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CHAPTER
6
Measuring National Output
and National Income
Prepared by: Fernando Quijano
and Yvonn Quijano
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
C H A P T E R 6: Measuring National Output and National Income
Gross Domestic Product
• Gross domestic product
(GDP) is the total market value
of all final goods and services
produced within a given period
by factors of production located
within a country.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
2 of 38
C H A P T E R 6: Measuring National Output and National Income
National Income
and Product Accounts
• National income and product
accounts are data collected and
published by the government
describing the various components
of national income and output in the
economy.
• The U.S. Department of Commerce
is responsible for producing and
maintaining the “National Income
and Product Accounts” that keep
track of GDP.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
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C H A P T E R 6: Measuring National Output and National Income
Final Goods and Services
• The term final goods and
services in GDP refers to
goods and services produced
for final use.
• Intermediate goods are
goods produced by one firm for
use in further processing by
another firm.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
4 of 38
C H A P T E R 6: Measuring National Output and National Income
Value Added
• Value added is the difference
between the value of goods as they
leave a stage of production and the
cost of the goods as they entered
that stage.
• In calculating GDP, we can either sum
up the value added at each stage of
production, or we can take the value of
final sales.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
5 of 38
C H A P T E R 6: Measuring National Output and National Income
Value Added
Value Added in the Production of a Gallon of Gasoline
(Hypothetical Numbers)
STAGE OF PRODUCTION
VALUE OF SALES
VALUE ADDED
$ .50
$ .50
(2) Refining
.65
.15
(3) Shipping
.80
.15
1.00
.20
(1) Oil drilling
(4) Retail sale
Total value added
© 2004 Prentice Hall Business Publishing
$1.00
Principles of Economics, 7/e
Karl Case, Ray Fair
6 of 38
C H A P T E R 6: Measuring National Output and National Income
Exclusions of Used Goods
and Paper Transactions
• GDP ignores all transactions in
which money or goods change
hands but in which no new
goods and services are
produced.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
7 of 38
C H A P T E R 6: Measuring National Output and National Income
Exclusion of Output Produced Abroad
by Domestically Owned Factors of Production
• GDP is the value of output produced
by factors of production located
within a country. Output produced
by a country’s citizens, regardless of
where the output is produced, is
measured by gross national
product (GNP).
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
8 of 38
C H A P T E R 6: Measuring National Output and National Income
Calculating GDP
GDP can be computed in two ways:
• The expenditure approach: A method of
computing GDP that measures the total
amount spent on all final goods during a
given period.
• The income approach: A method of
computing GDP that measures the
income—wages, rents, interest, and
profits—received by all factors of
production in producing final goods.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
9 of 38
C H A P T E R 6: Measuring National Output and National Income
The Expenditure Approach
Expenditure categories:
• Personal consumption
expenditures (C)—household
spending on consumer goods.
• Gross private domestic
investment (I)—spending by firms
and households on new capital:
plant, equipment, inventory, and new
residential structures.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
10 of 38
C H A P T E R 6: Measuring National Output and National Income
The Expenditure Approach
Expenditure categories:
• Government consumption and
gross investment (G)
• Net exports (EX – IM)—net
spending by the rest of the world, or
exports (EX) minus imports (IM)
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
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C H A P T E R 6: Measuring National Output and National Income
The Expenditure Approach
• The expenditure approach calculates
GDP by adding together the four
components of spending. In
equation form:
GDP  C  I  G  ( EX  IM )
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
12 of 38
C H A P T E R 6: Measuring National Output and National Income
Components of GDP, 1999:
The Expenditure Approach
Components of GDP, 2002: The Expenditure Approach
Personal consumption expenditures (C)
Durable goods
Nondurable goods
Services
Gross private domestic investment (l)
Nonresidential
Residential
Change in business inventories
Government consumption and gross investment (G)
Federal
State and local
Net exports (EX – IM)
Exports (EX)
Imports (IM)
Total gross domestic product (GDP)
BILLIONS OF
DOLLARS
PERCENTAGE
OF GDP
7303.7
871.9
2115.0
4316.8
1543.2
1117.4
471.9
3.9
1972.9
693.7
1279.2
 423.6
1014.9
1438.5
10446.2
69.9
8.3
20.2
41.3
14.8
10.7
4.5
0
18.9
6.6
12.2
 4.1
9.8
13.8
100.0
Note: Numbers may not add exactly because of rounding.
