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The U.S. Economy Chapter 2 McGraw-Hill/Irwin Copyright © 2011 by The McGraw-Hill Companies, Inc. All Rights Reserved. Gross Domestic Product (GDP) • Gross Domestic Product (GDP) is the total value of final goods and services produced in a country during a given period of time. • It is a summary measure of a nation’s output measured by the Bureau of Economic Analysis—part of the Commerce Department (see www.bea.gov). 2-3 LO-1 2-2 Nominal GDP • Nominal GDP is the value of GDP measured in current dollars. • Because of inflation, it is useless to compare nominal GDP from one year to another. 2-4 LO-2 2-3 Real GDP • Real GDP is the inflation-adjusted value of GDP or the value of output measured in constant prices. • These inflation adjustments delete the effects of rising prices by valuing output in constant prices. 2-5 LO-2 2-4 International Comparisons • In 2009, the U.S. economy produced nearly $15 trillion in output. • With 5% of the world’s population, the U.S. economy produces over 20% of the entire world’s output. • The U.S. economy is two and a half times larger than Japan’s—the world’s thirdlargest—and twelve times larger than Mexico’s. 2-6 LO-3 2-5 Figure 2.1 2-6 Per Capita GDP • Per capita GDP is total GDP divided by total population: average GDP. • It is an indicator of how much output each person would get if all output were divided evenly among the population. • In 2009, per capita GDP in the U.S. was approximately $49,000—more than five times the world average. 2-7 LO-2 2-7 Historical Comparisons • The living standards Americans now call “poor” resemble the lifestyle of the middle class in the 1930s. • Since 1900, the per capita output of the economy has increased 500 percent. • Even with minor setbacks like 2008-09, persistent economic growth is the norm for the United States. 2-8 LO-2 2-8 Historical Comparisons • Economic growth is an increase in output (real GDP), or an expansion of production possibilities. • America’s real GDP has increased by about 3% a year, while the population is growing by only 1% a year. • If real GDP keeps growing 2% faster than population, per capita incomes will double again in about 35 years. 2-9 LO-2 2-9 The Mix of Output • The major uses of total output include: – Household consumption – Business investment – Government services – Exports 2-11 LO-4 2-10 Figure 2.2 2-11 C=Consumer Goods • As the world’s leading “consumer” economy, consumer goods account for two-thirds of total U.S. output. • There are three types of consumer goods: – Durable goods – Nondurable goods – Services 2-12 LO-4 2-12 Consumer Goods • Durable goods - expected to last three years. – They tend to be big-ticket items like cars, appliances, and furniture. – Purchases of durable goods are often cyclical, that is, very sensitive to economic trends. 2-13 LO-4 2-13 Consumer Goods • Nondurable goods - items that are bought frequently. – They include clothes, food, and gasoline. • Services - the largest and fastestgrowing component in consumption. – Over half of all consumer output consists of medical care, entertainment, utilities, and other services. 2-14 LO-4 2-14 I=Investment Goods • Investment is expenditures on (production of) new plant and equipment (capital) in a given time period, plus changes in business inventories. – Investment goods include the plant, machinery, and equipment that are produced for use in the business sector. 2-15 LO-4 2-15 Investment Goods • Investment goods are used: – To replace worn-out equipment and factories, thus maintaining our production possibilities. – To increase and improve our stock of capital, thereby expanding our production possibilities. 2-16 LO-4 2-16 G=Government Services • Federal, state, and local governments purchase resources to police the streets, teach classes, write laws, and build highways. • These resources are not available for consumption or investment. 2-17 LO-4 2-17 Government Services • Only that part of federal spending used to acquire resources and produce services is counted in GDP. • The federal government spends nearly $4 trillion per year. • In 2009, federal purchases of goods and services accounted for 7% of total output. • Income transfers are not counted in GDP. 2-18 LO-4 2-18 Government Services • Income transfers are payments to individuals for which no current goods or services are exchanged. – Examples include Social Security, welfare, and unemployment benefits. • State and local governments use far more of our scarce resources than does the federal government. 2-19 LO-4 2-19 NX=Net Exports • Exports are goods and services sold to foreign buyers. • Imports are goods and services purchased from foreign sources. 2-20 LO-4 2-20 Net Exports • Net Exports = Exports – Imports – In 2009, the value of exports was less than the value of imports. – We used more goods and services than we produced in that year. – Net exports were negative. LO-4 2-21 2-21 Changing Industry Structure Decline in Farming: • Over time the mix of output has changed dramatically. • In 1900, nearly 4 of 10 workers were employed in agriculture. • Today fewer than 2% of workers are farmers due in great part to technological advances. LO-4 2-22 2-22 Growth of Services • America has become largely a service economy. • Total service industries (including government) generate over 70% of total output. • Between 2010 and 2020, 98% of net job growth will be in service industries. • The opportunity cost of producing services is the forgone production of goods. LO-4 2-24 2-23 Figure 2.4 2-24 Growth