Presentation on theme: "Chapter 4: Measuring GDP and Economic Growth"— Presentation transcript:
1 Chapter 4: Measuring GDP and Economic Growth Definition of GDPUse circular flow model to explain how GDP can be measured from income or expenditure side.Measurement of GDP and its major components.GDP as a measure of economic growth.Limitations of GDP as a measure of economic growth or the standard of living.
2 Definition of GDPGDP (Gross Domestic Product) is the market value of all final goods and services produced in a country in a given time period.Market valuegoods & services are valued at their market prices.GDP rises if prices rise (more on this later)Final goods and servicesBought by final userIntermediate goods are produced by one firm, bought by another, and used as a component of a final good or service.Exclude sale/purchase of intermediate goods to avoid double counting.
3 Definition of GDP Produced within a country In a given time period Any domestic production, regardless of who owns the resourcesIn a given time periodProduction during a specific year (sales of used items excluded, except value of service in sale)Inventory adjustments account for goods produced in one year but sold in anotherif inventories rise by $10 million during 2010, $10 million is added to sales of final goods & services since it reflects goods produced but not sold during 2010.If inventories fall by $10 million during 2010, $10 million is subtracted from sales of final goods & services because $10 million was sold during 2010 that was produced prior to 2010.
4 GDP and Circular FlowHouseholds sell factors of production the firms in factor marketsFactors of production: land, labor, capitalWages for laborInterest for loans used to purchase capitalRent for the use of landProfit to owners of capitalTotal income paid to households=Y
5 Expenditure Components of GDP Consumption (C)total payment for consumer goods and servicesInvestment (I)purchase of new plant, equipment, and buildingsadditions to inventoriesGovernment spending (G):government purchases of goods and services from firmsexcludes “transfer payments” such as Social Security, Unemployment InsuranceNet exports (X-M)(exports-imports)Imports subtracted because counted as part of C,I,G and are not part of domestic production.
7 GDP: Income & Expenditure Approach GDP can be measured by income (blue flows) or expenditure (red) sideCircular flow demonstrates thatY = C + I + G + (X-M)
8 Gross vs Net Domestic Product GDP is before subtracting depreciation (capital consumption allowance)NDP =GDP- CCANDP is “net of” depreciation.Capital in t = Capital in (t-1) + Gross Investment –CCA= Capital in (t-1) + Net Investmentwhere Net investment = Gross investment – CCA
9 If capital is $8 trillion at the end of 2008 and $7 If capital is $8 trillion at the end of 2008 and $7.7 trillion at the end of 2009Gross investment is $.3 trillion in 2009Gross investment is -$.3 trillion in 2009Net investment is $.3 in 2009Net investment is -$.3 trillion in 200910
11 GDP: The Income Side Income includes 1. Compensation of employees2. Rental income3. Net interest4. Corporate profits5. Proprietors’ incomeTwo adjustments to income required:1.Indirect taxes minus subsidies are added to get from factor cost to market prices.2. Depreciation (or capital consumption) is added to get from net domestic product to gross domestic product
13 GDP: Adjusting for changes in prices Nominal GDPthe value of goods and services produced during a given year valued at the prices that prevailed in that same year.Nominal GDP is a more precise name for GDP.Real GDPthe value of final goods and services produced in a given year when valued at the prices of a reference base year.
14 20002010ProductQuantityPricecomputers100$500120$600refrigerators50$1000$1500Nominal GDPReal GDP (2000 base year)Real GDP (2010 base year)GDP-deflator (2000 base year)GDP-deflator (2010 base year)
15 GDP Deflator GDP deflator Provides a comparison of current and base year prices
21 Lucas Wedgedollar value of the accumulated gap between what real GDP per person would have been if the 1960s growth rate had persisted and what real GDP per person turned out to be.
22 Temporary fluctuations in GDP: The Business Cycle 4 stages to a business cyclePeakRecessionTroughExpansion
23 Comparing Standard of Living Across Countries Use per capita real GDPMust make two adjustmentsConvert into common currencyGoods and services must be valued at same pricesUsing the exchange rate to convert can be problematic because prices of some products may differ after conversionPurchasing Power Parity exchange rate is the exchange rate that would make the prices of goods and services equal across countries.Using actual exchange rate instead of PPP exchange rate causes underestimate of standard of living in less developed countries.
24 With actual exchange rates, China RGDP per capita is 5% of that in U.S. With PPP exchange rates, China RGDP per capita is 12.5% of that in U.S.