THE DATA OF MACROECONOMICS Part 10 THE DATA OF MACROECONOMICS

Measuring a Nation’s Well-Being 20 Measuring a Nation’s Well-Being For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

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 any households, firms, and markets at once. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Measuring a Nation’s Income Macroeconomics answers questions such as the following: Why is average income high in some countries and low in others? Why do prices rise rapidly in some time periods while they are more stable in others? Why do production and employment expand in some years and contract in others? For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

The Economy’s Income And Expenditure Total income equals total expenditure because: When judging whether the economy is doing well or poorly, it is natural to look at the total income that the economy is earning. Total income must equal expenditure because: Every transaction has a buyer and a seller. Every euro of spending by some buyer is a euro of income for some seller. The equality of income and expenditure can be illustrated with the circular-flow diagram. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

For An Economy As A Whole, Total Income Must Equal Total Expenditure Households buy goods and services from firms; firms use this money to pay for resources purchased from households. When households receive income, some of the income is: saved (S) providing funds for financial institutions taxed (T). The taxes can be used by the government in making purchases (G) such as education, health and infrastructure. Some products and services maybe purchased from other countries as imports (M) and some services and products maybe sold abroad as exports (X). Some businesses will invest (I) in new capital. Leakages are T + S + M Injections into the economy come from G, X and I For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Figure 1 The Circular-Flow Diagram For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

The Measurement Of Gross Domestic Product Gross domestic product (GDP) is a measure of the income and expenditures of an economy. GDP is the market value of all final goods and services produced within a country in a given period of time. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

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 (haircuts, house cleaning). For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

GDP is the Market Value…. “. . . produced . . .” It includes goods and services produced in the period we’re considering, not transactions involving goods produced in the past. “ . . . within a country . . .” It measures the value of production within the geographic confines of a country. “. . . 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). For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Gross Domestic Product The GDP can be measured in three different ways, but equivalent ways: Expenditure approach Income approach Value added approach For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Other Measures of Income Gross national product (GNP) is the total income earned by a nation’s permanent residents (called nationals). Net national product (NNP) is the total income of a nation’s residents (GNP) minus losses from depreciation. Depreciation is the wear and tear on the economy’s stock of equipment and structures, such as lorries rusting and computers becoming obsolete. National income (NY) is the total income earned by a nation’s residents in the production of goods and services Personal income is the income that households and non- corporate businesses receive. Disposable personal income is the income that households and non-corporate businesses have left after satisfying all their obligations to the government. (personal income – taxes) For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

The Components Of GDP GDP includes all items produced in the economy and sold legally in markets. What Is Not Counted in GDP? GDP excludes most items that are produced and consumed at home and that never enter the marketplace. It excludes items produced and sold illicitly, such as illegal drugs. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

The Components Of GDP GDP (Y) is the sum of the following: Consumption (C) Investment (I) Government Purchases (G) Net Exports (NX) Y = C + I + G + NX For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

The Components Of GDP Investment (I): Consumption (C): The spending by households on goods and services, with the exception of purchases of new housing. Investment (I): The spending on capital equipment, inventories, and structures, including new housing. Government Purchases (G): The spending on goods and services by local and central governments. (Includes salaries of government workers) Does not include transfer payments because they are not made in exchange for currently produced goods or services. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

The Components Of GDP Net Exports (NX): Exports minus imports. GDP per capita is gross domestic product divided by the population of a country to give a measure of national income per head. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

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. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

A Numerical Example An accurate view of the economy requires adjusting nominal to real GDP by using the GDP deflator. Assume an economy produces only two goods – apples and potatoes. Table 2a shows the quantities of the two goods produced and their prices in the years 2016, 2017 and 2018. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Table 2a Data example for calculating the real and nominal GDP

Table 2b Nominal and Real GDP Part of the rise is attributable to the increase in the quantities of apples and potatoes and part to the increase in the prices of apples and potatoes. To take out the effect of changes in prices we use real GDP For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

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 tells us the rise in nominal GDP that is attributable to a rise in prices rather than a rise in the quantities produced. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Table 2c Calculating the GDP deflator For year 2016, nominal GDP is €200, and real GDP is €200, so the GDP deflator is 100. We now need the nominal GDP and the real GDP for the other two years to complete our calculations (see table 2a). For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

The GDP Deflator Converting Nominal GDP to Real GDP Nominal GDP is converted to real GDP as follows: For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

The Limitations Of GDP As A Measure Of Economic Well-being GDP is the best single measure of the economic well-being of a society. GDP per person tells us the mean income and expenditure of the people in the economy. Higher GDP per person indicates a higher standard of living. GDP is not a perfect measure of the happiness or quality of life, however. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

The Limitations of GDP As A Measure of Economic Well-being Some things that contribute to well-being are not included in GDP. The value of leisure. The value of a clean environment. The value of almost all activity that takes place outside of markets, such as the value of the time parents spend with their children and the value of volunteer work. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Personal Well-being Measures Since 2012 the ONS in the UK publishes annual reports on personal well-being in the UK using four ‘high level’ measures and 41 headline measures. Headline measures include personal health, finances, environment, relationships, where people live, education and skills, the economy and governance. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

International Differences In GDP And The Quality Of Life GDP data is used as a way of comparing well-being across different countries. Rich and poor countries have vastly different levels of GDP per person. Countries with low GDP per person tend to have more infants with low birth weight, higher rates of infant mortality, higher rates of maternal mortality, higher rates of child malnutrition and less common access to safe drinking water. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Table 3 GDP, Life Expectancy, and Literacy For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

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. GDP is the market value of all final goods and services produced within a country in a given period of time. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Summary GDP is divided among four components of expenditure: consumption, investment, government purchases, and net exports. 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. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Summary GDP is a good measure of economic well- being because people prefer higher to lower incomes. It is not a perfect measure of well-being because some things, such as leisure time and a clean environment, aren’t measured by GDP. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017