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Macroeconomics Textbook Notes Chapter 4

by: Sophomore Notetaker

Macroeconomics Textbook Notes Chapter 4

Marketplace > Washington University in St. Louis > > Macroeconomics Textbook Notes Chapter 4
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Principles of Macroeconomics 6th Edition by Robert Frank (Author), Ben Bernanke (Author), Kate Antonovics (Author), Ori Heffetz (Author)
Class Notes
Microeconomic, business, Economics
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Date Created: 08/15/16
Chapter 4 Book Notes Gross Domestic Product (GDP)  Market values provide a convenient way to add together, or aggregate the many different  goods and services produced in a modern economy  Market prices for publicly provided goods and services do not exist; economic  statisticians add to the GDP the costs of providing those goods and services as rough  measures of their economic value o Example: publicly provided goods are not sold in markets such as goods and  services provided by the government­ public education o Example: to include public education into GDP, the salaries of teachers and  administrators, the cost of textbooks are added for economic value  Only final goods and services are included in GDP; intermediate goods and services are  not included  Capital goods produce other goods (so not a final good) and are not used up in the  production process, except over a long period of time (so not an intermediate good) o Examples: factories, machinery, houses, apartment buildings  Summing the value added by all firms (including producers of both intermediate final  goods and services) gives the same answer as simply adding together the value of final  goods and services o Eliminates the problem of dividing the value of a final good/service between 2  periods  The word domestic in the term gross domestic product tells us that GDP is a measure of  economic activity within a given country  o Only production that takes place within the country’s borders is counted  Only measures the amount of production during a given period (calendar year)  Example: a 20­yr old house is sold to a family for $200,000. The family pays the real  estate agent $12,000 for commission. The contribution to GDP is only the $12,000  because the value of the house was already included in the GDP 20 years earlier, when  the house was built. The services were provided this year so they are counted.  Expenditure Method for Measuring GDP  User of final goods and services that make up GDP (4):  Households  Firms  Governments  Foreign sector (foreign purchasers of domestic products)  Amounts that purchasers spend on various goods and services should be equal to the  market values of those goods and services  GDP can be measured by 2 methods:  Adding up the market values of all goods and services that are produced  domestically  Adding up the total amount spent by each of the 4 groups on final goods and  services and subtracting spending on imported goods and services  4 components of expenditure:  consumption (households consume) (70%)  investment (firms invest)  government purchases (govt. make govt. purchases) (20%)  net exports (foreign sector buys the nation’s exports)  Consumption: spending by households on goods and services such as food, clothing and  entertainment   Consumer durable goods are long­lived consumer goods such as cars and  furniture (new houses not treated as consumer durables but as part of investment)  Consumer nondurable goods are shorter­lived goods like food and clothing  Services is the largest single component of consumer spending and includes  everything from haircuts and taxi rides to legal, financial, and educational  services     Investment: spending by firms on final goods and services, primarily capital goods Business fixed investment is the purchases by firms of new capital goods such as  machinery, factories, and office buildings  Long­lived capital goods are treated as final goods and services rather  than as intermediate goods for purposes of calculating GDP  Firms buy capital goods to increase their capacity to produce Residential investment is construction of new homes and apartment buildings  Homes and apartments (residential capital) are capital goods  Residential investment is treated as an investment by the business sector,  which sells homes to households Inventory investment is the addition of unsold goods to company inventories  The goods that a firm produces but doesn’t sell during the current period  are treated as if the firm had bought those goods from itself (guarantees  that production = expenditure)   Can be positive or negative, depending on whether the value of inventories rises or falls over the course of the year     Government Purchases: final goods and services bought by the federal, state and local  governments  does not include transfer payments, which are payments made by the govt. in  return for which no current goods/services are received  Examples: social security, unemployment benefits, pensions paid to govt.  