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146998289 Foundations of Economic Analysis Homework #6 Stratton Name ________Key___________ Objective: to provide practice and assessment of your understanding of how economic activity is measured in the U.S. Your ability to demonstrate understanding, insight and/or the ability to use the material is the primary purpose of the assessment. Thus full credit will only be earned if you follow the directions carefully and provide the explanation, description, and thought process as directed. Each numbered question is worth 2 points – total 50 points. Instructions: In your own words explain the key differences for each pair of terms, of the term(s) in the space provided or attach additional sheets if necessary. Terms: 1. Consumer price index and GDP deflator – CPI and GDP deflators are both measures of absolute price level. CPI uses a fixed market basket of goods based on average urban household spending patterns as its basis, while GDP uses total current production as its basis. Also, CPI uses an historical base year, while GDP deflator uses the current year as its base year. 2. The rate of inflation and the core rate of inflation – The rate of inflation is a measure of how fast average prices are rising and is measured by the percentage change in a price index. The key difference is that the core rate of inflation excludes the volatile energy and food sectors in its calculations. 3. Expansion and Recession – Expansion is when real output growth is positive. That part of the business cycle in which several measures of economic activity indicate real growth. Recession is officially defined as 2 or more consecutive quarters of negative real growth. That part of the business cycle in which several measures of economic activity indicate decline in real production. 4. Fiscal Policy and Monetary Policy – Both are policies designed to dampen the business cycle by either stimulating or restraining production in an anti-cyclical fashion. Fiscal policy is conducted by the federal government, while monetary policy is conducted by the FED. Fiscal policy uses changes in government spending and/or taxes by a national government to influence economic activity, while monetary policy uses the money stock and interest rates. 5. Inflation and deflation – Inflation is the general increase in the absolute price level. Deflation is the decline in the absolute price level. 6. Labor force and employed persons – The labor force consists of all individuals in the working age population who are either employed or looking for employment. One is considered employed if they worked for pay last week, was self-employed, worked for family business for 15 hours or more, or was temporarily absent from their job due to one of several conditions, including illness. Thus the employed make up part of the labor force. The unemployed make up the rest of the labor force. 1 of 9 6/24/2017 146998289 Foundations of Economic Analysis Stratton 7. Natural rate of unemployment and the current rate of unemployment – The minimum unemployment rate which current institutions allow without causing inflation to accelerate. The current rate of unemployment is the ratio of those currently classified as unemployed to the labor force. 8. Nominal GDP and Real GDP – Nominal GDP is the value of all final goods and services produced in a country during a specified time period (usually 1 year) priced at current prices. Real GDP is the value of all final goods and services produced in a country during a specified time period (usually 1 year) priced at constant (or chained) prices. 