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Chapter 12
Gross Domestic Product
(GDP)
http://en.wikipedia.org/wiki/Gross_domestic_product
Table of Contents
 What is GDP?
 Other Vocabulary / Approaches to GDP
 Measurements of Macroeconomics
 The Business Cycle
“Stuff”
 How much money you have does not measure your
economic well-being. Money, by itself, has no
intrinsic value. It will not make you live longer. It
does not entertain you. It does not make it easier to
get around town, and so on. The only reason to
have money is so you can exchange it for
something that does have intrinsic value, like a car
or a stereo or a sandwich or an doctor’s services or
a macroeconomics tutor or what not.
“Stuff”
 How much stuff you have does measure your
economic well-being. Your car makes
getting around town easier. Sandwiches keep
you from starving and if they taste good, you
enjoy eating them. Stereos entertain you.
Doctors' services help you live longer.
Gross Domestic Product (GDP)
 The dollar value of all final goods and
services produced within a country’s borders
in a given year
 Signals the health of the economy
 Basically, you want GDP to increase
Example
 If a person from China
comes to the U.S. and
produces items in the
U.S., those items are
part of the U.S.’s GDP
 If a person from the
U.S. goes to Italy and
produces items in Italy,
those items are part of
Italy’s GDP
 U.S. GDP includes
"foreign" goods
produced in American
soil, such as a Toyota
built in Kentucky.
 U.S. GDP excludes
"American" goods
produced on foreign
soil, such as a Ford
built in England.
GDP does NOT include:
(Limitations)
 Intermediate goods
 Used Products
 Non-market activities
 Black market
 Externality
 Quality of life
Intermediate Goods
 Goods that are used in the production of a
final good and services
 Examples: Raw materials
Intermediate Example:
Apples
 If the purpose of the
 However, if the
apples to sell the apples
purpose of the apple is
as is, then the apples
to make applesauce,
ARE included in GDP
then the apple is an
intermediate good and
is NOT counted in
GDP. The applesauce
would be counted in
GDP
Examples
 The steel used to make cars.
 The bread used in sandwiches that are sold in
delis.
 The gas used in the cars of taxicabs.
We do this to prevent
double counting
 Example: counting the steel in its raw form
and second in its final form, as the
automobile
 Example: Paper is the intermediate
good; the book is the final good.
The book is counted in GDP
Used Products
 Products can ONLY be counted ONE time—
the year they were FINISHED being made
A product does NOT have to be
SOLD.
It only has to finish being
made.
Example
 GDP is for 2005
 If you finish building a house in 2005. It is
counted in GDP for 2005
 If you resell the house in 2006, it does NOT
count in 2006’s GDP.
Example
 GDP is for 2005
 A 2006 Volkswagon Jetta is made in 2005.
Therefore, the car is considered part of
2005’s GDP
Example
 Additions to houses sometimes are
considered part of the year the addition was
made
 It all depends on several
factors, such as the size,
and who constructed it.
Non-market activities
 Goods that people do themselves
 Example: Childcare,
mowing lawn
Example
 If a farmer grows tomatoes and sells them to
me at the farmer's market, the tomatoes are
included in GDP.
 But if I grow tomatoes
and eat them myself,
the tomatoes are NOT
included in GDP.
Loophole
 If the business (childcare, mowing lawn) is
by the books—legitimate—then, it may be
considered part of GDP
Black Market
 The market for illegal goods
 Examples: Drugs, weapons, babies
Externality
 Unintended economic side effects have a
monetary value that is often NOT reflected
in GDP
 Examples: Building a pool causes changes in
ecology
However,
 If you pay someone to fix up the ecology that
was destroyed, that person’s income is part of
GDP
Quality of life
 Additional goods do NOT necessarily make people
happier
 Examples: Pleasant surroundings, personal safety,
leisure time
Other Vocabulary
Durable goods
 Goods that last for more than ONE year
 Examples: Refrigerator,
Washer, Dryer
Nondurable goods
 Goods that last for less than ONE year
 Examples: Light bulbs,
food, sneakers
Price level
 Average of all prices in an economy
Expenditure
 Amounts spent
National Income Accounting
 Collects statistics to define and measure
GDP
The Great Crash (1929)
 The stock market fell rapidly, causing people
to lose much of their money
 Caused a severe economic decline
 The government found a way to predict and
prevent economic downturns
Approaches to GDP
 Output Approach
 Expenditure Approach
 Income Approach
(sometimes people combine the Output and Expenditure approach)
Output Approach
 Adding up the market value (the market
price) of all final goods and services
produced domestically (within the borders of
the country)
Expenditure Approach
 Estimate the annual expenditures on four
final goods and services.
Expenditure Approach
 Y = GDP
 Y = C + I + G + Nx
 Nx = (X - M)
Expenditure Approach
 C = Consumption
(household items; ex: food, cars)
 I = Investments
(business; ex: factories, equipment, houses)
 G = Government
(ex: navy purchases, tanks, guns)
 Nx = Net Exports
X = Exports (going OUT of country)
M = Imports (coming INTO country)
Expenditure Approach
 Y = GDP
 Y = C + I + G + Nx
 Nx = (X - M)
Income Approach
 The total income of everyone in the economy
compromises all payments to the factors of
production—land, labor, and capital—in the form
of rent, wages, interest, and profits
 MOST accurate
Income Approach
 Is problematic in the sense that it takes into
consideration the suppliers of the resources,
which is difficult to define. Moreover it is
problematic to calculate Interest and Profit.