Source: U.S. Department of Commerce, Bureau of Economic Analysis.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
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C H A P T E R 6: Measuring National Output and National Income
Personal Consumption Expenditures
• Personal consumption expenditures (C)
are expenditures by consumers on the
following:
• Durable goods: Goods that last a relatively
long time, such as cars and appliances.
• Nondurable goods: Goods that are used up
fairly quickly, such as food and clothing.
• Services: Things that do not involve the
production of physical things, such as legal
services, medical services, and education.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
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C H A P T E R 6: Measuring National Output and National Income
Gross Private Domestic Investment
• Investment refers to the purchase of
new capital.
• Total investment by the private
sector is called gross private
domestic investment. It includes
the purchase of new housing, plants,
equipment, and inventory by the
private sector.
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Principles of Economics, 7/e
Karl Case, Ray Fair
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C H A P T E R 6: Measuring National Output and National Income
Gross Private Domestic Investment
• Nonresidential investment includes
expenditures by firms for machines, tools,
plants, and so on.
• Residential investment includes
expenditures by households and firms on
new houses and apartment buildings.
• Change in inventories computes the
amount by which firms’ inventories change
during a given period. Inventories are the
goods that firms produce now but intend to
sell later.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
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C H A P T E R 6: Measuring National Output and National Income
Gross Private Domestic Investment
• Remember that GDP is not the
market value of total sales during a
period—it is the market value of total
production.
• The relationship between total
production and total sales is:
GDP = final sales + change in business inventories
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
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C H A P T E R 6: Measuring National Output and National Income
Gross Investment
versus Net Investment
• Gross investment is the total value of all
newly produced capital goods (plant,
equipment, housing, and inventory)
produced in a given period.
• Depreciation is the amount by which an
asset’s value falls in a given period.
• Net investment equals gross investment
minus depreciation.
capitalend of period = capitalbeginning of period + net investment
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
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C H A P T E R 6: Measuring National Output and National Income
Government Consumption
and Gross Investment
• Government
consumption and gross
investment (G) counts
expenditures by federal,
state, and local
governments for final
goods and services.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
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C H A P T E R 6: Measuring National Output and National Income
Net Exports
• Net exports (EX – IM) is the
difference between exports and
imports. The figure can be positive
or negative.
• Exports (EX) are sales to foreigners of
U.S.-produced goods and services.
• Imports (IM) are U.S. purchases of
goods and services from abroad).
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
20 of 38
C H A P T E R 6: Measuring National Output and National Income
The Income Approach
• National income is the total income
earned by the factors of production
owned by a country’s citizens.
