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MACROECONOMICS: EXPLORE & APPLY by Ayers and Collinge CHAPTER 5 “Measuring National Output” ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 1 Learning Objectives 1. Present three widely accepted goals for the macro economy. 2. Delineate gross domestic product (GDP) and its components. 3. Distinguish real GDP from nominal GDP. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 2 Learning Objectives 4. Track the stages of the business cycle. 5. (E&A) Identify the advantages and disadvantages of static and dynamic scoring. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 3 5.1 MACROECONOMIC GOALS Economic Growth occurs when the economy’s total output of goods and services increase. Full Employment occurs when jobs are available for those who are willing and able to work. Low Inflation when prices are relatively low and stable. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 4 Effects of Growth: Selected Changes in the U.S. Standard of Living Indicator Computer Ownership Internet Access Consumer Credit Infant Mortality Rate ©2004 Prentice Hall Publishing Years Compared Indicator Values 1994: 24% 2001: 57% 1998: 26% 2001: 50% 1997: $1272 billion 2001: $1701 billion 1980: 12.6 per 1000 2001: 6.7 per 1000 Ayers/Collinge, 1/e 5 Effects of Growth: Selected Changes in the U.S. Standard of Living Indicator Life expectancy at Birth Homeownership Rates Years Compared 1970: 70.8 years 2000: 76.9 years 1992: 6,217 2000: 5,915 1965: 62.9 2002: 67.8 College Graduate or More 1970: 11% 2000: 26% Work Fatalities ©2004 Prentice Hall Publishing Indicator Values Ayers/Collinge, 1/e 6 5.2 MEASURING NATIONAL OUTPUT Output is usually measured by tallying the value of final goods and services those which are sold to their final owners. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 7 Gross Domestic Product (GDP) The most widely reported measure of the economy’s output is gross domestic product (GDP) which is the market value of the final goods and services produced in the economy within some time period (usually one year or one quarter). ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 8 Gross Domestic Product (GDP) Spending on final goods and services may be attributed to four sources: Consumption Investment Government Foreign Commerce Spending on intermediate goods is not included in GDP so as to avoid double counting. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 9 Consumption (C) Purchasing by households The majority of spending in the U.S. economy - about 68% Consumer durable goods, Consumer nondurable goods Services ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 10 Investment (I) Spending now in order to increase output or productivity later: Purchases by firms of capital Consumers’ purchases of new housing Market value of changes in inventories ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 11 Gross Investment, Net Investment, and Net Domestic Product Gross Investment Net Investment NDP ©2004 Prentice Hall Publishing = Total Amount of Investment = Gross Investment minus Depreciation = GDP minus Depreciation Ayers/Collinge, 1/e 12 Government (G) At federal, state, and local levels account for 18% of total purchasing in the U.S. economy. Approximately 1/10 of government spending could be investment. Government purchases of goods and services must be distinguished from transfer payments such as Social Security and unemployment benefits. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 13 Foreign Commerce (NX) Because a portion of spending by consumers, businesses, and government is on imports, it is useful to subtract imports from exports. Net Exports ©2004 Prentice Hall Publishing = Exports - Imports Ayers/Collinge, 1/e 14 5.3 Gross Domestic Product (GDP) GDP is the sum of purchases by the four sectors of the economy. GDP = C + I + G + NX $10,208.1 = $7,064.5 +$1,633.9 +$1,839.5 + -$329.8 (69%) (16%) (18%) (-3%) 2001 Data ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 15 The Four Components of GDP Dollars Gross Domestic Product (2001) $8,000.0 $7,000.0 $6,000.0 $5,000.0 $4,000.0 $3,000.0 $2,000.0 $1,000.0 $0.0 -$1,000.0 -$2,000.0 Consumption Investment Government Net Exports Exports Imports GDP GDP Components ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 16 Potential GDP Potential GDP is the value of GDP that would exist if all resources in the economy were fully and efficiently employed. Actual GDP equals potential GDP only if there is no unemployment or underemployment of resources. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 17 Per Capita GDP Per capita GDP is GDP per person In 2001, total GDP was $10.2 trillion In 2001, the U.S. population was over 284 million people Per capita GDP for 2001 was $35,843 the amount of output produced and equally divided among every man, woman, and child in the U.S. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 18 GDP and Value Added GDP may also be viewed as the sum of value added in the economy. Each firm takes inputs of materials and intermediate goods and increases their value through the firm’s production process. Value added equals the revenue from the sale of output minus the cost of purchased inputs. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 19 Underground Economy The underground economy refers to the market transactions which go unreported. Some of these goods and services are illegal and thus not recorded in GDP. Others are legal, but not reported so that their producers may avoid paying taxes on the output. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 20 Nominal versus Real GDP Nominal GDP is the value of GDP expressed in current dollars terms. Real GDP adjust for inflation the nominal value of GDP. The chain-type price index is an index of prices that measure price changes over time. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 21 Nominal versus Real GDP Real GDP = Nominal GDP divided by GDP chain price index x 100 ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 22 Nominal and Real GDP Slected Years 1961 1971 1981 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 ©2004 Prentice Hall Publishing Nominal GDP (in trillions) GDP Chain Type price index (1996 $) Real GDP in trillions of 1996 $'s 0.546 1.129 3.131 5.986 6.319 6.642 7.054 7.400 7.813 8.318 8.782 9.269 9.873 10.208 22.43 30.52 62.37 89.66 91.85 94.05 96.01 98.10 100.00 101.95 103.20 104.66 107.04 109.37 2.434 3.699 5.020 6.676 6.880 7.062 7.347 7.543 7.813 8.163 8.510 8.856 9.224 9.333 Ayers/Collinge, 1/e 23 5.4 THE BUSINESS CYCLE The business cycle refers to the expansions and contractions in economic activity that take place over time. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 24 Stages of the Business Cycle Peak Recession Expansion Trend Line Trough Trough Time ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 25 Rising Trend of GDP 10000 9000 8000 7000 6000 5000 4000 3000 2000 1000 0 58 60 62 64 66 68 ©2004 Prentice Hall Publishing 70 72 74 76 78 80 82 84 86 88 90 92 94 Ayers/Collinge, 1/e 26 The Upward Trend of Real GDP 10000 9000 8000 Dollars 7000 6000 5000 4000 3000 2000 1000 0 01 20 00 20 98 19 96 19 94 19 92 19 90 19 88 19 86 19 84 19 82 19 80 19 78 19 76 19 74 19 72 19 70 19 68 19 64 19 62 19 60 19 Real GDP ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 27 Economic Indicators Leading Indicators: index of building permits, housing starts, and manufacturers’ new orders for durable goods. Lagging indicators: unemployment rate and expenditures on new plant and equipment. Coincident indicators: index of industrial production and the prime interest rate. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 28 5.5 EXPLORE & APPLY Static vs. Dynamic Scoring Static scoring: the traditional method of computing the effects of federal actions. Static scoring assumes no general change in behavior as a result of government policy changes. Dynamic scoring: allows for the consideration of all behavioral changes caused by changes in government policy. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 29 Terms along the Way gross domestic product (GDP) consumption spending investment gross investment net investment net domestic product (NDP) value added potential GDP ©2004 Prentice Hall Publishing underground economy GDP chain price index nominal GDP real GDP potential GDP business cycle leading indicators static scoring dynamic scoring Ayers/Collinge, 1/e 30 Test Yourself 1. The consumption spending portion of GDP includes a. durables, nondurables, and services b. goods, services, and new houses. c. intermediate foods, but not final goods. d. about 90% of all production that occurs in the economy. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 31 Test Yourself 2. Gross Investment equals a. net investment plus depreciation. b. investment adjusted for the effects of inflation. c. a negative component of GDP. d. the change in business inventories. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 32 Test Yourself 3. a. b. c. d. The value of a new house is included in consumption. investment. government purchases. net exports. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 33 Test Yourself 4. Which of the following is an example of a transfer payment? a. A school district pays the salary of a school teacher. b. A senior citizen is issued a Social Security check by the government. c. A farmer raises a field of corn from seed.. d. A little boy and girl spend their allowances at Chuck E. Cheese’s pizza restaurant. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 34 Test Yourself 5. a. b. c. d. Net exports are computed as exports minus depreciation. export minus imports. export minus GDP. imports minus exports. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 35 Test Yourself 6. To compute real GDP when given nominal GDP we must also know a. nothing else, since real GDP and nominal GDP are generally equal. b. the value of consumption spending. c. the value of gross investment. d. the value of the GDP chain-type price index. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 36 The End! Next Chapter 6 “Unemployment" ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 37