Chapter 9. Gross Domestic Product

Chapter 9Gross Domestic Product9-1Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Chapter ObjectivesWhat is GDP?How is GDP measured?What are the national income accounts?What is the difference between GDP and real GDP?How does our GDP compare to those of other nations?How is per capita GDP calculated?What are the shortcomings of GDP as a measure of national economic well-being?9-2Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.GDP is the nation’s expenditures on all FINAL goods and services produced during the year at market prices. What Is GDP?9-3Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.9-4ConsumptionDurable goods $ 820Nondurable goods .. 2,010Services .. 3,929Total C .$6,759InvestmentPlant & Equipment .$ 1,361Residential Housing 416Inventory change . 57Total I .1,834Government PurchasesFederal .$ 595State and Local . .1,148Total G ..$1,743 Net Exports (Xn)Exports .$ 1,099Imports ..- 1,466Xn $ - 370GDP $9,966The Components of GDP, 2000 (in $ billions)Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.9-5ConsumptionDurable goods $ 820Nondurable goods .. 2,010Services .. 3,929Total C .$6,759InvestmentPlant & Equipment .$ 1,361Residential Housing 416Inventory change . 57Total I .1,834Government PurchasesFederal .$ 595State and Local . .1,148Total G ..$1,743 Net Exports (Xn)Exports .$ 1,099Imports ..- 1,466Xn $ - 370GDP $9,966The Components of GDP, 2000 (in $billions)GDP = C + I + G + XnGDP =6,759+1,834+1,743+(-370)GDP = 9,966Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.How GDP Is Measured?HouseholdsFirms$$Income (wages, salary, rent, interest, profits) Expenditures by Consumers, Investors, Government, and Net Exports9-6Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.How GDP Is Measured?HouseholdsFirms$$Income (wages, salary, rent, interest, profits) Expenditures by Consumers, Investors, Government, and Net Exports9-7Same AsCopyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.How GDP Is Measured?HouseholdsFirms$$Income (wages, salary, rent, interest, profits) Expenditures by Consumers, Investors, Government, and Net Exports9-8Same AsValue of what is producedValue of what is spentCopyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.How GDP Is Measured?HouseholdsFirms$$Income (wages, salary, rent, interest, profits) Expenditures by Consumers, Investors, Government, and Net Exports9-9Same AsValue of what is producedValue of what is spentFlow of Income ApproachExpenditures ApproachCopyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.How GDP Is Measured?HouseholdsFirms$$Income (wages, salary, rent, interest, profits) Expenditures by Consumers, Investors, Government, and Net Exports9-10Same AsValue of what is producedValue of what is spentFlow of Income ApproachExpenditures Approach (GDP = C + I + G + Xn )Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.9-11Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.C, I, and G as Percentages of GDP, 1979-2000Consumption has consistently been between 60 and 70% of our GDP, with a slow upward trend over this period. [C + I + G add up to more than 100% because Xn is negative.]9-12Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Global Breakdown of GDP Expenditures for Select Countries, 2000The Flow of Income Approach(Most Complex)9-13 Consumption + Investment + Government Spending + Net Exports GDP (Gross Domestic Product) - Depreciation NDP (Net Domestic Product)Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.The Flow of Income Approach9-14 GDP (Gross Domestic Product) - Depreciation NDP (Net Domestic Product)Why is NDP better than GDP?Country North Atlantis South Atlantis GDP 500 500- Depreciation 50 100 NDP 450 400North Atlantis is better because it had a higher NDP! South Atlantis had a lower NDP because it had to devote more of its resources to replacing worn out and obsolete equipment. These resources could not go toward additional plant & equipment nor could they even be used for more consumer goods. Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.The Flow of Income Approach9-15 GDP (Gross Domestic Product) - Depreciation NDP (Net Domestic Product) - Indirect business taxes and subsidies DI (Domestic Income)Indirect business taxes and subsidies are mainly general sales taxes on specific items such as gasoline, liquor and cigarettes and subsidies (such as government payments to farmers).Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved. GDP (Gross Domestic Product) - Depreciation NDP (Net Domestic Product) - Indirect business taxes and subsidies DI (Domestic Income)9-16The Flow of Income ApproachDistribution of Domestic Income (2000)Wages, salaries & fringes .70.4%Net Interest 7.0%Proprietor’s Income .. 8.8%Corporate Profits .. 12.0%Rent .. 