• The income approach to GDP
breaks down GDP into four
components:
GDP = national income + depreciation + (indirect
taxes – subsidies) + net factor payments to the rest
of the world + other
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
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C H A P T E R 6: Measuring National Output and National Income
The Income Approach
Components of GDP, 2002: The Income Approach
BILLIONS OF
DOLLARS
PERCENTAGE
OF GDP
8,199.9
80.3
6,010.0
58.9
Proprietors’ income
943.5
7.3
Corporate profits
748.9
7.3
Net interest
554.8
5.4
Rental income
142.7
1.4
National income
Compensation of employees
Depreciation
Indirect taxes minus subsidies
Net factor payments to the rest of the world
Other
Gross domestic product
1,351.3
739.4
11.1
 96.1
10,205.6
13.2
7.2
0.1
 0.9
100.0
Source: See Table 18.2.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
22 of 38
C H A P T E R 6: Measuring National Output and National Income
From GDP to Disposable Personal Income
GDP, GNP, NNP, National Income, Personal Income, and Disposable Personal Income, 2002
GDP
Plus: receipts of factor income from the rest of the world
Less: payments of factor income to the rest of the world
Equals: GNP
Less: depreciation
Equals: net national product (NNP)
Less: indirect taxes minus subsidies plus other
Equals: national income
Less:
Less:
Plus:
Plus:
corporate profits minus dividends
social insurance payments
personal interest income received from the government and consumers
transfer payments to persons
Equals: personal income
Less: personal taxes
Equals: disposable personal income
DOLLARS
(BILLIONS)
10,205.6
+ 342.1
 353.2
10,194.5
 1,351.3
8,843.2
 643.3
8,199.9
 332.6
 731.2
+ 439.1
+1,148.7
8,723.9
 1,306.2
7,417.7
Source: See Table 18.2.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
23 of 38
C H A P T E R 6: Measuring National Output and National Income
From GDP to Disposable Personal Income
• Net national product equals gross
national product minus depreciation;
a nation’s total product minus what is
required to maintain the value of its
capital stock.
• Personal income is the income
received by households after paying
social insurance taxes but before
paying personal income taxes.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
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C H A P T E R 6: Measuring National Output and National Income
Disposable Personal
Income and Personal Saving
Disposable Personal Income and Personal Saving, 2002
DOLLARS
(BILLIONS)
Disposable personal income
Less:
Personal consumption expenditures
Interest paid by consumers to business
Personal transfer payments to foreigners
Equals: personal saving
Personal savings as a percentage of disposable personal income:
7,417.7
 7063.5
 204.3
 31.3
118.6
1.6%
Source: See Table 18.2.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
25 of 38
C H A P T E R 6: Measuring National Output and National Income
Disposable Personal Income and
Personal Saving
• The personal saving rate is the
percentage of disposable personal
income that is saved.
• If the personal saving rate is low,
households are spending a large
amount relative to their incomes; if it
is high, households are spending
cautiously.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
26 of 38
C H A P T E R 6: Measuring National Output and National Income
Nominal Versus Real GDP
• Nominal GDP is GDP measured in
current dollars, or the current prices
we pay for things. Nominal GDP
includes all the components of GDP
valued at their current prices.
• When a variable is measured in
current dollars, it is described in
nominal terms.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
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C H A P T E R 6: Measuring National Output and National Income
Calculating Real GDP
• A weight is the importance attached
to an item within a group of items.
• A base year is the year chosen for
the weights in a fixed-weight
procedure.
• A fixed-weight procedure uses
weights from a given base year.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
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C H A P T E R 6: Measuring National Output and National Income
Calculating Real GDP
A Three-Good Economy
(1)
(2)
PRODUCTION
YEAR 1
YEAR 2
Q1
Q2
(3)
(4)
PRICE PER UNIT
YEAR 1
YEAR 2
P1
P2
(5)
(6)
(7)
(8)
GDP IN
YEAR 1
IN
YEAR 1
PRICES
P 1 x Q1
GDP IN
YEAR 2
IN
YEAR 1
PRICES
P 1 x Q2
GDP IN
YEAR 1
IN
YEAR 2
PRICES
P 2 x Q1
GDP IN
YEAR 2
IN
YEAR 2
PRICES
P 2 X Q2
Good A
6
11
$.50
$ .40
$3.00
$5.50
$2.40
$4.40
Good B
7
4
.30
1.00
2.10
1.20
7.00
4.00
Good C
10
12
.70
.90
7.00
8.40
9.00
10.80
$12.10
$15.10
$18.40
$19.20
Total
© 2004 Prentice Hall Business Publishing
Nominal
GDP
in year 1
Principles of Economics, 7/e
Nominal
GDP
in year 2
Karl Case, Ray Fair
29 of 38
C H A P T E R 6: Measuring National Output and National Income
Calculating the GDP Deflator
• The GDP deflator is one measure of
the overall price level. The GDP
deflator is computed by the Bureau
of Economic Analysis (BEA).
