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Gross Domestic Product • What is gross domestic product (GDP)? • How is GDP calculated? • What is the difference between nominal and real GDP? • What are the limitations of GDP measurements? • What factors influence GDP? Chapter 12 Section Main Menu 1 What Is Gross Domestic Product? • Economists monitor the macroeconomy using national income accounting. • A system that collects statistics on: production, income, investment, and savings. Chapter 12 Section Main Menu 2 What Is Gross Domestic Product? • Gross domestic product (GDP) - the dollar value of all final goods and services produced within a country’s borders in a given year. Chapter 12 Section Main Menu 3 What Is Gross Domestic Product? • Does not include the value of intermediate goods (goods used in the production of final goods and services). Chapter 12 Section Main Menu 4 Calculating GDP The Expenditure Approach • Totals annual expenditures on four categories of final goods or services. 1. Consumer goods and services 2. Business goods and services 3. Government goods and services 4. Net exports or imports of goods or services. C + Ig + G + Xn = GDP Chapter 12 Section Main Menu 5 Calculating GDP Consumer goods include: Durable goods, goods that last for a relatively long time like refrigerators, and Nondurable goods, or goods that last a short period of time, like food and light bulbs. Chapter 12 Section Main Menu 6 Calculating GDP The Income Approach • Calculates GDP by adding up all the incomes in the economy. Chapter 12 Section Main Menu 7 Real and Nominal GDP • Nominal GDP is GDP measured in current prices. Does not account for inflation. • Real GDP is GDP expressed in constant, or unchanging, dollars. • See chart figure 12.3, page 304. Chapter 12 Section Main Menu 8 Limitations of GDP • GDP does not include: 1. Nonmarket Activities Goods and services that people make or do themselves. 2. Negative Externalities Unintended economic side effects, such as pollution. Chapter 12 Section Main Menu 9 Limitations of GDP • GDP does not include: 3. The Underground Economy Economic activity which never reported to the government. 4. Quality of Life Include leisure time, pleasant surroundings, and personal safety. Chapter 12 Section Main Menu 10 Other Income and Output Measures Gross National Product (GNP) • GNP market value of all goods and services produced by Americans. Net National Product (NNP) • NNP output made by Americans minus adjustments for depreciation. (loss of value of capital equipment from wear and tear. Chapter 12 Section Main Menu 11 Other Income and Output Measures National Income (NI) • NI - NNP minus sales and excise taxes. Personal Income (PI) • PI - total pre-tax income paid to U.S. households. Disposable Personal Income (DPI) • DPI - personal income minus individual income taxes. Chapter 12 Section Main Menu 12 Key Macroeconomic Measurements Measurements of the Macroeconomy Gross Domestic Product + income earned outside U.S. by U.S. firms and citizens Gross National Product – depreciation of capital equipment Net National Product – sales and excise taxes National Income – • firms‘ reinvested profits • firms‘ income taxes • social security Personal Income – individual income taxes – = Net National Product = National Income + other household income = Disposable Personal Income Figure 12.4, page 306 Section Chapter 12 income earned by foreign firms and foreign citizens located in the U.S. Main Menu = Gross National Product = Personal Income 13 Factors Influencing GDP Aggregate Supply • Aggregate supply - total amount of goods and services in the economy available at all possible price levels. • As price levels rise, aggregate supply rises and real GDP increases. Chapter 12 Section Main Menu 14 Factors Influencing GDP Aggregate Demand • Aggregate demand amount of goods and services that will be purchased at all possible price levels. • Lower price levels will increase aggregate demand as consumers’ purchasing power increases. Chapter 12 Section Main Menu 15 Factors Influencing GDP Aggregate Supply/Aggregate Demand Equilibrium • By combining aggregate supply curves and aggregate demand curves, equilibrium for the macroeconomy can be determined. Chapter 12 Section Main Menu 16 Business Cycles • What is a business cycle? • What keeps the business cycle going? • How do economists forecast business cycles? • How have business cycles fluctuated in the United States? Chapter 12 Section Main Menu 17 What Is a Business Cycle? A business cycle is a macroeconomic period of expansion followed by a period of contraction. • Four main phases of the business cycle: expansion, peak, contraction trough http://www.nber.org/cycles.html Chapter 12 Section Main Menu 18 Phases of the Business Cycle Expansion • An expansion - period of rise in real GDP. • Economic growth is a steady, longterm rise in real GDP. Peak • Peak - GDP stops rising, height of economic