1.8%Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved. GDP (Gross Domestic Product) - Depreciation NDP (Net Domestic Product) - Indirect business taxes and subsidies DI (Domestic Income) - Earnings not received + Receipts not earned PI (Personal Income)9-17The Flow of Income ApproachEarnings not received are almost all Social Security taxes and corporate profits that were not paid out as dividendsCopyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved. GDP (Gross Domestic Product) - Depreciation NDP (Net Domestic Product) - Indirect business taxes and subsidies DI (Domestic Income) - Earnings not received + Receipts not earned PI (Personal Income)9-18The Flow of Income ApproachReceipts not earned are mainly Social Security benefits and other government transfer payments, and interest incomeCopyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.9-19Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.National Product and Income, 20009-20The Flow of Income Approach GDP (Gross Domestic Product) - Depreciation NDP (Net Domestic Product) - Indirect business taxes and subsidies DI (Domestic Income) - Earnings not received + Receipts not earned PI (Personal Income)Personal taxes are chiefly personal income taxesCopyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.9-21The Flow of Income Approach GDP (Gross Domestic Product) - Depreciation NDP (Net Domestic Product) - Indirect business taxes and subsidies DI (Domestic Income) - Earnings not received + Receipts not earned PI (Personal Income)Disposable Personal Income is ours to dispose of, to spend and save as we see fitCopyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.9-22The Flow of Income Approach GDP (Gross Domestic Product) - Depreciation NDP (Net Domestic Product) - Indirect business taxes and subsidies DI (Domestic Income) - Earnings not received + Receipts not earned PI (Personal Income) - Personal taxes DPI (Disposable Personal Income)The “red” indicates the three main parts of the “Flow of Income” approach to GDPCopyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.9-23The Flow of Income Approach GDP (Gross Domestic Product) (+) - Depreciation NDP (Net Domestic Product) (+) - Indirect business taxes and subsidies DI (Domestic Income) (+) - Earnings not received (-) + Receipts not earned PI (Personal Income) (+) - Personal taxes DPI (Disposable Personal Income)If we start with “DPI” and work up - the signs have to be changed!Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Two Things to Avoid when Compiling GDPMultiple countingOnly expenditures on final products – what consumers, businesses, and government units buy for their own use belong in GDPIntermediate goods are not countedUsed goods are not countedTransfer paymentsTransfer payments are not payments for currently produced goods and servicesWhen they are spent for final goods and services they will go into GDP as consumer spendingFinancial transactions don’t go into GDP9-24Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.9-25The Value-added Approach to Measuring GDP Production Generated AddedFarmer harvest wheat $100 $100 Miller makes into flour 200 100Baker makes into bread 300 100 $600 $300GDP counts only the $ value of the final goodThis is the same as the “value-added.”Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.GDP Versus Real GDP (RGDP)$8$9$10$11 1998 1999 2000 2001GDP is the Price RGDP is the pieGDP is measured in current dollars. Therefore it appears as if GDP was larger in 2001 than in previous years. To make year-to-year GDP comparisons, we have to get rid of inflation 9-26Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Deflating GDP to Get RGDPRGDPcy = GDPcy X --------------------------GDP DEFLATORcy GDP DEFLATORby9-27Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Deflating GDP to Get RGDPRGDPcy = GDPcy X --------------------------GDP DEFLATORcy GDP DEFLATORby9-28RGDP 86 = 4422.2 X ------------------------------------ 100 80.6Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Deflating GDP to Get RGDPRGDPcy = GDPcy X --------------------------GDP DEFLATORcy GDP DEFLATORby9-29RGDP 86 = 4422.2 X ------------------------------------ 100 80.6RGDP 86 = 4422.2 X 1.2406948 Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Deflating GDP to Get RGDPRGDPcy = GDPcy X --------------------------GDP DEFLATORcy GDP DEFLATORby9-30RGDP 86 = 4422.2 X ------------------------------------ 100 80.6RGDP 86 = 4422.2 X 1.2406948 RGDP 86 = 5486.6Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.9-31Deflating GDP to Get RGDPRGDP97 = GDP97 X --------------------------GDP DEFLATOR byGDP DEFLATOR 97Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.9-32Deflating GDP to Get RGDPRGDP97 = GDP97 X --------------------------GDP DEFLATOR byGDP DEFLATOR 97RGDP 97 = 8083.4 X ----------------------------------------`100115.2Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.9-33Deflating GDP to Get RGDPRGDP97 = GDP97 X --------------------------GDP DEFLATOR byGDP DEFLATOR 97RGDP 97 = 8083.4 X ----------------------------------------`100115.2RGDP 97 = 8083.4 X .8680556Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.9-34Deflating GDP to Get RGDPRGDP97 = GDP97 X --------------------------GDP DEFLATOR byGDP DEFLATOR 97RGDP 97 = 8083.4 X ----------------------------------------`100115.2RGDP 97 = 8083.4 X 8680556RGDP 97 = 7016.8Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.9-35Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.GDP and Real GDP(in 1992Dollars), 1960-2000Calculating Percentage Changes9-36% change = ------------------------------------ChangeOriginal NumberCopyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Calculating Percentage Changes9-37% change = ------------------------------------ChangeOriginal Number1980 GDP = 2784.21979 GDP = 2557.5Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Calculating Percentage Changes9-38% change = ------------------------------------ChangeOriginal Number1980 GDP = 2784.21979 GDP = 2557.5Change -----> 226.7Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Calculating Percentage Changes9-39% change = ------------------------------------ChangeOriginal Number1980 GDP = 2784.21979 GDP = 2557.5Change -----> 226.7 % change = --------------------226.72557.5Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Calculating Percentage Changes9-40% change = ------------------------------------ChangeOriginal Number1980 GDP = 2784.21979 GDP = 2557.5Change -----> 226.7 % change = --------------------226.72557.5% change = .0886413 = 8.8%Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Calculating Percentage Changes9-41% change = ------------------------------------ChangeOriginal Number1980 GDP = 2784.21979 GDP = 2557.5Change -----> 226.7 % change = ---------------------226.72557.5% change = .0886413 = 8.8%1980 RGDP = 4611.91979 RGDP = 4624.0Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Calculating Percentage Changes9-42% change = ------------------------------------ChangeOriginal Number1980 GDP = 2784.21979 GDP = 2557.5Change -----> 226.7 % change = ---------------------226.72557.5% change = .0886413 = 8.8%1980 RGDP = 4611.91979 RGDP = 4624.0Change ------> 12.9Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Calculating Percentage Changes9-43% change = ------------------------------------ChangeOriginal Number1980 GDP = 2784.21979 GDP = 2557.5Change -----> 226.7 % change = ---------------------226.72557.5% change = .0886413 = 8.8%1980 RGDP = 4611.91979 RGDP = 4624.0Change ------> 12.9% change = -------------------------12.94624.0Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Calculating Percentage Changes9-44% change = ------------------------------------ChangeOriginal Number1980 GDP = 2784.21979 GDP = 2557.5Change -----> 226.7 % change = -------------------226.72557.5% change = .0886413 = 8.8%1980 RGDP = 4611.91979 RGDP = 4624.0Change ------> 12.9% change = -------------------------12.14624.0% change = .0026168 = .26 %Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Trillion Dollar Economies, 20009-45Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Per Capita GDP9-46Per capita GDP = ---------------------------------GDPPopulationCopyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Per Capita GDP9-47Per capita GDP = --------------------------------GDPPopulation2000020002000Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Per Capita GDP9-48Per capita GDP = --------------------------------GDPPopulation2000020002000Per capita GDP = --------------------------------$9,966,000,000,000281,000,000Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Per Capita GDP9-49Per capita GDP = --------------------------------GDPPopulation2000020002000Per capita GDP = --------------------------------$9,966,000,000,000281,000,000Per capita GDP = $35,4662000020000Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Per Capita Real GDP9-50Per capita real GDP = --------------------------------Real GDPPopulationTo compare per capita GDP in one year with that of another year we have to correct for inflation. In other words, we really need to revise our formulaCopyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.9-51Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Per Capita Real GDP, Selected Years, 1929-2000Year Per Capita Real GDP 1929 $ 9,087 1939 8,566 1949 11,566 1959 18,813 1969 17,934 1979 22,707 1989 25,231 2000 35,466 9-52Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Per Capita GDP of the 10 Leading nations, 2000 International comparisons for per capita GDP are at least somewhat suspect because of varying national income accounting systems as well as fluctuations of foreign exchange ratesThe Cost of Living in the United States and Russia: An Alternate Comparison9-53 Good U. S. RussiaSugar, per pound 3 minutes 29 minutesBread, per pound 5 minutes 14 minutesMilk, half-gallon 9 minutes 1 hour, 10 minutesSausage, per pound 12 minutes 2 hours, 27 minutesGasoline, per gallon 8 minutes 1 hour, 16 minutesTelevision, average 6 days 71 daysMinutes of work required in 1994 to pay for selected goods in the United States and RussiaCopyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.Shortcomings of GDP as a Measure of National Economic Well-beingProduction that is excludedHousehold productionIllegal productionThe underground economyTreatment of leisure timeHuman cost and benefitsGDP gives us a ballpark idea of how much we produce, not necessarily how well off we are9-54Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.James Tobin and William Nordhaus: A Measure of Economic WelfareWhat Goes into GDP9-55GDPThe economic badsThe regrettable necessitiesHousehold, unreported, and illegal productionA Measure of Economic Welfare --+Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.When a large part of our production goes toward national defense, police protection, pollution control devices, repair and replacement of poorly made cars and appliances, and cleanups of oil spills, a large GDP is not a good indicator of how we’re doingIn general, the problem with using GDP as a measure of national economic well-being is that GDP is just one number, and no single number can possibly provide us with all of the information we need What Goes Into GDP9-56Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.The Last Word on GDPGDP includes some things that really shouldn’t be countedGDP has excluded some things that should be includedIf we can accept GDP, while acknowledging all of its limitations, it serves us well9-57Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved.