Download GDP

Gross Domestic Product
(Measure of Economic Activity)
Web: www.bea.doc.gov
Monthly revisions, annual revisions in July, benchmark changes every 5 years.
Gross domestic product (GDP) total value of all final goods and services produced in the U.S.
Most important economic indicator, can identify economic strengths and weaknesses. It is used by forecasters to project future economic activity, by business
leaders for business planning and sales forecasting, by money managers for investment strategies, and policymakers to alter macroeconomic policies.
GDP = final sales + D Inventory
Self-Sustaining Economic Expansion:
Economic growth =>  employment =>  HH income =>  HH consumption =>  production =>
Cycle can be interrupted by an outside shock (war, oil embargo,... )
 employment =>  HH income => self-generating growth cycle
Nominal GDP values output in current dollars (PY)
Real GDP describes output in constant dollars (chain weighted)
Y=C+I+G+X–M
Increase in Y leads to higher living standards.
Increase in P leads to lower living standards.
D(PY) = DPY1 + DYP1 + DPDY
D(PY) = DPY1 + DYP1 + DPDY
P1Y1 P1Y1
P1Y1 P1Y1
D(PY) = DP + DY + 0
P1Y1 P1
Y1
if DP and DY are small
DY = D(PY) – DP
Y1
P1Y1 P1
-------------------------------------------------------------------------------------------------------------------------Market Analysis:
Bonds: Compare GDP data to market expectations.
If DY/Y < expectations =>  DP/P =>  DBonds =>  iBonds
Stocks: If DY/Y > expectations =>  future corporate sales =>  future profits =>  PStocks
Dollar: If DY/Y > expectations =>  future corporate sales and interest rates =>  demand for U.S. stocks and bonds =>  Demand for dollars => dollar appreciates.
Quarterly % Change in U.S. Economic Output
(Real GDP - Chainweighted 2005$)
Below trend growth
•Falling stimulus spending
•Less inventory rebuilding
•Slowing Euro-Zone
•Financial crisis
•Deleveraging households
•Rising savings rates
10%
9%
8%
7%
6%
5.1%
5%
4%
3%
4.2%
3.3%
3.0%
2.7%2.6%
3.2%
2.7%
1.8%
2%
2.1%
-4%
-5%
-6%
-7%
-8%
1.3%
2.0%
1.3%
0.1%
0.1%
0%
-1% 04:1
-3%
1.4%
1.3%
2.5%2.5%2.5%2.5%
2.5%
0.5%
1%
-2%
3.1%
2.3%2.2%2.6%2.4%
1.7%
1.6%
4.1%
4.0%
3.6%
3.0%
05:1
06:1
07:1
Falling Potential Growth Rate
•3.5% to 2.5%
•Less investment spending
•Lower leverage in post-credit era
•Suppressed demand
•Negative demographic trends
•Lower total factory productivity growth
-9%
-10%
Source: Department of Commerce.
-0.3%
09:1
08:1
-1.8%
-3.7%
-5.2%
-8.9%
10:1
11:01
Recession Factors:
•Loose monetary policy
•Poor regulation
•Lax bank supervision
•Opaque derivatives
•Shadow banking system
•Lax investor diligence
•Poor governance
•Misaligned incentives
•fraud
12:01
-0.1%
13:01
4th Quarter 2012 GDP
Spending = C + I + G + X – M
% of total = (70.6) (14.0) (18.5) (13.4) (-16.4)
Growth rate = (2.2) (-0.6) (-6.6) (-5.7) (-3.2)
Contribution = (1.5) + (-0.1) + (-1.3) + (-0.8) + (0.6) = -0.1%
(1+-0.005)1/4 -1 = -0.001 = -0.1%
Components of GDP
PERSONAL CONSUMPTION EXPENDITURES, OR “CONSUMPTION”
Consumption Spending by households on goods and services, not including spending on new houses.
GROSS PRIVATE DOMESTIC INVESTMENT, OR “INVESTMENT”
Investment Spending by firms on new factories, office buildings, machinery, and inventories, and spending
by households on new houses.
GOVERNMENT CONSUMPTION AND GROSS INVESTMENT, OR “GOVERNMENT PURCHASES”
Government purchases Spending by federal, state, and local governments on goods and services.
NET EXPORTS OF GOODS AND SERVICES, OR “NET EXPORTS”
Net exports Exports minus imports.
Annual % Change in U.S. Economic Output
(Real GDP - Chainweighted 2005$)
6%
4.8%
5%
4.5% 4.4%
4.1%
4.1%
3.8%
4%
3.7%
3.5%
3.4%
3.1%
3%
2%
3.1%
2.9%
3.1%
2.9%
2.5%
2.5%
1.8%
1.8%
2.7%
2.4%
1.9%
2.2%
1.8%
1.1%
1%
0%
-1%
-0.5%
-0.3%
-2%
-3%
-3.1%
-4%
86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13
Source: Department of Commerce.
Domestic Production, Y =100
Foreign Production, M=18
Inventory
Sales, C + I + G + X
71 + 13 +20 +14
Equilibrium Condition
Q.S. = Q.D.
Y+M=C+I+G+X
2011 $ Trillion
$15.1 + $2.7 = $10.7 + $1.9 + $3.0 + $2.1
Divide by Y (15.1 trillion) to get relative perspective
100% + 18% = 71% + 13% + 20% + 14%
For heuristic reasons, multiply by 100
100 + 18 = 71 + 13 + 20 + 14
Or
100 = 71 + 13 + 20 + 14 – 18
Y=C+I+G+X-M
Circular-Flow Diagram
Government purchases of
goods and services
Government borrowing
Government
Consumer
spending
Government
transfers
Taxes
Private savings
Households
Wages, profit,
interest, rent
Factor Markets
Wages, profit,
interest, rent
GDP
Investment
Firms
Borrowing and stock
issues by firms
Foreign borrowing
and sales of stock
Exports
Rest of the world
Imports
Foreign lending and
purchases of stock
Financial Markets
Two Ways of Measuring GDP:
The two methods of calculating GDP are summarized below:
Expenditure Approach
Resource Cost-Income Approach
Personal consumption expenditures
Aggregate income:
Employee Compensation
Income of self-employed
Rents
Profits
Interest
+
Gross private domestic investment
+
Government consumption
and gross investment
+
Net exports of goods and services
= GDP
+
Non-income cost items:
Indirect business taxes
and depreciation
+
Net income of foreigners
= GDP
GDP estimates include an imputation for the value of “owner-occupied housing.”
• If you buy the home you were formerly renting, GDP does not go down.
• Statisticians make an estimate of what you would have paid if you rented
whatever you live in, whether it’s an apartment or a house.
• To be accurate, estimates of GDP must take into account the value of
housing that is occupied by owners, as well as the value of rental housing.
GDP: What’s In and What’s Out
Included