expansion. Chapter 12 Section Main Menu 19 Phases of the Business Cycle Contraction • Contraction - a period of decline marked by a fall in real GDP. • Recession - a prolonged economic contraction. • Depression - long or severe recession. Chapter 12 Section Main Menu 20 Phases of the Business Cycle Contraction Trough • Trough - the lowest point of economic decline, when real GDP stops falling. Chapter 12 Section Main Menu 21 What Keeps the Business Cycle Going? • Variables that affect business cycles: 1. Business Investment During expansion firms invest in new plants and equipment. This creates new jobs and furthers expansion. In a recession, the opposite occurs. Chapter 12 Section Main Menu 22 What Keeps the Business Cycle Going? • Variables that affect business cycles: 2. Interest Rates and Credit When interest rates are low, businesses and consumers spend more. When interest rates climb, they spend less. Unemployment rises. Chapter 12 Section Main Menu 23 What Keeps the Business Cycle Going? 3. Consumer Expectations Forecasts of an expanding economy often fuel more spending, while fears of recession tighten consumers' spending. Chapter 12 Section Main Menu 24 What Keeps the Business Cycle Going? 4. External Shocks External shocks, such as disruptions of the oil supply, wars, or natural disasters, greatly influence the output of an economy. Chapter 12 Section Main Menu 25 Forecasting Business Cycles • Economists try to predict changes in the business cycle. • Leading indicators are key variables used to predict a new phase of a business cycle. • Ex. - stock market performance, interest rates, and new home sales. Chapter 12 Section Main Menu 26 Leading indicators • Average Workweek • Initial Claims for Unemployment Insurance • New Orders for Consumer Goods • Vendor Performance • New Orders for Capital Goods • Building Permits for Houses • Stock Prices • Money Supply • Interest-Rate Spread • Consumer Expectations Chapter 12 Section Main Menu 27 Business Cycle Fluctuations The Great Depression –GDP fell by almost one third, and unemployment rose to about 25%. Ended with WWII. Later Recessions –In the 1970s, an OPEC embargo caused oil and gas prices to rise, led to recession in the 70s – early 80s. Chapter 12 Section Main Menu 28 Business Cycle Fluctuations U.S. Business Cycles in the 1990s –Following a brief recession in 1991, the U.S. economy grew steadily during the 1990s, with real GDP rising each year. –Economy moved more toward services. Chapter 12 Section Main Menu 29 Business Cycle Fluctuations U.S. Business Cycles in the 1990s Recession followed 9/11/01, recovery in 2003-04. Chapter 12 Section Main Menu 30 GDP Growth 2001-2003 Chapter 12 Section Main Menu 31 Economic Growth • How do economists measure economic growth? • What is capital deepening? • How are saving and investing related to economic growth? • How does technological progress affect economic growth? Chapter 12 Section Main Menu 32 Measuring Economic Growth The basic measure of a nation’s economic growth rate is the percentage change of real GDP over time. GDP and Population Growth • Real GDP per capita is the best measure of a nation’s standard of living. Chapter 12 Section Main Menu 33 Measuring Economic Growth GDP and Quality of Life • excludes many factors that affect the quality of life. Chapter 12 Section Main Menu 34 Capital Deepening • Capital deepening - process of increasing the amount of capital per worker is called. Important source of growth in modern economies. • Physical capital - more equipment. • Human capital - training and education. Chapter 12 Section Main Menu 35 The Effects of Savings and Investing • Savings rate - proportion income spent to income saved. • When consumers save or invest, money becomes available for firms to borrow. • In the long run, more savings will lead to higher output and income, raising GDP and living standards. Chapter 12 Section Main Menu 36 The Effects of Technological Progress • Increase in efficiency gained by producing more output without using more inputs. –Innovation - new products and ideas boost GDP and business profits. –Scale of the Market - Larger markets provide more incentives for innovation. Chapter 12 Section Main Menu 37 The Effects of Technological Progress • Education and Experience Increased human capital makes workers more productive. Educated workers can use new technology. Chapter 12 Section Main Menu 38 Other Factors Affecting Growth Government • Government can affect growth by raising or lowering taxes. • Use of tax revenues also affects growth: funds spent on public goods increase investment, while funds spent on consumption decrease net investment. Chapter 12 Section Main Menu 39 Other Factors Affecting Growth Foreign Trade • Trade deficits can sometimes increase investment and capital deepening if the imports consist of investment goods rather than consumer goods. 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