in Trade • International trade is very important. • Increasing globalization of the U.S. economy is likely to continue due to: – Advances in communications and transportation technologies. – Increased consumption of services LO-4 2-25 2-25 How America Produces • International trade has also affected HOW goods and services are produced. • Factors of Production - resource inputs used to produce goods and services, e.g., land, labor, capital, entrepreneurship. LO-4 2-26 2-26 Capital Stock • The U.S. capital stock is over $60 trillion worth of machinery, factories, and buildings. • American production tends to be very capital intensive: – Capital intensive – production processes that use a high ratio of capital to labor inputs. LO-4 2-28 2-27 Factor Quality • Productivity - output per unit of input, e.g., output per labor hour. • Human capital - the knowledge and skills possessed by the work force. • The high productivity of the U.S. economy results from using highly educated workers in capital-intensive production processes. LO-4 2-29 2-28 Factor Mobility • Our continuing ability to produce the goods and services that consumers demand also depends on our agility in reallocating resources from one industry to another. LO-4 2-30 2-29 Business Organization • The three different legal organizations: – Corporations - owned by many individuals who owns shares of (stock in) the corporation and have limited liability. – Partnerships - owned by a small number of individuals who share liability. – Proprietorships - owned by one individual with sole liability. LO-4 2-31 2-30 Corporate America • Corporations tend to be much larger than other businesses and produce the largest portion of GDP. They account for almost 90% of business sales. • Proprietorships are the most numerous but produce a small portion of GDP. Although 72% of all firms are proprietorships, they generate only 4% of all sales. LO-4 2-32 2-31 Figure 2.5 2-32 Government Regulation • Government plays a large role in deciding WHAT, HOW, and FOR WHOM goods are produced by: – Providing a Legal Framework – Protecting Consumers – Protecting Labor – Protecting the Environment LO-4 2-33 2-33 Providing a Legal Framework • One of the most basic functions of government is to establish and enforce the rules of the game. • The government gives legitimacy to contracts by establishing the rules for such pacts and by enforcing their provisions. LO-4 2-34 2-34 Striking a Balance • Government interventions reflect the view that the market alone would not always select the best possible way of producing goods and services. • Government failure might replace market failure, leaving us no better off and possibly even worse off. – Excessive regulation may inhibit production, raise product prices, and limit consumer choices. LO-4 2-41 2-35 For Whom America Produces • Who gets which slice of the pie? – Will everyone get an equal slice? – Will some get a lot more than others? LO-5 2-42 2-36 For Whom America Produces • In a market economy, an individual’s income depends on: – The quantity and quality of resources owned. – The price that those resources command in the market. LO-5 2-43 2-37 For Whom America Produces • Karl Marx believed that: – Capitalists would continue to accumulate wealth, power, and income. – All capitalist are rich, all workers are poor. LO-5 2-44 2-38 For Whom America Produces • Marx’s predictions of how output would be distributed turned out to be wrong in two ways: – Labor’s share of output has risen greatly over time. – Differences within the labor and capitalist classes have become more important than differences between the classes. LO-5 2-45 2-39 For Whom America Produces • The distinction between workers and capitalists has been blurred by profitsharing plans, employee ownership, and widespread ownership of corporate stock. LO-5 2-46 2-40 The Distribution of Income • The richest fifth (or quintile) of U.S. households gets half of all the income. • The poorest fifth gets only a sliver. • Inequalities tend to be larger in poorer countries. LO-5 2-47 2-41 The Distribution of Income • As countries develop, the personal distribution of income tends to become more equal: – Personal distribution of income - the way total personal income is divided up among households or income classes. LO-5 2-48 2-42 Table 2.4 2-43 Taxes and Transfers • People may feel that the distribution of income is not “fair”. • Therefore, another role of government is to redistribute incomes. • Taxes and transfers are used to do this. LO-5 2-50 2-44 Taxes • Progressive tax - a tax system in which tax rates rise as incomes rise. – An example is the federal income tax. • A progressive tax makes after-tax incomes more equal than before-tax incomes. LO-5 2-51 2-45 Taxes • Regressive tax - a tax system in which tax rates fall as incomes rise. – Examples include Social Security payroll taxes and state and local sales taxes. • A regressive tax tends to make the after-tax distribution of income less equal. LO-5 2-52 2-46 Taxes • The progressive nature of the federal income tax is just about offset by the regressive nature of other sales, payroll, and property taxes. • As a result, the tax system does not equalize incomes very much. LO-5 2-53 2-47 Income Transfers • The largest income-transfer program is Social Security. • Over $700 billion per year is paid to 50 million older or disabled persons. • The income-transfer system gives lower-income households more output than the market itself would provide and raises their share from 1% to 3.4% of total income. LO-5 2-54 2-48