Gross Domestic Product & Growth Macroeconomics – Part 1

Gross Domestic Product is The dollar value of all final goods and services produced within a country’s borders in a given year. Let’s break that down, piece by piece.

Gross Domestic Product is The dollar value of all final goods and services produced within a country’s borders in a given year. To get Dollar value we look at the total of the selling prices We don’t look at what they were “worth”

Gross Domestic Product is The dollar value of all final goods and services produced within a country’s borders in a given year. Final goods and services means products sold to consumers It does not mean intermediate goods

Gross Domestic Product is The dollar value of all final goods and services produced within a country’s borders in a given year. The goods must have been made in the country’s border by anybody So, a Toyota plant in the USA counts A Chevrolet plant in Japan does not.

Calculating GDP – Two Methods The Expenditure Approach: counting up the total amount spent on all goods and services. The Income Approach: Add up all income earned in the economy In method 1, we are adding up all the goods and services purchased. In method 2 we are looking at incomes that were used to buy the things in method 1. Thus, they should come out the same.

GDP=C+I+G+(X-M) GDP Formula Consumption Expenditures Private Business Investment Government Purchases Net Exports: Exports minus-Imports; may also be written as Xn, or F

Consumption Expenditures Expenditures by consumers, about 70% of GDP Durable Goods -- Those goods which last for a longer period of time, such as automobiles and refrigerators; more than 3 years Nondurable goods -- Those goods which last for short periods of time, such as food. Services -- Reflect work done in which people play a prominent role in delivery, such as a dentist filling a cavity.

Investment All new structures, even houses Spending on new plants and equipment during the year; Newly produced housing; Additions to the stock of inventories; Gross Investment -- The total of new investment; Depreciation -- The deterioration or wearing out of existing plants, equipment and housing; Net investment -- Gross Investment minus depreciation.

Government Purchases Purchases of newly produced goods and services by federal, state, and local governments; It includes any goods the government purchases plus the wages and benefits of all government workers; The majority of spending in this category actually comes from state and local governments. DOES NOT include ALL gov. spending.

Net Exports The value of exports minus the value of imports Purchases of foreign goods by consumers, firms and the government are subtracted when we calculate GDP because these goods were not produced in the U.S. We must add to GDP any goods produced in the U.S. and sold abroad. Trade Deficit -- Occurs when we buy more goods from abroad than we sell; Trade Surplus -- Occurs when our exports exceed our imports;

What’s NOT included in GDP? 1) Intermediate Products Tires on a Car. A part of the final product. 2) Secondhand Sales The sale of used goods. 3) Purely financial transactions Purchase of stocks , interest earned 4) Transfer payments Unemployment benefits, SS, welfare, etc. 5) The underground economy Transactions which occur that are not reported to official authorities -- these may be legal or illegal 6) Non-market activities Services performed in the home, such as, cleaning, cooking and providing free child care; IRS estimates that about $100 billion in income escapes federal taxes each year;

Nominal vs Real GDP Nominal GDP is a GDP measured in current prices Thus if a country produced $4,000,000 worth of goods last year, it’s nominal GDP is $4,000,000) Real GDP is a GDP measured by a fixed or constant price. Because prices might have risen and because we are measuring Product (or items produced) and not their price, we have to adjust for those price changes.

Measuring Economic Growth Take Real GDP from the later Year (GDP2) Subtract Real GDP from the earlier Year (GDP1) from it Divide by Real GDP1 Multiply by 100 ((GDP2 – GDP1) ÷ GDP1) x 100

Measuring Economic Growth So if the Real GDP in 1994 was $7.8 billion And Real GDP in 2004 was $10.8 billion What was the economic growth? ((10.8 – 7.8) ÷ 7.8) x 100 = (3 ÷ 7.8) x 100 = .384 x 100 = 38.4%

Economic Growth A steady, long-term increase in a nation’s real GDP that tends to raise living standards. Primary Causes: Capital Deepening: increasing the amount of capital per worker Saving and Investing Advances in Technology

Supply and Demand Revisited Price Level: An average of all the goods and services made in one year. Aggregate Demand: the Demand for all goods and services in the Country’s economy Aggregate Supply: the Supply of all goods and services in the Country Aggregate Supply/Aggregate Demand Equilibrium: the Equilibrium price for a Country’s economy

Business Cycles 1. A period of macroeconomic expansion followed by a period of contraction. 2. Has Four Stages: Expansion, Peak, Contraction and Trough

Business Cycle (Continued) 3. Three more terms: A. Recession: a period in which GDP falls for at least 2 consecutive quarters (minimum 6 months) B. Depression: a long and severe recession C. Stagflation (Stagnant + Inflation): an increase in unemployment and a rise in the price level