workers, and welfare payments Doesn’t include interest paid on the govt. debt      Net Exports = (exports) – (imports) Exports are domestically produced final goods and services that are sold abroad Imports are purchases by domestic buyers of goods and services that were  produced abroad  Since imports are included in consumption, investment, and govt.  purchases but do not represent spending on domestic production, they  must be subtracted  A country’s net exports reflect the net demand by the rest of the world for its  goods and services Net exports can be negative, since imports can exceed exports in any given year    Relationship between GDP and expenditures on goods and services                                                  Y = C + I + G + NX Y = gross domestic product (output) C = consumption expenditure I = investment G = government purchases NX = net exports  GDP can be though as a measure of total production or as a measure of total expenditure o Incomes of capital and labor  GDP = labor income + capital income      (measured prior to payment of taxes) o Labor income (2/3 of GDP) comprises wages, salaries and the incomes of the self­ employed o Capital income (1/3 GDP) is made up of payments to owners of physical capital  (such as factories, machines, and office buildings) and intangible capital (such as  copyrights and patents)  Include items such as profits earned by business owners, the rents paid to  owners of land or buildings, interest received by bondholders, and the  royalties received by the holders of the copyrights or patents  3 faces of GDP: o market value of production o total expenditure  o total income Nominal GDP vs. Real GDP  GDP is a misleading gauge of economic growth during a president’s term, since the  physical quantities of the goods and services produced in any given year, not the dollar  values, are what determines people’s economic well­being o If prices had risen 2.4 times between a 2009 and 2013 with no changes in  quantities produced, GDP would have risen 2.4 times as well, with no increase in  physical production. The claim that the economy’s (physical) output had more  than doubled is obviously wrong  Need to measure GDP at different points in time, so need a method for calculating GDP  that excludes the effects of price changes (need a way for adjusting GDP for inflation) –  do this by using a common set of prices to value quantities produced in different years  Pick a particular year (base year) and use the prices from that year to calculate the market value of output  Real GDP – when GDP is calculated using the prices from a base year, rather than the  current year’s prices (indicates a measure of physical production)  o GDP adjusted for inflation  Nominal GDP – to distinguish real GDP, in which quantities produced are valued at base­ year prices, from GDP valued at current­year prices  Nominal GDP will be less than real GDP if prices during the current year are less than  the prices during the base year (generally the case when the current year is earlier than  the base year)  Real GDP can be greater than nominal GDP­ for example: when a country experiences  economic growth and falling prices (deflation) at the same time Real GDP and Economic Well­Being  Increase in real GDP doesn’t promote economic well being  NOT RELATED TO ECONOMIC WELL_BEING  Leisure Time – increased leisure time available to workers in U.S. and other  industrialized countries – allows them to pursue many worthwhile activities, such as  being with family and friends – is a major benefit of living in a wealthy society  o These extra hours of leisure are not priced in markets, and therefore not reflected  in GDP  Nonmarket economic activities – unpaid services o There are no market prices and quantities for unpaid services, estimating market  values are difficult o Underground economy – transactions never reported to govt. – legal/illegal  Babysitting jobs  Organized crime  Paying people in cash  Environmental Quality and Resource Depletion – benefits of environmental quality and  resource conservation are hard to measure in dollars o Ex: China has recently had big growth in GDP, but has also suffered a decline in  air and water quality, which detracts from quality of life  Quality of Life – examples: low crime rate, minimal traffic congestion, open space  Poverty and Economic Inequality – doesn’t capture effects on inequality, or the economic situations of people living there o Ex: 2 places have same GDP, one might be equal distribution of incomes, while  the other might have a few wealthy families controlling GDP, but the rest of  people are poor  RELATED TO ECONOMIC WELL­BEING  Availability of Goods and Services – citizens with a higher GDP are likely to possess  more and better goods and services  Health and Education – GDP per person in the countries with very high human  development is roughly 20 times that of the countries with low human development o Lower GDP’s = lower life expectancies, higher mortality rates, less schooling


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