9. Saving and investment – Saving is done by households and is disposable income not consumed. It is often placed in a variety of instruments that earn interest. Investment is the purchase of a good or service which increases society’s productive capacity. Saving is a leakage out of the circular flow; investment is an injection into the flow. 2 of 9 6/24/2017 146998289 Foundations of Economic Analysis Stratton Scenario 1: The Bureau of Economic Analysis provides data on GDP. One approach to calculating GDP is the expenditures approach. Use the BEA web site (as cited in your text) to obtain the expenditure data for the following questions. Be sure to answer the questions as completely as you can. If calculations are requested, show your work! Table 1.1.5. Gross Domestic Product, current dollars [Annual data in billions of dollars] Bureau of Economic Analysis Downloaded on 11/10/2006 Last Revised on October 27, 2006 Line 1 Gross domestic product 2 Personal consumption expenditures 3 Durable goods 4 Nondurable goods 5 Services 6 Gross private domestic investment 7 Fixed investment 8 Nonresidential 9 Structures 10 Equipment and software 11 Residential 12 Change in private inventories 13 Net exports of goods and services 14 Exports 15 Goods 16 Services 17 Imports 18 Goods 19 Services 20 Government consumption expenditures and gross investment 21 Federal 22 National defense 23 Nondefense 24 State and local 2003 10960.8 7703.6 942.7 2190.2 4570.8 1664.1 1649.8 1077.4 277.2 800.2 572.4 14.3 -499.4 1040.8 724.4 316.4 1540.2 1283.9 256.2 2092.5 756.4 497.2 259.2 1336 2004 % change 11712.5 7.0% 8211.5 6.5% 986.3 4.0% 2345.2 8.2% 4880.1 6.3% 1888 15.4% 1830.6 13.2% 1155.3 10.8% 300.8 7.8% 854.5 11.8% 675.3 17.7% 57.3 259.7% -613.2 24.6% 1178.1 12.3% 818.8 13.0% 359.3 10.7% 1791.4 16.2% 1495.2 16.5% 296.2 15.0% 2226.2 5.9% 825.9 9.6% 551.2 11.3% 274.7 6.5% 1400.3 3.8% 10. Why are the data on GDP (in current dollars using annual data) for 2003 different from the data in your textbook, Table 11.2)? – The current data was revised August 31, 2005, substantially after the printing of the textbook. 11. How much did private inventories change (percentage) between 2003 and 2004? What can you infer from this change in inventories? – Inventories increased by over 250%. (See table above.) These data indicate that inventories increased rather substantially between the end of 2003 and the end of 2004. I can infer then that production outpaced sales during 2004. This might be caused by production increasing faster than sales (businesses were overly optimistic about the rate of the expansion) or by sales slowing faster than production (businesses might not have reacted quickly to slowing rate of expansion). In either event, I would expect businesses to reevaluate their production plans downward for 2005. 3 of 9 6/24/2017 146998289 Foundations of Economic Analysis Table 1.1.6. Real Gross Domestic Product, Chained Dollars [Annual data in billions of chained (2000) dollars] Bureau of Economic Analysis Downloaded on 9/21/2005 At 9:28:46 AM Last Revised August 31, 2005 Line 2003 1 Gross domestic product 10301 2 Personal consumption expenditures 7295.3 3 Durable goods 1020.6 4 Nondurable goods 2103 5 Services 4178.8 6 Gross private domestic investment 1613.1 7 Fixed investment 1596.9 8 Nonresidential 1081.8 9 Structures 243.5 10 Equipment and software 843.1 11 Residential 509.4 12 Change in private inventories 14.3 13 Net exports of goods and services -518.9 14 Exports 1026.1 15 Goods 719.8 16 Services 306.2 17 Imports 1545 18 Goods 1309.3 19 Services 236.6 20 Government consumption expenditures and gross investment 1904.8 21 Federal 