Macroeconomics Spring 2026: Chapter 2 GDP and CPI - Tracking the Macroeconomy (Part 2)

Macroeconomics Spring 2026: Chapter 2 GDP and CPI - Tracking the Macroeconomy (Part 2)

Course Contents

  • Chapter 1: Macroeconomics: The Big Picture

  • Chapter 2: GDP and CPI: Tracking the Macroeconomy

  • Chapter 3: The Goods Market

  • Chapter 4: Money and the Banking System

  • Chapter 5: The IS-LM Model

  • Chapter 6: The Foreign Exchange Market

  • Chapter 7: The AD-AS Model

Chapter Outline

  1. The Economic Circuit

    • Description of the overall flow of goods and services in the economy, including interactions between consumers, businesses, and the government.

  2. Three Methods for Calculating GDP

    • Approach 1: Production (Output) Method

    • Approach 2: Income Method

    • Approach 3: Expenditure Method

  3. GDP versus GNI (Gross National Income)

    • GDP: Total value of all final goods and services produced within a country's borders.

    • GNI: GDP plus net income earned by residents from investments abroad minus income earned by foreign residents within the domestic economy.

  4. Nominal versus Real GDP

    • Nominal GDP (GDPN): GDP measured using current prices without adjusting for inflation.

    • Real GDP (GDPR): GDP adjusted for inflation, measured using the prices from a base year.

    • Changes in quantities (Q) and prices (P) affect GDP:

      • If Q is unchanged and P is doubled:

      • GDP doubles, domestic income (DI) also doubles; purchasing power of DI remains unchanged.

      • If Q doubles and P is unchanged:

      • GDP and DI double, resulting in a double purchasing power of DI.

    • Situations where Q and P both change could lead to different purchasing power outcomes.

  5. The GDP Deflator

    • A measure of the level of prices of all new, domestically produced, final goods and services in an economy.

    • Formula:
      ext{GDP Deflator} = \frac{\text{Nominal GDP}}{\text{Real GDP}}

  6. Business Cycles and Potential GDP

    • Understanding the business cycle, which consists of phases:

      • Expansion: Increase in GDP.

      • Peak: Highest point before a downturn.

      • Contraction: Decrease in GDP.

      • Trough: Lowest point before recovery.

    • Potential GDP: The level of GDP attained when the economy is operating at full efficiency.

  7. The Merits and Limitations of GDP

    • Merits:

      • Comprehensive measure of economic activity.

      • Useful for international comparisons.

    • Limitations:

      • Does not account for non-market transactions.

      • Ignores income distribution.

      • Does not capture environmental degradation.

  8. The Causes and Consequences of Inflation

    • Inflation leads to a decrease in the purchasing power of money, affecting economic functions.

    • Causes of inflation can include demand-pull factors, cost-push factors, and built-in inflation.

  9. CPI as a Measure of Inflation

    • Consumer Price Index (CPI) tracks the changes in the price level of a basket of consumer goods and services.

    • It serves as a key economic indicator, reflecting inflation rates and cost of living.

Nominal versus Real GDP Calculations

Nominal GDP (at current prices)

  • GDP in 2021:

    • Calculated as:
      4 \times 100 + 12 \times 200 = 2800

  • GDP in 2022:

    • Calculated as:
      6 \times 140 + 15 \times 250 = 4590

Real GDP (at constant prices; base year: 2021)

  • GDP in 2021:

    • Same as nominal:
      4 \times 100 + 12 \times 200 = 2800

  • GDP in 2022:

    • Calculated as:
      4 \times 140 + 12 \times 250 = 3560

Growth Rates

  • Nominal growth rate: 64%

  • Real growth rate: 27%

Case Study: Turkey's GDP

  • GDP at Current Prices (in billions of lira):

    • 1994: 5.3

    • 1995: 10.7 (growth of 102% in nominal GDP)

  • Nominal GDP measures: Current prices; affected by changes in Q and P.

  • Real GDP at Constant Prices (in billions of lira):

    • 1994: 5.3

    • 1995: 5.7 (growth of 7.5% in real GDP)

GDP Deflator Example (Switzerland)

  • Formula for GDP deflator in 2021 and 2022:

    • For 2021:
      \text{Deflator}{2021} = \frac{\text{GDP}{2021}^N}{\text{GDP}_{2021}^R} = \frac{2800}{2800} = 1.00

    • For 2022:
      \text{Deflator}{2022} = \frac{\text{GDP}{2022}^N}{\text{GDP}_{2022}^R} = \frac{4590}{3560} = 1.29

Output Gap

  • Definition: The difference between actual GDP and potential GDP.

  • Negative Output Gap: Actual GDP < Potential GDP

    • Implications: Suggests weak demand for goods and services; higher unemployment risk.

  • Positive Output Gap: Actual GDP > Potential GDP

    • Implications: Suggests strong demand for goods and services; higher inflation risk.

  • Formula to calculate the output gap:
    \text{Output Gap} = \frac{\text{Actual GDP} - \text{Potential GDP}}{\text{Potential GDP}} \times 100

Conclusion

  • Topics covered include the economic circuit, methods of calculating GDP, the significance of nominal and real GDP, understanding inflation and its impacts, as well as the implications of the business cycle on economic performance.