domestically produced final goods and services (including capital goods)

new construction of structures

changes to inventories
Not Included

intermediate goods and services

inputs

used goods

financial assets like stocks and bonds

foreign-produced goods and services
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.
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 
x 100
Real GDP
CPI Inflation Gauge
(Measure of price inflation in retail goods and services)
Web address: www.bls.gov/cpi/
No monthly revision, annual revision in February.
CPI:
Inflation affects the following activities
Costs of doing business
Investment decisions
Retirees quality of life
Labor contracts & rental contracts
Government macroeconomic policy
Social security benefits, food stamps, alimony, child support payments
CPI is an index number which leads to a historical perspective of inflation.
(1982-84 =100)
Inflation Explanations:
Monetarist View – excessive money supply growth. Too many dollars, chasing to few goods. If DM/M > DY/Y
then DP/P > 0
Keynesian View – AD > AS => shortage =>  Prices
inflation is a function of the state of the business cycle and level of production slack/idle capacity/resource scarcity
Core-CPI - best measure of underlying inflation
2 Population Groups:
CPI-W (wage earners & clerical workers) 32% of population
benchmark for pay increases in collective bargaining agreements and for yearly cost-of-living adjustments on social
security checks.
CPI-U (all urban workers)
CPI Inflation Gauge
(Measure of price inflation in retail goods and services)
Deflationary Spiral:

prices =>  corporate profits => job layoffs =>  household income =>  consumption spending =>  inventories => 
prices
Forecasting Tool:
Business can anticipate future technology and medical costs
Investors can reassess investment strategies
Union leaders use inflation forecasts in pay negotiations
CPI is a lagging economic indicator
6 Other Price Gauges:
PCE, Producer Prices, Import Prices, Employment Cost Index, Unit Labor Costs,
GDP deflator.
---------------------------------------------------------------------------------------------------------
Unexpected increase in inflation
Bond Market:
 bond demand =>  bond price =>  nominal interest rates
Stock Market:
 nominal interest rates => borrowing costs =>  profits=>  stock prices
Federal Reserve  nominal interest rates =>  borrowing costs =>  profits =>  stock prices
Firms prefer an increase in output rather than an increase in prices to boost revenues
FX Market:
AD > AS => unexpected inflation
 Y =>  r =>  exchange rate (good investment environment)
 DP/P =>  i =>  exchange rate (erodes dollar-based investments held by foreigners)
Inflation (CPI)
(year over year % growth)
6%
5%
4%
3%
2%
1%
0%
95
96
97
98
99
00
01
02
-1%
-2%
-3%
Headline
Core (excludes food and energy)
03
04
05
06
07
08
09
10
11
12
13
Price Indexes and the Aggregate Price Level
The aggregate price level is a measure of the overall level of prices in the economy.
To measure the aggregate price level, economists calculate the cost of purchasing a
market basket.
A price index is the ratio of the current cost of that market basket to the cost in a
base year, multiplied by 100.
The inflation rate is the yearly percentage change in a price index, typically based
on the Consumer Price Index, or CPI, the most common measure of the
aggregate price level.
The consumer price index measures the cost of the market basket of a typical urban
American family.
Consumer Price Index
Apparel
4%
Motor
fuel
5%
Medical care
5%
Transportation
12%
Housing
41%
Recreation
6%
Education &
communication
Other goods
6%
and services
3%
Food &
beverages
15%
Is the CPI biased?
The U.S. government takes considerable care in measuring consumer prices.
Nonetheless, many economists believe that the consumer price index
systematically overstates the actual rate of inflation.
One reason is the fact that the CPI measures the cost of buying a given market
basket. Yet, consumers typically alter the mix of goods and services they buy
(substitution effect), reducing purchases of products that have become
relatively more expensive and increasing purchases of products that have
become relatively cheaper.
The second reason arises from innovation. By widening the range of consumer
choice, innovation makes a given amount of money worth more.