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EC 111 Week 5 Notes

by: Matt Cutler

EC 111 Week 5 Notes Econ 111

Matt Cutler
GPA 4.0

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About this Document

Covers GDP, and Consumer Price Index
Kent 0. Zirlott
Class Notes
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This 3 page Class Notes was uploaded by Matt Cutler on Sunday February 21, 2016. The Class Notes belongs to Econ 111 at University of Alabama - Tuscaloosa taught by Kent 0. Zirlott in Fall 2016. Since its upload, it has received 21 views.


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Date Created: 02/21/16
GDP Monday, February 8, 2016 3:34 PM • Gross Domestic Product- measures total income of everyone in the economy ○ GDP also measures total expenditure on the economy's output of Goods and services ○ INCOME=Expenditures 1. GDP a. The market value of all final goods and services produced within a country within a given time. i. Goods are valued at their market prices, so: 1) All goods measured in the same units ii. Final goods: included: intended for the end user iii. Intermediate goods: not counted: used as components or ingredients in the production of other goods. To avoid double counting b. Includes i. Final goods ii. Tangible goods (DVDs, mountain bikes, beer) iii. Intangible services (dry cleaning, concerts, cell phone service) iv. Currently produced goods, not goods produced in the past v. Measures the value of production that occurs within a country's borders, whether done by its own citizens or by foreigners located there. vi. Calculated by year and by quarter c. Components of GDP i. Consumption "C" 1) Total spending by households on goods and services 2) Largest component of GDP, Includes Rent and homeowners ii. Investment (I) 1) Total spending on goods that will be used in the production of other goods Investmentdoes not include stocks,bonds, or mortgages 2) i.e. capital equipment, structures because they are not physical goods ( they are deeds of 3) Inventories (goods produced but not yet sold) (only counts when its going in) ownerships) 4) Houses that are brand new, never been lived in iii. Government Purchases (G) 1) Spending on goods and services purchased by the government at the federal, state, and local levels. 2) Excludes transfer payments, such as social security or unemployment insurance benefits. iv. Net Exports (NX) 1) Exports minus Imports Recession- When GDP is falling for 2 consecutivequarters 2. Real versus Nominal GDP a. Nominal GDP: values output using current prices. It is not corrected for inflation i. Current quantity times current price b. Real GDP: values output using the prices of a base year (prices are not changing). Real GDP is corrected for inflation To calculate percentage change=(New-Old)/Old i. BASE YEAR WILL BE GIVEN ii. Base year price times current year quantity 3. The GDP Deflator a. Measure of the overall level of prices b. =nominal gdp divided by real GDP * 100 GDP deflator for the base year will always be 100 c. Percentage increase in gdp deflator measures inflation rate 4. GDP and Well-being a. Real GDP per capita is the main indicator of the average person's standard of living b. But GDP is not a perfect measure of well-being i. GDP does not value: 1) The quality of the environment 2) Leisure time 3) Non-market activity, such as child care a parent provides his or her child at home 4) An equitable distribution of income c. Having a large GDP enables a country to afford better schools, a cleaner environment, health care, etc. d. Lots of indicators of quality of life are positively correlated with GDP: i. Life expectancy ii. Literacy iii. Internet usage and Technology EC 111 Page 1 Consumer Price Index (CPI) Wednesday, February 17, 2016 3:53 PM 1. CPI a. Measures the typical consumer's cost of living b. The basis of cost of living adjustments(COLAs) in many contracts and in Social Security 2. How is it Calculated a. 5 Steps (must be in order) i. Fix the "basket" 1) The Bureau of Labor Statistics (BLS) surveys consumers to determine what's in the typical consumer's "shopping basket" ii. Find the prices 1) The BLS collects data on the prices of all the goods in the basket iii. Calculate the basket's cost 1) Use the prices to compute the total cost of the basket iv. Choose a base year and compute the index 1) The CPI in any year equals: 2) (Cost of basket in current year/Cost of basket in base year) * 100 v. Compute the inflation rate 1) The percentage change in the CPI from the preceding period equals: 2) Inflation rate = ((CPI this year - CPI Last year)/ CPI last year))*100 3. Problems with the CPI: a. SubstitutionBias i. Over time, some prices rise faster than others ii. Consumers substitute towards goods that become relatively cheaper iii. The CPI misses this substitutionbecause it uses a fixed basket of goods iv. Thus, the CPI overstates increases in the cost of living b. Introductionof New Goods i. The introductionof new goods increases variety, allows consumers to find products that more closely meet their needs ii. In effect, dollars become more valuable iii. The CPI misses this effect because it uses a fixed basket of goods. iv. Thus, the CPI overstates increases in the cost of living c. Unmeasured Quality Change (New Car) i. Improvementsin the quality of goods in the basket increase the value of each dollar ii. The BLS tries to account for quality changes but probably misses some, as quality is hard to measure. iii. Thus the CPI overstates increases in the cost of living ○ Each of these problems causes the CPI to overstate cost of living increases. ○ The BLS has made technical adjustments,but the CPI probably still overstates inflation by about .5 percent each year ○ This is important because Social Security payments and many contracts have COLAs tied to the CPI… could result in a billion dollar difference 4. Contrasting the CPI and GDP Deflator (BOTH MEASURE INFLATION) a. Imported consumer goods: i. Included in CPI i. Included in CPI ii. Excluded from GDP deflator b. Capital goods (investment goods) i. Excluded from CPI ii. Included in GDP deflator (if produced domestically) c. The Basket: i. CPI uses fixed basket ii. GDP deflator uses basket of currently produced goods and services 1) This matters if different prices are hanging by differentamounts 5. Comparing dollar figures from Differenttimes a. Amount in today's dollars= Amount in year T dollars * (price level today/ Price level in year T) 6. Indexation a. A dollar amount is indexed for inflation if it is automatically corrected for inflation by law or in a contract b. For example, the increase in the CPI automatically determines i. The COLA in many multi-year labor contracts ii. The adjustmentsin Social Security payments and federal income tax brackets 7. Real vs. Nominal Interest rates a. Nominal Interest rate: i. Not corrected for inflation ii. The rate of growth in the dollar value of a deposit or debt b. Real interest rate: i. Corrected for inflation ii. The rate of growth in the purchasing power of a deposit or debt ○ Real interest rate (REAL RATE OF GROWTH) = (Nominal interest rate) - (Inflation rate) • BEA (Beauro of economic analysis) inside the departmentof commerce calculates GDP • BLS calculates CPI


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