Measures of GDP
Nominal GDP
(“Current GDP”)
GDP measured in current
year’s prices
Real GDP
 Expressed in constant,
unchanging prices
Problem: A general increase
in prices appears to make
GDP rise—when it really
didn’t
 MORE accurate
Measures of GDP
Year Nominal GDP
Real GDP
2001
$1 x 1000 = $1,000
$1 x 1000 = $1,000
2002
$2 x 2000 = $4,000
$1 x 2000 = $2,000
2003
$3 x 3000 = $9,000
$1 x 3000 = $3,000
2004
$4 x 4000 = $16,000
$1 x 4000 = $4,000
2005
$5 x 5000 = $25,000
$1 x 5000 = $5,000
Measurements of Macroeconomics
 Gross Domestic Product (GDP)
 Gross National Product (GNP)
 Net National Product (NNP)
 National Income (NI)
 Personal Income (PI)
 Disposable Personal Income (DPI)
Gross National Product (GNP)
 GDP + Income earned
outside U.S. by
U.S. firms &
citizens
- Income earned
by foreign firms
& citizens in
the U.S.
Means:
 Products produced by Americans
 Does NOT account for depreciation
Net National Product (NNP)
 GNP - Cost of depreciation
Means:
 Reflects depreciation
 Does NOT reflect taxes
What is depreciation?
 Decreases in value
 Example: Car
What is Appreciation?
 Increases in value
 Example: House
National Income (NI)
 NNP - (Sales tax + Excise tax)
Means:
 Reflects taxes
What is an excise tax?
 A tax on items the government believes is
“harmful” to people
 Purpose: is to deter people from buying or
using the product
 Example: Cigarettes, alcohol, gas
Personal Income (PI)
 NI - (firms reinvested profits
+ firm’s income taxes
+ social security taxes )
+
Other
household
income
Means:
 What everyone in the household makes—before taxes
 AKA: Gross Income
Disposable Personal Income (DPI)
 PI - Individual taxes
Means:
 Income to spend or put in the bank
 AKA: Net Income
Business Cycle
 A period of Macroeconomic expansion
followed by a period of contraction
Business Cycle
Peak
Contraction
Expansion
Trough
Business Cycle
 Expansion: Recovery, growth. A period of economic
growth as measured by a rise in Real GDP
 Peak: The height of the economic expansion, when
real GDP stops rising
 Contraction: A period of economic decline marked
by a falling real GDP
 Trough: The lowest point in an economic contraction,
when real GDP stops falling
Business Cycle
(Levels of Severity)
 Recession: A prolonged economic contraction,
2 consecutive quarter of decreased GDP
 Depression: A recession that is especially long
and severe
 Stagflation: A decline in real GDP combined
with a rise in the price level
Business Cycle
(with Levels of Severity)
Business Cycle
(with Levels of Severity)
Peak
Expansion
Contraction
Trough
Recession
Depression
Business Cycle
Business Cycle
Peak
Expansion
Trough
Contraction
Leading Indicators
(Economic Variables)
 Key economic variables that economists use
to predict a new phase of the business cycle
Business Investment
Explanation
Positive Examples &
Characteristics
Expansion leads Hire more
to sales and
workers
profits keep
rising until a
Increase Output
point when firms
expand enough
or demand for a
product drops
Negative Examples &
Characteristics
Lay off workers
Reduce output
Interest Rates & Credit
Explanation
Positive Examples &
Characteristics
Negative Examples &
Characteristics
Consumers use credit to
purchase “big ticket”
items
Low interest
rates
High interest
rates
Businesses
BORROW
money
Businesses PAY
back loans
Interest Rate Calculator
Low Interest Rates…
 More money saved
 Spend more money on other “things”
 Businesses stay operating
 People keep jobs
 People spend…
Consumer Expectations
Explanation
Positive Examples &
Characteristics
Negative Examples &
Characteristics
Partially determined by
consumer spending
Expectation of
rapid growth
Fears of a
weakening
economy
External Shocks
Explanation
Positive Examples &
Characteristics
Negative Examples &
Characteristics
Huge events occur—
usually suddenly
Discovery of Oil Wars
or Mineral
Droughts
deposits
Shortages
Disruption of oil
supply
September 11, 2001
Positives
Negatives
Bush says positives to boost WAR—September 11th
consumer confidence
Lower Interest Rates
Bush give money to families
“New Discoveries”
advertized
September 11, 2001
“It’s often said that if you ask ten economists the
same question you will get ten different
answers.”
“Economists were virtually unanimous in their
forecast that the horrific tragedy of September
11, 2001, would lead to a contraction of
economic activity.”
--Naked Economics, page xii
Review
Are these positive factors, or
negative factors?
Expansionary
 Business Hire more workers.
Expansionary
 Businesses borrow money from banks
Expansionary
 People feel good about the economy
Contraction
 The government increases interest rates
Expansionary
 Businesses increase output
Contraction
 The United States enters a war
Standards
 6.1.12 CD
 6.2.12 I
 6.4.12 ABCDEFG
 6.5.12 E