687.1 22 National defense 449 23 Nondefense 238 24 State and local 1217.8 25 Residual 3.4 Note. Chained (2000) dollar series are calculated as the product of the chain-type quantityindex and the 2000 current-dollar value of the corresponding series, divided by 100. Because the formula for the chain-type quantity indexes uses weights of more than one period, the corresponding chained-dollar estimates are usually not additive. The residual line is the difference between the first and the sum of the most detailed lines. Stratton 2004 % change 10703.5 3.9% 7577.1 3.9% 1085.7 6.4% 2179.2 3.6% 4323.9 3.5% 1770.6 9.8% 1713.9 7.3% 1145.8 5.9% 248.7 2.1% 904.2 7.2% 559.9 9.9% 53.4 273.4% -590.9 13.9% 1120.4 9.2% 784.4 9.0% 335.9 9.7% 1711.3 10.8% 1452.2 10.9% 260.3 10.0% 1940.6 1.9% 716.6 4.3% 475.4 5.9% 241 1.3% 1223.9 0.5% 0.4 -88.2% 12. What percentage of “real” GDP (GDP, chained dollars using annual data) is represented by investment expenditures (Gross Private Domestic Investment) in 2004? (I/GDP) = (1770.6/10703.5) = 16.5% What percentage of “real” GDP represents net exports in 2004? (NX/GDP) = (-590.9/10703.5) = -5.5% 13. Calculate the GDP deflator for 2003 and 2004? – The GDP deflator is Nominal GDP / Real GDP. In this case for 2003 GDP deflator = (10,960.8 / 10301.0) * 100 = 106.4; and for 2004 GDP deflator = (11,712.5 / 10703.5) * 100 = 109.4. 14. Using the answers in the above question, estimate the rate of inflation during 2004. – The rate of inflation is % change in the price index. In this case the inflation rate for 2004 = (109.4 – 106.4) / 106.4 = 3.0 / 106.4 = 2.82%. 4 of 9 6/24/2017 146998289 Foundations of Economic Analysis Stratton Scenario 2: The Bureau of Economic Analysis provides data on GDP. Another approach to calculating GDP is the incomes approach. In this approach payment to the factors of production, valued at factor market prices, is used to estimate economic activity. To determine GDP (valued at product market prices) requires some adjustments. Below is a summary of the relevant BEA tables from the BEA web site. (Similar to Table 11.3 in your text.) Use these data for the following questions. Be sure to answer the questions as completely as you can. If calculations are requested, show your work! Table 1.7.5. Relation of Gross Domestic Product, Gross National Product, Net National Product, National Income, and Personal Income [Billions of dollars] Bureau of Economic Analysis Downloaded on 11/10/2006 Last Revised on October 27, 2006 Line 1 Gross domestic product 2 Plus: Income receipts from the rest of the world 3 Less: Income payments to the rest of the world 5 Less: Consumption of fixed capital 15 Less: Statistical discrepancy 16 Equals: National income 17 Less: Income earned, but not received 24 Plus: Income received, but not earned 26 Equals: Personal income 2003 10960.8 336.8 280.0 1336.5 48.8 9632.3 759.3 778.6 9163.6 2004 11712.5 410.2 363.9 1436.2 66.7 10255.9 819.4 826.4 9731.4 2003 8429.7 5782.7 728.4 150.3 1387 1084 702.7 1235.7 7194 7025.6 168.5 2.3 2004 8429.7 5782.7 728.4 150.3 1387 1084 702.7 1235.7 7194 7025.6 168.5 2.3 Table 2.1. Personal Income and Its Disposition [Billions of dollars] Bureau of Economic Analysis Downloaded on 11/10/2006 Last Revised on October 27, 2006 1 2 9 12 13 16 24 25 26 27 33 34 Personal income Compensation of employees, received Proprietors' income with inventory valuation and capital consumption adjustments Rental income of persons with capital consumption adjustment Personal income receipts on assets Personal current transfer receipts Less: Contributions for government social insurance Less: Personal current taxes Equals: Disposable personal income Less: Personal outlays Equals: Personal saving Personal saving as a percentage of disposable personal income Table 1.7.5. Relation of Gross Domestic Product, Gross National Product, 1. Prior to 1959, current surplus of government enterprises (line 22) is not shown separately;subsidies are included net of the current surplus of government enterprises in line 18. 