• Overall price increases can be
sensitive to the choice of the base
year. For this reason, using fixedprice weights to compute real GDP
has some problems.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
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C H A P T E R 6: Measuring National Output and National Income
The Problems of Fixed Weights
The use of fixed price weights to
estimate real GDP leads to problems
because it ignores:
1. Structural changes in the economy.
2. Supply shifts, which cause large
decreases in price and large
increases in quantity supplied.
3. The substitution effect of price
increases.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
31 of 38
C H A P T E R 6: Measuring National Output and National Income
GDP and Social Welfare
• Society is better off when crime
decreases, however, a decrease in
crime is not reflected in GDP.
• An increase in leisure is an increase
in social welfare, but not counted in
GDP.
• Nonmarket and household activities
are not counted in GDP even though
they amount to real production.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
32 of 38
C H A P T E R 6: Measuring National Output and National Income
GDP and Social Welfare
• GDP accounting rules do not adjust
for production that pollutes the
environment.
• GDP has nothing to say about the
distribution of output. Redistributive
income policies have no direct
impact on GDP.
• GDP is neutral to the kinds of goods
an economy produces.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
33 of 38
C H A P T E R 6: Measuring National Output and National Income
The Underground Economy
• The underground economy is
the part of an economy in
which transactions take place
and in which income is
generated that is unreported
and therefore not counted in
GDP.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
34 of 38
C H A P T E R 6: Measuring National Output and National Income
Gross National Income per Capita
• To make comparisons of GNP between
countries, currency exchange rates must
be taken into account.
• Gross National Income (GNI) is a
measure used to make international
comparisons of output. GNI is GNP
converted into dollars using an average of
currency exchange rates over several
years adjusted for rates of inflation.
• GNI divided by population equals gross
national income per capita.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
35 of 38
C H A P T E R 6: Measuring National Output and National Income
Gross National Income per Capita
Per Capita Gross National Income for Selected Countries, 2002
COUNTRY
Switzerland
Japan
Norway
United States
Denmark
Ireland
Sweden
United Kingdom
Netherlands
Austria
Finland
Germany
Belgium
France
Canada
Australia
Italy
Spain
Greece
U.S. DOLLARS
36,970
35,990
35,530
34,870
31,090
28,880
25,400
24,230
24,040
23,940
23,840
23,700
23,340
22,640
21,340
18,770
18,470
14,860
11,780
COUNTRY
Portugal
South Korea
Argentina
Mexico
Czech Republic
Brazil
South Africa
Turkey
Colombia
Jordan
Romania
Philippines
China
Indonesia
India
Pakistan
Nepal
Rwanda
Ethiopia
U.S. DOLLARS
10,670
9,400
6,860
5,540
5,270
3,060
2,900
2,540
1,910
1,750
1,710
1,050
890
680
460
420
250
220
100
Source: The World Bank Atlas, 2002.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
36 of 38
C H A P T E R 6: Measuring National Output and National Income
Review Terms and Concepts
base year
government consumption and gross
investment (G)
change in business inventories
gross domestic product (GDP)
compensation of employees
gross investment
corporate profits
gross national income (GNI)
current dollars
gross national product (GNP)
depreciation
disposable personal income, or after-tax
income
gross private domestic investment (I)
income approach
durable goods
indirect taxes
expenditure approach
intermediate goods
final goods and services
national income
fixed-weight procedure
national income and product accounts
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
37 of 38
C H A P T E R 6: Measuring National Output and National Income
Review Terms and Concepts
net exports (EX – IM)
personal saving
net factor payments to the rest of the
world
personal saving rate
net interest
proprietors’ income
rental income
net investment
residential investment
net national product (NNP)
services
nominal GDP
subsidies
nondurable goods
underground economy
nonresidential investment
value added
personal consumption expenditures (C)
weight
personal income
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
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