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$)
10%
Below trend growth
•Falling stimulus spending
•Less inventory rebuilding
•Slowing Euro-Zone
•Financial crisis
•Deleveraging households
•Rising savings rates
9%
8%
7%
6%
5%
4%
3%
Maximum Sustainable
Growth Rate = 3%
5.1%
4.2%
3.3%
3.0%
2.7%2.6%
3.2%
2.7%
1.8%
2%
3.8%3.9%3.8%
3.6%
3.0%
2.1%
2.5%2.3%
1.7%
1.6%
1.7%
1.3%
0.5%
1%
3.5%3.5%3.5%3.5%
2.8%
2.5%2.5%2.5%2.5%
1.8%
1.3%
0.4%
0.1%
0%
-1% 04:1
05:1
06:1
-2%
07:1
08:1
09:1
-0.7%
-5%
-6%
-7%
-8%
11:01
12:01
13:01
-1.8%
-3%
-4%
10:1
Recession Factors:
Falling Potential Growth Rate
•3.5% to 2.5%
•Less investment spending
•Lower leverage in post-credit era
•Suppressed demand
•Negative demographic trends
•Lower total factory productivity growth
-9%
-3.7%
-6.7%
•Loose monetary policy
•Poor regulation
•Lax bank supervision
•Opaque derivatives
•Shadow banking system
•Lax investor diligence
•Poor governance
•Misaligned incentives
•fraud
-8.9%
-10%
Source: Department of Commerce.
2
4th Quarter 2011 GDP
Spending = C + I + G + X – M
% of total = (70.7) (13.5) (18.8) (13.3) (-16.4)
Growth rate = (2.0) (20.0) (-4.6)
(4.7) (4.4)
Contribution = (1.5) + (2.4) + (-0.9) + (0.6) + (-0.8) = 2.8%
(1+0.028)1/4 -1 = 0.007 = 0.7%
Components of GDP
PERSONAL CONSUMPTION EXPENDITURES, OR “CONSUMPTION”
Consumption Spending by households on goods and services, not including spending on new houses.
GROSS PRIVATE DOMESTIC INVESTMENT, OR “INVESTMENT”
Investment Spending by firms on new factories, office buildings, machinery, and inventories, and spending
by households on new houses.
GOVERNMENT CONSUMPTION AND GROSS INVESTMENT, OR “GOVERNMENT PURCHASES”
Government purchases Spending by federal, state, and local governments on goods and services.
NET EXPORTS OF GOODS AND SERVICES, OR “NET EXPORTS”
Net exports Exports minus imports.
Annual % Change in U.S. Economic Output
(Real GDP - Chainweighted 2005$)
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%
3.0%
2.7%
1.9%
1.7%
1.1%
1%
0%
-1%
-0.5%
-0.3%
-2%
-3%
-3.5%
-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
The Circular Flow Diagram
$15.1 Trillion
$2.1
$1.9
$2.7
$3.0
$10.7-2.7= $8.0
$0.6
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
The Expenditure Method of Measuring GDP
Expenditure Approach:
GDP is the sum of expenditures on final-user goods and services
purchased by households, investors, governments, and
foreigners.
There are four components of GDP:
• personal consumption purchases
• gross private investment
(including inventories)
• government purchases
(consumption and investment)
• net exports (exports minus imports)
Resource Cost-Income Method of Measuring GDP
Resource Cost - Income Approach
GDP is the sum of costs incurred and income (including profits) generated by the
production of goods and services during the period.
The direct cost income components of GDP:
employee compensation
self-employment income
rents
interest
corporate profits
Sum of these = national income
Not all cost components of GDP result in an income payment to a resource supplier.
To get GDP, we need to account for 3 other factors:
Indirect business taxes:
Taxes that increase the firm’s production costs and therefore final prices.
Depreciation:
The cost of wear and tear on the machines and other capital assets used to produce
goods and services.
Net Income of Foreigners:
The income that foreigners earn producing goods within the borders of the U.S.
minus the income Americans earn abroad.
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
Other Measures of Total Production and Total Income
Gross Domestic Product (GDP) $14.242 Trillion
+ Foreign production of domestic firms $0.591 Trillion
- Domestic production of foreign firms $0.470 Trillion
Gross National Product (GNP) $14.364 Trillion
- Consumption of fixed capital (depreciation) $1.851 Trillion
Net National Product (NNP) $12.513 Trillion
- Indirect business taxes (sales tax) $0.163 Trillion
National Income $12.350 Trillion
- Retained earnings $1.359 Trillion
+ Transfer payments & government bond interest $1.093 Trillion
Personal Income $12.084 Trillion
- Personal tax payments (federal personal income tax) $1.086 Trillion
Disposable Personal Income $10.998 Trillion
- Personal outlays $10.503 Trillion
Personal Savings $0.495 Trillion
Business Inventories
(Measures Total Business Inventories and Sales)
Web: www.census.gov
Small monthly revisions, with annual benchmark changes every spring.
Business inventories – amount of goods manufacturers, wholesalers and retailers keep in stockrooms. Changes in retail inventories gives 1 st
indication of a changing economy.
Corporate managers must decide the optimal level of inventories based on present orders/sales and expected future demand. Must keep enough
goods on hand to make sales.
Inventories are typically financed with short-term loans. So a drop in sales => increase in inventories => financial stress.
Excess inventories can lead to recessions (Domino Effect)
 retail sales => retail inventories => wholesale orders => wholesale inventories => factory orders => factory production => layoffs => HH
income => HH consumption =>  retail sales => self-reinforcing downward spiral (recession),…. But process eventually corrects itself =>
Retailers employ discounts/sales/incentives => retail sales =>inventory =>orders across pipeline to replenish stock rooms => 
economic activity
Improvements in technology and software => “just in time” inventory management systems => reduction in large inventory swings => more stable
economy
Total Business Sales - includes manufactures, wholesalers and retailers’ sales numbers.
Inventory-to-Sales (I/S) Ratio – number of months needed to sell inventory based on latest monthly sales rate.
Typically a lagging economic indicator (tends to follow overall pace of economy). But can be a leading indicator of future orders and production
activity.
Firms must determine optimal I/S ratio. Need inventory to make sales. General rule of thumb for I/S is 1.5 months, but depends on industry. Auto
industry is 2 months.
Use Total Retail I/S ratio (excluding motor vehicle and parts components) to reduce large data fluctuations.
If I/S > 1.5 =>  orders => slowing economy
If not in recession and I/S < 1.5 => DS/S > DI/I =>  factory orders =>  retail inventories => accelerating economy
Recall GDP = final sales + D Inventory. So inventory changes play major role in economic growth calculation.
Inventory component of economic growth:
Real % D Inventory GDP = (3-month % D Total Inventories) – (3-month % D Producer Price Index)
-------------------------------------------------------------------------------------------------------------------------Market Analysis:
Bonds: If DI/I > DS/S =>  I/S =>  orders =>  DY/Y =>  DP/P =>  DBonds =>  iBonds
Stocks: If I/S > 1.5 =>  orders => slowing economy=>  future profits =>  PStocks
Dollar: If I/S > 1.5 =>  orders => slowing economy and lower interest rates =>  demand for U.S. stocks and bonds =>  Demand for dollars =>
dollar depreciates.
Inventory-to-Sales Ratios
1.8
1.8
1.7
1.7
1.6
1.6
1.5
1.5
1.4
1.4
1.3
1.3
1.2
1.2
1.1
1.1
1
1
92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13
Recession
Wholesale I/S
Retail I/S
Manufacturers I/S
Total I/S Ratio