2. Consists of compensation of employees, proprietors' income with inventory valuationadjustment (IVA) and capital consumption adjustment (CCAdj), rental income of persons withCCAdj, corporate profits with IVA and CCAdj, net interest and miscellaneous payments, andconsumption of fixed capital. 3. Consists of gross national factor income less consumption of fixed capital. Table 2.1. Personal Income and Its Disposition 1. Consists of aid to families with dependent children and, beginning with 1996, assistance programs operatingunder the Personal Responsibility and Work Opportunity Reconciliation Act of 1996. 2. Consists of nonmortgage interest paid by households. 3. Equals disposable personal income deflated by the implicit price deflator 5 of 9 6/24/2017 146998289 Foundations of Economic Analysis Stratton 15. Explain the need for the adjustments to go from National Income to Personal Income (Table 1.7.5 line 16 to line 26). Specifically, what is being subtracted and why? What is being added and why? [Hint: just listing the items in the table is not sufficient. You must explain the need for the process and demonstrate your understanding of the difference between National and Personal Income.] – National income is the total earned factor payments in the factor markets and includes all forms of compensation. Personal income is the total receipts (income received) by households, whether the income is earned or not. Therefore, we must subtract from national income any income that is earned, but not received (Undistributed corporate profits, net taxes paid in production, contributions to SS, business transfer payments, government surplus – similar to undistributed profits-, etc.). We must add to national income any household receipts which were not earned (primarily personal transfers). 16. Line 34 of Table 2.1 indicates that saving is about 2% of personal income. You can find cross-country comparisons of national (and personal) saving rates at http://www.oecd.org/dataoecd/5/48/2483858.xls . How does the U.S. compare? – In general, for the last 10 years the U.S. savings rate has been one of the 2 or 3 lowest rates of the countries covered in the table. (Between 18% and 13%) Annex Table 24. Gross national saving Per cent of nominal GDP Australia Austria Belgium Canada Czech Republic Denmark Finland France 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 22.9 21.9 19.5 20.0 24.1 23.4 22.1 20.8 22.8 23.7 23.3 20.1 18.6 23.9 23.6 17.6 16.2 23.5 22.7 14.9 18.0 22.3 23.2 13.6 19.6 21.6 24.3 14.2 18.5 21.2 25.5 16.5 18.7 20.8 25.4 18.6 19.8 20.6 24.5 19.1 19.9 21.3 25.9 19.9 19.2 22.2 25.6 19.4 20.1 22.2 26.3 21.0 19.5 22.4 26.0 23.9 20.3 22.2 24.6 22.5 20.0 23.4 24.2 21.7 20.4 23.2 23.6 22.1 19.8 24.2 23.5 23.1 .. 24.5 23.7 .. .. 18.3 23.5 19.2 .. 18.8 25.9 20.7 .. 19.2 25.9 21.6 .. 20.3 24.6 21.6 .. 19.5 17.0 20.9 28.2 20.0 14.3 20.3 28.2 19.1 15.3 18.6 27.9 19.3 18.7 18.8 28.7 20.4 22.0 19.1 26.2 20.5 21.0 18.8 24.3 21.4 24.3 20.0 26.5 20.7 25.6 21.1 24.5 21.7 25.5 21.7 23.9 22.6 27.7 21.6 23.5 23.5 27.3 21.3 21.7 22.9 26.6 19.8 21.0 22.9 23.1 19.2 22.6 22.5 24.3 19.1 .. 