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Chapter 11 Gross Domestic Product and Economic Growth 11-1 Gross Domestic Product 11-2 Business Cycles and Economic Growth © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 1 Chapter 11 11-1 Gross Domestic Product Learning Objectives LO1-1 Define GDP and what is included and not included. LO1-2 Analyze how the circular flow model represents economic activity. LO1-3 Understand how GDP is computed. © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 2 Chapter 11 11-1 Gross Domestic Product Vocabulary What Is Gross Domestic Product? gross domestic product (GDP) transfer payment final goods intermediate goods Circular-Flow Model circular-flow model How Is GDP Computed? nominal GDP real GDP GDP per capita © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 3 Chapter 11 What Is Gross Domestic Product? Gross domestic product (GDP) is the market value of all final goods and services produced annually in a country. The most widely reported measure of a nation’s economic performance is gross domestic product. GDP tells a country how well its economy is doing. © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 11-1 Gross Domestic Product 4 Chapter 11 What Is Gross Domestic Product? A transfer payment is a government payment to persons in exchange for goods and services produced. Welfare, Social Security, veterans’ benefits, and unemployed benefits are transfer payments. Transfer payments are made to people who are entitled to them. These transactions are considered nonproductive. The reason is because these payments are not for any current output. © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 11-1 Gross Domestic Product 5 Chapter 11 What Is Gross Domestic Product? Final goods are goods and services sold to the final user. GDP only counts final goods. Intermediate goods are goods and services used as inputs for the production of final goods. Intermediate goods are not produced for consumption by the ultimate user. © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 11-1 Gross Domestic Product 6 Chapter 11 What Is Gross Domestic Product? Vocabulary CHECKPOINT Name five goods or services that are not included in GDP. gross domestic product (GDP) transfer payments final goods intermediate goods Answers will vary. Production that would not be counted includes illegal gambling, goods you produce for your own use, babysitting for free, giving your son a $5 allowance each week, or being paid to cut a neighbor's grass and not reporting the income. © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 11-1 Gross Domestic Product 7 Chapter 11 Circular-Flow Model A circular-flow model shows the exchange of money, products, and resources between businesses, households, and government. © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 11-1 Gross Domestic Product 8 Chapter 11 Circular-Flow Model Vocabulary CHECKPOINT circular-flow model Suppose taxes increase. Use arrows in the circular flow model to explain the effect. If taxes increase, more money flows through the two blue arrows from business and households to government. If so, less money flows from households spending to businesses. Households have less of their income earned through the blue arrows in Resource markets to spend on cars, computers, and other goods. © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 11-1 Gross Domestic Product 9 Chapter 11 How Is GDP Computed? Nominal GDP is GDP measured by current prices. Real GDP is GDP adjusted for changes in prices over time. GDP per capita is GDP divided by the total population. © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 11-1 Gross Domestic Product 10 Chapter 11 How Is GDP Computed? Vocabulary CHECKPOINT Which is the best prediction for the standard of living of the Alpha and Beta residents? (1) Alpha’s residents are better off. (2) Beta’s residents are better off. (3) Which country’s residents are better off cannot be determined from the given information. Explain your answer. nominal GDP real GDP GDP per capita GDP growth alone does not measure the standard of living. Even though Beta experienced a greater GDP growth rate, its GDP per capita might be less than Alpha's because its population growth rate is greater. Of course, the reverse is also possible, but without population data, you cannot say. The correct statement is Which country's people are better off cannot be determined. © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 11-1 Gross Domestic Product 11 Chapter 11 11-2 Business Cycles and Economic Growth Learning Objectives LO2-1 Explain the four phases of the business cycle and business cycle indicators. LO2-2 Analyze the causes of business cycles. © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 12 Chapter 11 11-2 Business Cycles and Economic Growth Vocabulary The Business Cycle Roller Coaster business cycle peak recession trough expansion economic growth leading indicators coincident indicators lagging indicators What Causes the Business Cycle? © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 13 Chapter 11 The Business Cycle Roller Coaster The business cycle consists of alternating periods of economic growth and contraction. A central concern of macroeconomics is the upswings and downswings of the economy called the business cycle. Business cycles always exist in market economies. A free market system is driven by ever-changing forces of supply and demand. A key measure of cycles is the rise and fall of real GDP. © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 11-2 Business Cycles and Economic Growth 14 Chapter 11 The Business Cycle Roller Coaster At a peak, real GDP reaches it maximum. A recession is a downturn in the business cycle during which real GDP declines. The trough is where real GDP reaches its lowest level after falling during a recession. An expansion is an upturn in the business cycle during which real GDP rises. © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 11-2 Business Cycles and Economic Growth 15 Chapter 11 The Business Cycle Roller Coaster Economic growth is defined by economists as an increase in a nation’s real GDP during an expansion. An outward shift of the production possibilities curve illustrates economic growth. Increases in resources, technological advances, and productivity are key reasons for economic growth. © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 11-2 Business Cycles and Economic Growth 16 Chapter 11 The Business Cycle Roller Coaster Leading indicators are key variables that change before real GDP changes. The government’s chief forecasting gauge for business cycles is the index of leading indicators. Coincident indicators are key variables that change at the same time that real GDP changes. The second data series of variables listed are four coincident indicators. © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 11-2 Business Cycles and Economic Growth 17 Chapter 11 The Business Cycle Roller Coaster Lagging indicators are seven variables that change after real GDP changes. The seven variables are: (1) unemployment rate, (2) duration of unemployment, (3) labor cost, (4) consumer prices, (5) commercial and industrial loans, (6) consumer credit to personal income ratio, and (7) best consumer loan rates. The duration of unemployment is a lagging indicator. As real GDP increases, this variable does not fall until months after the beginning of the expansion. © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 11-2 Business Cycles and Economic Growth 18 Chapter 11 The Business Cycle Roller Coaster Vocabulary CHECKPOINT A local car dealer states in the third quarter of this year more cars were sold than in the second quarter, but sales in these two quarters were far below the first quarter. What phase of the business cycle does his statement support? business cycle peak recession trough expansion economic growth leading indic3ators coincident indicators lagging indicators The car dealer’s sales were falling between the first quarter and the second quarter. This conformed to the recession phase of the business cycle. Then car sales increased in the third quarter over the second quarter. This indicated an expansion or a recovery. © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 11-2 Business Cycles and Economic Growth 19 Chapter 11 What Causes the Business Cycle? The theory generally accepted by economists is that changes in total spending cause variations in real GDP. If consumer spending increases, then businesses find it profitable to increase investment in plants and equipment. When firms become more productive, they use more land, labor, and capital. These increases lead to economic growth in output, employment, and incomes. © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 11-2 Business Cycles and Economic Growth 20 Chapter 11 What Causes the Business Cycle? A recession is the result of declines in sectors of real GDP. If consumers spending decreases, then business profit fall, and they decrease investment in plants and equipment. Businesses become less productive and use fewer resources. A decline in economic growth may be caused by a reduction in government or from a decrease in foreign spending for exports relative to spending for imports. © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 11-2 Business Cycles and Economic Growth 21 Chapter 11 What Causes the Business Cycle? Vocabulary CHECKPOINT Suppose an economy is in recession. How could low interest rates boost real GDP and create an expansion? Low interest rates make consumer purchases more affordable. Consumption (C) rises and therefore real GDP rises. At lower interest rates businesses can borrow and invest in plants and equipment. Increased investment spending (I ) increases and real GDP rises. © 2013 Cengage Learning. All rights reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 11-2 Business Cycles and Economic Growth 22