Exam 3: Output and Income

Nominal Gross Domestic Product (GDP)

1. A measure of the GDP in which the quantities produced are valued at current-year prices

2. Measures the final goods and services that are produced during a fixed period of time by using current price and current goods

3. does not include used goods or intermediate goods

GDP Equation

C + I + G + NX

Real Gross Domestic Product (Real GDP, Y)

1. Measure of the constant dollar value of all final goods and services produced in a country during a fixed period of time

2. Sometimes called inflation -adjusted GDP

3. When an economy is in equilibrium, real GDP equals income, Y

4. current year quantities and base year prices

Real GDP per Capita

1. Real GDP per person; calculated as real GDP divided by the size of the population

2. Real GDP per capital = Real GDP / population

3. inflation-adjusted GDP

GDP Price Index

1. A price index based on all the goods and services that are counted as part of gross domestic product

2. Sometimes called GDP deflator

GDP Price Index equation

GDP Price Index = Nominal GDP/ Real GDP x 100

Intermediate Goods

Goods that are used to build or make another product that will be subsequently sold

Intermediate Goods Example

Milk used in cheese, tire used at Honda car factory

Final Goods and Services

goods and services that are sold to the end user and are not used to produce another product for subsequent sale

Consumption (C)

1. All expenditures made by households on goods and services, like clothing, food, electronics, and recreation, during a given time period

Consumption Equation

Durable goods + nondurable goods + services

Investment

The formation of new productive capital or the expansion of inventories within an economy. Investment occurs either when firms buy goods and services that will enhance productivity and increase output or when they increase their inventories of the goods they sell

Gross Investment (I)

The dollar of all new capital purchased (as investment) and the expansion of inventories in an economy during a given time period. Is classified into three categories: business fixed investment, residential investment, and inventory investment

Government Purchases (G)

All final goods purchased by federal, state, and local governments - such as tanks, police cars, fire engines, and office supplies - during a given time period, as well as all final services purchased from labor resources - such as airport security personnel, police officers, and teachers

Imports (X)

Goods, services, or resources produced abroad and sold domestically

Exports (M)

goods, services, or resources produced domestically and sold abroad

Net Exports (NX)

the difference between exports and imports

Net Exports equation

NX = X - M

Consumer Durable Goods

Goods that have an average useful life of three years or more

consumer durable goods example

motor vehicles and parts, furnishings and durable household equipment, recreational goods and vehicles

Consumer Non Durable

goods that have an average useful life of less than three years

consumer non durable goods examples

Food, beverages, clothing, footwear, gasoline, and other energy goods

services

outputs, often intangible, of the direct activities of another person

transfer payment

1. A payment made by the government that does not require an exchange of economic activity in return. Transfer payments often take the form of payment to households

2. Not included in GDP

Residential Investment

purchases of new homes; also includes home improvments

Business Fixed Investment

1. Purchases by firms of new capital goods, such as offices, factories, tools, and machinery

Inventory Investment

Change in inventories from one year to the next. Inventory investment is positive if firms produce more than they sell it is negative if they sell more than they produce

Expenditure Approach

An approach to calculating nominal GDP that sums four categories of expenditures on final goods and services in a country in a given time period, typically one year. The four categories of expenditure are consumption, Gross investment, government purchase, and net exports

Net investment

the difference between gross investment and depreciation; represents the net change in the capital stock during a year

net investment equation

net investment = Investment - Depreciation

Inflation

A general increase in prices of goods and services

Home production

Goods and services that are produced by a household and are not exchanged in a market

underground economy

Economic activity in which goods and services are exchanged for payment but are not counted as part of GDP. Markets that are part of the underground economy that exchange illegal goods and services or engage in illegal transactions

(black market)

net foreign factor income

the difference between payments received from resources owned in foreign countries and income earned by people in foreign countries from resources owned domestically

GDP Income Approach Equation

GDP= national income + indirect business taxes + depreciation + net foreign factor income

Indirect business taxes

taxes paid by businesses, such as property taxes, sales taxes, excise taxes, license fees, and tariffs. These taxes are paid by firms and then passed on to consumers as part of the price of the good or service produced. Indirect business taxes are differentiated from corporate income taxes on business profits

depreciation

The consumption of physical capital, or value of capital that wears out, is used up, or becomes obsolete during a year

Income Approach

1. An approach to measuring GDP that measures the value of all final goods and services in an economy during a time period using income generated

2. Tells us who earned what

National Income

Total payments to owners of resources plus profits and losses; the sum of rent, wages, interest, and profits and losses to sole proprietors and firms

national income equation

rent + wages + interest + profits and losses

profits and losses

payments occurring to owners of entrepreneurial ability

what are the largest components of GDP consumption?

Consumption of households and government

What is one way to break down GDP?

the expenditures approach

why is labor an intermediate input?

Because they are "used up" in making goods and providing services

When are salaries included in GDP?

1. salaries in the private sector are not included

2. salaries of government employees are included in nominal GDP

How do we know if a payment is included in GDP?

If the government is giving money to someone so she can buy a good or service, its a transfer payment and not included

If the government is buying a good or service for its own use, its a purchase and it is included

are transfer payments included in GDP?

No. because senior citizens are not selling anything to the government in exchange for the Social Security check

Another example is Medicare

Recent changes in GDP calculations

Households now pay more for services and the local government now purchases more than the federal government

What is the difference between savings and investments in economics?

Savings: occurs when households or firms take some of their income or profit and put it in a savings account, in the stock market, or in some other asset, hoping to make a return on their money and spend it in the future

Investment: occurs when a firm or individual purchases new capital, like machinery (for a firm) or new home (for a household)

Gross investment contains 3 components

business fixed investment, residential investment, and inventory investment

What are the effects of changes in net investment?

The capital stock increases only if the net investment is positive. If firms are investing, but capital is wearing out faster than it is being replaced, net investment is negative and the capital stock in the economy will actually decrease

Most of peoples largest expenditures

mortgage payment

rent

utilities

why are intermediate goods not included in the calculation of GDP?

they would be counted twice because they are included in the final price of the product

what do second hand sales represent?

The reallocation of past production that was already counted as part of GDP in another year

What does GDP underestimate?

The actual amount of output produced in an economy because informal market transactions result in increases in output produced

What does nominal gross domestic product measure?

the dollar value of all final goods and services that are produced during a fixed period of time

What is the volatile component of GDP?

investment is the most volatile component of GDP which can make planning difficult

How is labor calculated in GDP?

It is counted as intermediate inputs because they are used up in making goods and providing services

examples of transfer payments

social security

business investments

Refers to spending by firms on capital goods designed to improve the future productivity of the firms

If investments are growing....

then inventory investment is positive

Why do economist prefer real GDP over nominal GDP?

They want to measure the actual production that occurred not the current dollar amount of that production.

Is nominal or real GDP better for studying the whole economy?

Using real GDP provides us with a better picture of the economy because it allows us to see what is happening to the amount of production over time without price changes skewing our calculation.

why is real GDP an imperfect measure of standard of living?

It does not report the distribution of income

Purpose of World Bank's development indicator

Used to measure standards of living also include life expectancy and the depreciation rate.

household production

Goods and services that are produced by a household and are not exchanged in a market