23.8 23.9 .. Germany Greece Iceland Ireland 23.8 17.5 17.4 14.4 24.9 19.5 17.4 14.5 26.1 17.5 17.5 14.8 26.1 17.6 16.9 17.8 22.6 18.9 16.1 17.4 22.3 18.4 15.7 15.4 21.2 17.0 17.6 17.5 20.9 17.8 18.0 17.8 21.0 16.6 17.1 20.4 20.5 16.1 17.2 22.0 20.7 16.6 17.9 23.9 20.9 16.5 17.2 25.6 20.3 15.6 14.9 24.6 20.2 14.6 12.7 25.0 19.5 14.2 16.9 23.0 19.4 13.9 19.0 21.9 19.3 15.2 14.8 23.4 20.9 15.7 14.1 23.7 21.1 14.6 12.1 .. Italy Japan Korea Mexico 21.8 32.3 38.4 24.5 21.8 33.5 40.6 21.3 21.1 33.6 37.7 20.3 20.8 33.8 37.7 20.3 20.0 34.5 37.7 18.7 19.1 33.7 36.9 16.6 19.7 32.3 36.8 15.1 19.9 30.4 36.3 14.8 22.0 29.5 36.2 19.3 22.2 29.8 35.3 22.4 22.2 30.2 35.4 24.0 21.6 29.3 37.2 20.5 21.1 28.1 35.0 20.6 20.6 27.9 33.6 20.6 20.9 26.6 31.6 18.0 20.8 25.7 31.2 18.6 19.8 26.4 32.6 19.2 20.3 .. 34.8 21.0 19.8 .. 32.8 .. Netherlands New Zealand Norway Portugal 25.1 18.7 25.6 26.7 26.9 19.1 25.0 26.4 28.8 18.3 26.0 26.7 27.4 16.9 25.7 25.3 26.7 13.8 24.7 22.5 25.5 14.6 23.7 21.4 25.7 17.2 23.8 18.9 27.6 18.0 24.8 18.2 29.1 18.0 26.4 20.2 28.3 16.9 28.4 19.4 29.8 16.5 30.1 19.3 26.5 16.1 27.3 19.9 28.2 15.9 29.1 18.9 28.7 17.1 36.5 16.9 26.7 19.1 35.0 16.8 25.8 18.6 32.0 17.0 24.9 18.8 31.4 16.3 25.7 16.9 33.5 15.1 26.8 .. 37.1 12.8 Spain Sweden Switzerland Turkey 22.7 21.5 31.1 24.3 23.6 22.2 33.2 28.9 23.1 22.9 34.0 26.4 23.0 21.4 33.7 21.5 22.5 18.4 31.6 17.7 20.7 15.5 29.1 18.5 20.7 13.9 30.0 18.7 20.1 17.5 29.6 18.9 22.5 20.5 29.9 20.1 22.2 20.1 29.4 22.6 22.7 20.4 31.3 21.6 22.5 21.1 32.3 20.6 22.6 21.5 33.1 13.7 22.3 22.4 35.0 15.2 22.1 22.1 31.8 12.6 22.9 21.9 29.0 18.7 23.4 23.0 32.9 18.9 22.4 22.8 .. 20.3 22.3 22.9 .. .. United Kingdom United States 17.3 15.7 17.2 16.9 17.1 16.3 16.2 15.3 15.3 15.3 14.0 14.2 13.9 13.8 15.5 14.6 15.7 15.5 15.8 16.1 16.8 17.3 17.7 18.0 15.2 17.8 15.0 17.7 15.1 16.1 15.2 13.9 14.8 13.1 14.8 13.0 14.2 .. Note: Based on SNA93 or ESA95 except Turkey that reports on SNA68 basis. Source: National accounts of OECD countries database. 6 of 9 6/24/2017 146998289 Foundations of Economic Analysis Stratton Scenario 3: The table below was complied using data from the BEA website. Use these data to answer the associated questions. Be sure to answer the questions as completely as you can. If calculations are requested, show your work! Table 1.1.6. Real Gross Domestic Product, Chained Dollars [Billions of chained (2000) dollars] Bureau of Economic Analysis Downloaded on 9/28/2005 At 9:26:45 AM Last Revised August 31, 2005 Line 1 Gross domestic product 2 Personal consumption expenditures % of GDP 6 Gross private domestic investment % of GDP 13 Net exports of goods and services % of GDP 14 Exports % of GDP 17 Imports % of GDP 20 Government consumption expenditures and gross investment % of GDP 25 Residual 1960 2501.8 1597.4 64% 266.6 11% -12.7 -1% 90.6 4% 103.3 4% 715.4 29% -64.9 1970 3771.9 2451.9 65% 427.1 11% -52 -1% 161.4 4% 213.4 6% 1012.9 27% -68 1980 5161.7 3374.1 65% 645.3 13% 12.6 0% 323.5 6% 310.9 6% 1115.4 22% 14.3 1990 7112.5 4770.3 67% 895.1 13% -54.7 -1% 552.5 8% 607.1 9% 1530 22% -91.1 2000 9817 6739.4 69% 1735.5 18% -379.5 -4% 1096.3 11% 1475.8 15% 1721.6 18% 0.2 2004 10755.7 7588.6 71% 1809.8 17% -601.3 -6% 1117.9 10% 1719.2 16% 1952.3 18% -5.1 Note. Chained (2000) dollar series are calculated as the product of the chain-type quantityindex and the 2000 current-dollar value of the corresponding series, divided by 100. Becausethe formula for the chain-type quantity indexes uses weights of more than one period, thecorresponding chained-dollar estimates are usually not additive. The residual line is thedifference between the first 17. What insight do these data provide on the growth of government spending in the U.S.? Explain. – Government spending represents a declining percentage of real GDP. Thus in real terms, government spending is declining relative to other sectors, particularly consumption and investment. 18. What insight do these data provide on the source of our growing balance of trade deficit? Explain. – Our imports are growing faster than our exports causing the deficit to grow. This might be the result of our increased taste for foreign goods, or restrictions imposed by other countries on our exports. Scenario 4: The diagram below provides a picture of the U.S. labor market. It depicts the flows of individuals between the 3 categories of labor market participation (Employed, Unemployed and Not in the Labor Force). 7 of 9 6/24/2017 146998289 Foundations of Economic Analysis Stratton 1 1.1 1.2 2.1 2.2 2 19. Holding other things the same, explain what impact an increase in the number of job losers and leavers (flow 2.1) has on the unemployment rate. UE rate would increase. UE rate = UE/LF; An increase in Flow #2.1 increases UE, but the LF remains constant. Therefore, the ratio UE/LF will be larger, since LF is constant and UE is larger. 20. An increase in the number of discouraged workers will tend to increase which flow? Why? Discouraged workers are those who have been looking for work and would accept work if offered, but who have stopped looking for work. They would be represented in flow 2.2. 8 of 9 6/24/2017 146998289 Foundations of Economic Analysis Stratton Scenario 5: The table below was complied using data from the BLS website. Use these data to answer the associated questions. Be sure to answer the questions as completely as you can. If calculations are requested, show your work! Nominal Gross domestic product Real Gross domestic product Claculated GDP Deflator 2000 9817.0 9817.0 100.0 2001 10128.0 9890.7 102.4 2002 10469.6 10048.8 104.2 2003 10971.2 10320.6 106.3 2004 11734.3 10755.7 109.1 CPI - All items Claculated Real GDP Core CPI - without food and enegy Claculated Real GDP 172.2 5700.9 181.3 5414.8 177.1 5718.8 186.1 5442.2 179.9 5819.7 190.5 5495.9 184.0 5962.6 193.2 5678.7 188.9 6211.9 196.6 5968.6 Claculated Inflation rate 2000 - 2001 2001 - 2002 2002 - 2003 2003 - 2004 Claculated GDP Deflator 2.4% 1.7% 2.0% 2.6% CPI - All items 2.8% 1.6% 2.3% 2.7% Core CPI - without food and enegy 2.6% 2.4% 1.4% 1.8% Claculated Growth Rate of Real GDP Reported Real GDP Estimated using CPI - All items Estimated using Core CPI 0.8% 0.3% 0.5% 1.6% 1.8% 1.0% 2.7% 2.5% 3.3% 4.2% 4.2% 5.1% CPI - All items: Series CUUR0000SA0; Not Seasonally Adjusted; Base Period: 1982-84=100 Core CPI - without food and enegy: Series CUUR0000SA0L1E; Not Seasonally Adjusted; Base Period: 1982-84=100 Source: http://data.bls.gov/cgi-bin/surveymost?cu 21. How is the GDP Deflator calculated from the data given? Calculate the GDP Deflator for the five years. – The GDP deflator can be calculated by Nominal GDP / Real GDP. The calculations are in the table. 22. Explain how to calculate the annual inflation rate. – An annual inflation rate is calculated by taking the absolute difference in the price index divided by the price index in the first year. (Index2 – Index1)/Index1 23. Calculate the annual inflation rate using the CPI – All items. – Answers in table. 24. How can the Real GDP be estimated using CPI? – Real GDP can be calculated using CPI by the formula: (Nominal GDP) / (CPI/100). Calculate Real GDP using the Core CPI. – The estimations are in the table. 25. Explain how to calculate the annual rate of growth in Real GDP. – An annual rate of growth is calculated by taking the absolute difference in the real GDP divided by the real GDP in the first year. (GDP2 – GDP1)/GDP1 9 of 9 6/24/2017