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Harcourt Brace & Company Chapter 10 Measuring a Nation’s Income.

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Presentation on theme: "Harcourt Brace & Company Chapter 10 Measuring a Nation’s Income."— Presentation transcript:

1 Harcourt Brace & Company Chapter 10 Measuring a Nation’s Income

2 Harcourt Brace & Company Macroeconomics u Macroeconomics is the study of the economy as a whole. Its goal is to explain the economic changes that affect many households, firms, and markets at once. u Microeconomics is the study of how individual households and firms make decisions and how they interact with one another in markets.

3 Harcourt Brace & Company Understanding the Economy u Identify the important areas: –Total output (and income) –The average of prices –Resource employment u Measure the important areas using: –Real Gross Domestic Product –Consumer Price Index –Monthly unemployment rate

4 Harcourt Brace & Company The Circular-Flow Diagram Households Businesses Market for Factors of Production Product Market $ $ $ $

5 Harcourt Brace & Company Two Methods of Computing An Economy’s Income u Expenditure Approach: –Sum the total expenditures by households (from the top portion of the circular flow). u Resource Cost or Income Approach: –Sum the total wages and profit paid by firms for resources (from the bottom portion of the circular flow).

6 Harcourt Brace & Company The Economy’s Income and Expenditure u When judging whether the economy is doing well or poorly, it is natural to look at the total income that everyone in the economy is earning. u For an economy as a whole, income must equal expenditure. u The forces of supply and demand determine the market equilibrium price and quantity that is produced and exchanged.

7 Harcourt Brace & Company u A measure of the income and expenditures of an economy is Gross Domestic Product (GDP). u Gross Domestic Product measures: –an economy’s total expenditure on newly produced goods and services and the total income earned from the production of these goods and services The Economy’s Income and Expenditure

8 Harcourt Brace & Company Gross Domestic Product The total market value of all final goods and services produced during a given period of time within a country, region, or state.

9 Harcourt Brace & Company Important Features of GDP ¬Output is valued at market determined prices. ­Output is measured in dollar terms. ®GDP records only the output of final goods. We want to “count” production only once. ¯Represents the amount of money one would need to purchase a year’s worth of the economy’s production of all final goods ($7,000,000,000,000).

10 Harcourt Brace & Company What Is and What Is Not Counted in GDP? u GDP includes all items produced in the economy and sold legally in markets. u GDP does not include items produced and consumed at home and never enter the marketplace. It does not include items produced and sold illicitly, such as illegal drugs.

11 Harcourt Brace & Company Gross National Product The total market value of all final goods and services produced during a given period of time by the nation’s residents, regardless of the place produced.

12 Harcourt Brace & Company Quick Quiz! u Which contributes more to GDP: the production of a pound of hamburger or the production of a pound of caviar? Why?

13 Harcourt Brace & Company Three Other Measures of Income u Net National Product (NNP): –Total income of residents of a nation after subtracting capital consumption allowances. u Personal Income: –The income that households and non- corporate businesses receive. u Disposable Personal Income: –The income that household and non- corporate businesses have left after taxes.

14 Harcourt Brace & Company The Components of GDP u GDP (Y) is the sum of: –Consumption (C) –Investment (I) –Government Purchases (G) –Net Exports (NX) Y = C + I + G + NX

15 Harcourt Brace & Company The Four Components of GDP u Consumption (C): –Is the spending by households on goods and services v e.g. buying clothing, food, movie tickets u Investment (I): –Is the purchases of capital equipment and structures v e.g. factory, houses, etc.

16 Harcourt Brace & Company The Four Components of GDP u Government Purchases (G): –Includes spending on goods and services by local, state and federal governments (e.g. roads, police, etc.). –Does not include transfer payments, because it is not made in exchange for currently produced goods or services. u Net Exports (NX): –Exports minus imports.

17 Harcourt Brace & Company GDP Components of Measurement

18 Harcourt Brace & Company Consumption 69 % GDP Components of Measurement

19 Harcourt Brace & Company Consumption 69 % Investment 13% GDP Components of Measurement

20 Harcourt Brace & Company Consumption 69 % Investment 13% Government Spending 19% GDP Components of Measurement

21 Harcourt Brace & Company Government Spending 19% Net Exports -1 % GDP Components of Measurement Consumption 69 % Investment 13%

22 Harcourt Brace & Company The Income Approach u Components: –Wages (73.0%) –Interest (9.5%) –Rents (.5%) –Profits (17.0%) u We must also include taxes and depreciation for accurate accounting

23 Harcourt Brace & Company Quick Quiz! u List the four components of expenditure. u Which is the largest?

24 Harcourt Brace & Company Real versus Nominal GDP u GDP is the market value of the economy’s current production, referred to as Nominal GDP. u Real GDP measures any given year’s total output in “constant” prices. u An accurate view of the economy requires adjusting nominal to real GDP, using the GDP Price Deflator.

25 Harcourt Brace & Company Our Example of Real vs. Nominal

26 Harcourt Brace & Company Nominal GDP u Calculated as the sum of Prices in a year times quantities in a year u 1999: $1x10+$2x5=$20 u 2000: $2X10+$4x5=$40 u 2001: $3x5+$6x10=&75 u Question: Is this an accurate measure of how much we produce? u Compare 1999 and 2000 to see!

27 Harcourt Brace & Company Real GDP u Calculated as sum of base year prices times quantities each year u Let’s make 1999 the base year u 1999: $1x10+$2x5=$20 u 2000: $1x10+$2x5=$20 u 2001:$1x5+$2x10=$25 u Is this a more accurate measure of output?

28 Harcourt Brace & Company GDP Deflator u Just the ratio of nomimal GDP to real GDP times 100 u 1999:$20/$20 x 100 = 100 u This is an index, always 100 for the base year u 2000:$40/$20 x 100 = 200 u 2001:$75/$25 x 100 = 300 u What does it mean?

29 Harcourt Brace & Company GDP Price Deflator u The GDP Price Deflator is a price index that uses a bundle of all final goods and services. –It tells us the rise in nominal GDP that is attributable to a rise in prices. u Converting Nominal GDP to Real GDP: Real GDP 19xx = (Nominal GDP 19xx ) ÷ (GDP deflator 19xx )X100

30 Harcourt Brace & Company Quick Quiz! u Define Real and Nominal GDP. u Which is a better measure of economic well- being? Why?

31 Harcourt Brace & Company GDP and Economic Well-Being u GDP Per Person tells us the income and expenditure of the average person in the economy. –It is a good measure of the material well- being of the economy as a whole. –More Real GDP means we have a higher material standard of living by being able to consume more goods and services. –It is NOT intended to be a measure of happiness or quality of life.

32 Harcourt Brace & Company GDP and Economic Well-Being u Some factors and issues not in GDP that lead to the “well-being” of the economy: –Factors that contribute to a good life such as leisure. –Factors that lead to a quality environment. –The value of almost all activity that takes place outside of the markets, e.g. volunteer work and child-rearing.


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