%
113
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.4
Chapter 19: GDP: Measuring Total Production and Income
Other Measures of Total Production and Total Income
Gross National Product (GNP)
Net National Product (NNP)
National Income
Personal Income
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.4
Chapter 19: GDP: Measuring Total Production and Income
Other Measures of Total Production and Total Income
Disposable Personal Income
FIGURE 19-4
Measures of Total Production
and Total Income, 2006
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Learning Objective 19.4
Chapter 19: GDP: Measuring Total Production and Income
Other Measures of Total Production and Total Income
The Division of Income
FIGURE 19-5
The Division of Income
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Chapter 19: GDP: Measuring Total Production and Income
An Inside LOOK
Trucking Industry Depends on the
Goods—Not Services—Component of GDP
Economic Slowdown Slams Breaks on Trucking Sector
As goods decline as a percentage of GDP, so does the demand for ground-freight transportation
services. (The goods and services shares of GDP do not sum to 100 percent because GDP is
composed of goods, services, and structures.)
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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Chapter 19: GDP: Measuring Total Production and Income
Key Terms
Business cycle
Macroeconomics
Consumption
Microeconomics
Economic growth
Net exports
Expansion
Nominal GDP
Final good or service
Price level
GDP deflator
Real GDP
Government purchases
Recession
Gross domestic product (GDP)
Transfer payments
Inflation rate
Underground economy
Intermediate good or service
Value added
Investment
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e.
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