1. Measuring a Nation’s Income10
Measuring a Nation’s Income

2. Measuring a Nation’s Income
Microeconomics
Microeconomics is the study of how individual households and firms make decisions and how they interact with one another in markets.
Macroeconomics
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.

3. THE MEASUREMENT OF GROSS DOMESTIC PRODUCT
GDP is the market value of all final goods and services produced within a country in a given period of time.

4. THE MEASUREMENT OF GROSS DOMESTIC PRODUCT
“GDP is the Market Value . . .”
Output is valued at market prices.
“. . . Of All Final . . .”
It records only the value of final goods, not intermediate goods (the value is counted only once).
“. . . Goods and Services “
It includes both tangible goods (food, clothing, cars) and intangible services (medical, legal, retail sales).

5. THE MEASUREMENT OF GROSS DOMESTIC PRODUCT
“. . . Produced . . .”
It includes goods and services currently produced, not transactions involving goods produced in the past.
“ Within a Country . . .”
It measures the value of production within the geographic confines of a country.

6. THE MEASUREMENT OF GROSS DOMESTIC PRODUCT
“. . . In a Given Period of Time.”
It measures the value of production that takes place within a specific interval of time, usually a year or a quarter (three months).

7. GDP vs GNP Domestic Product – within a country
National Product – owned by country’s citizens
Example – Subaru plant – US GDP, Japan’s GNP
GNP - the market value of all final goods and services produced by factors owned by a country’s citizens in a given period of time.

8. Figure 1 The Circular-Flow Diagram
Firms sell
Households buy
MARKETS
FOR
GOODS AND SERVICES
Revenue
Spending
Goods
and services
sold
Goods and
services
bought
FIRMS
Produce and sell
goods and services
Hire and use factors
of production
Buy and consume
goods and services
Own and sell factors
of production
HOUSEHOLDS
Households sell
Firms buy
MARKETS
FOR
FACTORS OF PRODUCTION
Factors of
production
Labor, land,
and capital
Wages, rent,
and profit
Income
= Flow of inputs
and outputs
= Flow of dollars

9. Calculating GDP
Expenditure Approach
Income Approach

10. THE COMPONENTS OF GDP GDP (Y) is the sum of the following:
Consumption (C)
Durable goods
Non-durable Goods
Investment (I)
Non-residential
Residential (Housing)
Inventories
Government Purchases (G)
Net Exports (NX) = Exports - Imports
Y = C + I + G + NX

11. Table 1 GDP and Its Components (Q2 2011)
Total (B$)
Percentage
GDP (Y)
100%
Consumption (C)
71%
Investment (I)
1882.7
13%
Government Purchases (G)
3027.0
20%
Net Exports (NX)
-562.5
-4%

12. GDP and Its Components Government Purchases 20% Net Exports Investment
-4 %
Investment
13%
Consumption
71%

13. Income Approach National Income Depreciation 13%
Compensation of employees 57%
Proprietor’s income 7%
Corporate profits 9%
Interest and rental income 7%
Depreciation %
Indirect Taxes and Subsidies 7%
Net Factor Payments to rest of the world

14. REAL VERSUS NOMINAL GDP
Nominal GDP values the production of goods and services at current prices.
Real GDP values the production of goods and services at constant prices.

15. Table 2 Real and Nominal GDP

16. The GDP Deflator
The GDP deflator is a measure of the price level calculated as the ratio of nominal GDP to real GDP times 100.
It measures the changes in the price level.

17. The GDP Deflator
The GDP deflator is calculated as follows:

18. Converting Nominal GDP to Real GDP
The GDP Deflator
Converting Nominal GDP to Real GDP
Nominal GDP is converted to real GDP as follows:

19. Nominal and Real GDP in the U.S., 1965–2011
Real GDP (base year 2005)
billions
The source I used:
The original source: U.S. Department of Commerce: Bureau of Economic Analysis
Since you have just finished covering real vs. nominal GDP, it might be worthwhile pointing out the following to your students:
The graph shows that nominal GDP rises faster than real GDP. This should make sense, because growth in nominal GDP is driven by growth in output AND by inflation. Growth in real GDP is driven only by growth in output.
The two lines cross in the year 2005 (the base year for the real GDP data in this graph). This should make sense because real GDP equals nominal GDP in the base year. (Better yet, ask your students whether there’s anything significant about the point where the two lines cross.)
Before the base year, real GDP > nominal GDP. For example, in 1981, nominal GDP is about $3 trillion, while real GDP is about $6 trillion (in 2005 dollars). This should make sense because prices were so much higher in 2005 than in 1981, so using those high 2005 prices to value 1981 output would lead to a bigger result than valuing 1981 output using 1981 prices.
Similarly, after 2005, nominal GDP is higher than real GDP because prices are higher in later years than they were in 2005.
Nominal GDP 19

20. GDP AND ECONOMIC WELL-BEING
GDP is the best single measure of the economic well-being of a society.
GDP per person tells us the income and expenditure of the average person in the economy.

21. Limitations of GDP
Measures only income – ignores quality of education, medical care, environment
Excludes non-market production
Excludes underground economy

22. Table 3 GDP, Life Expectancy, and Literacy

23. Summary
Because every transaction has a buyer and a seller, the total expenditure in the economy must equal the total income in the economy.
Gross Domestic Product (GDP) 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.

24. Summary
GDP is the market value of all final goods and services produced within a country in a given period of time.
GDP is calculated through four components of expenditure: consumption, investment, government purchases, and net exports.

25. Summary
Nominal GDP uses current prices to value the economy’s production. Real GDP uses constant base-year prices to value the economy’s production of goods and services.
The GDP deflator—calculated from the ratio of nominal to real GDP—measures the level of prices in the economy.