Chapter 24 – Measuring
Domestic Output and National
Income
Gross Domestic Product (GDP)
• GDP is the primary measure of the
economy’s performance
• GDP is the market value of all final goods
and services produced within a nation in a
year (Dodge, 2005).
• GDP measures Aggregate Spending,
Income and Output.
Counted or Not Counted?
• GDP counts all final, domestic
production for which there is a market
transaction in that year.
• Used and intermediate goods are not
counted in order to avoid doublecounting.
• Non-market production is not counted.
• Underground or ‘black market’ activity
is not counted.
Nonproduction transactions
• If there is no production – the
transaction is excluded
• Financial transactions – transfer
payments (social security, welfare…)
• Private transfer payments – money for
your birthday…
• Stock market transactions – they are a
swap and create no production
Counted or Not Counted?
• Which of the following are counted or not
counted in U.S. GDP and why?
– New U.S. manufactured Goodyear tire sold to the
General Motors Corporation
– New U.S. manufactured Goodyear tire sold to a
consumer
– Child care services provided by you for the neighbor’s
kid
– The ingredients to a cherry pie for sale at a bakery
– A new Boeing 787
– New Tundra pick-up truck manufactured in San Antonio
by Japanese firm Toyota
– You pay your stock broker to purchase 20 shares of
GOOGLE stock
Aggregate Spending
The expenditure approach
• GDP = C + IG + G + XN
• C = Consumption
• IG = Gross Private Investment
• G = Government Spending
• XN= Net Exports
= Exports (X) – Imports (M)
Consumption
• Consumer spending on
– Durable goods (cars, appliances…)
– Non-durable goods (food, clothing…)
– Services (plumbing, college…)
• Consumer spending is the largest
component of U.S. GDP.
Gross and Net Private
Investment
• Gross Investment is spending in order to increase
future output or productivity
– Business spending on capital
– New construction
– Change in unsold inventories
• Net Investment
Gross investment minus depreciation (capital
used up over the course of the year)
If depreciation is more than gross investment, it is
called disinvesting
Government Spending
• All levels of government spending on
final goods and services and
infrastructure count toward GDP.
• Remember!! - Government transfer
payments do not count toward GDP.
Net Exports
• Exports – Imports
•X–M
• Exports create a flow of money to the
United States in exchange for domestic
production.
• Imports create a flow of money away
from the United States in exchange for
foreign production.
Aggregate Income
Income approach
• GDP measures spending and income.
• Income = r + w + i + p = factor payments
• r = rent (payment for natural resources)
• w = wages (payment for labor – largest share of national
income)
• i = interest (payment for capital, also includes interest on
savings)
• p = corporate profits (payment for entrepreneurship –
dividends, corp income tax, undistributed corp profit –
also call retained earnings)
Figure 24.3 page 496
• Review this figure
• US domestic output and the flows of
expenditures and income
Nominal vs. Real GDP
• Nominal GDP is current GDP measured at current
market prices
– Nominal GDP may overstate the value of production
because of the effects of inflation or understate due to
deflation
• Real GDP is current GDP measured with a fixed
dollar
– You must deflate GDP when prices rise and inflate GDP
when prices fall **KEY POINT**
– Use a reference year to do this
– Real GDP holds the value of the dollar constant and is
useful for making year to year comparisons
• Real GDP is the IMPORTANT ONE!!!
CPI compared to the GDP deflator
Link to Video
The adjustment process
• Consumer Price Index – market basket
of goods (collection of goods and
services in a given year compared to
an identical collection in the reference
year)
• PI = (price of the market basket in a specific
year/price of the same basket in the base year) x
100
• cpi video
• Real GDP = nominal GDP/Price index (in 100s)
• Work through table 24.5 and worked problem
Changes in GDP
• GDP is a measure of a nation’s prosperity
and economic growth
• As GDP grows the burden of scarcity is
lessened for a society
• GDP per capita provides a better measure
of individual well-being than GDP
Shortcomings of GDP
• Nonmarket activities – except the portion of a
farmers output that he consumes is estimated and
included
• Leisure time, although increased in the last century,
is ignored
• Improved product quality – this improves economic
well being but this is not reflected
• Underground economy – this includes tips, off the
books or cash transactions, barters
• Environment – air pollution, water, etc. not counted
so GDP may over state our national well being
• Composition/distribution of GDP is not revealed
(nuclear waste)
• GDP doesn’t measure total well being – crime, war,
reduction of addictive goods