The Gross Domestic
Product (GDP) and
National Accounting
GDP and National Accounting
Chapter 7 Vocabulary
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Nominal Gross
Domestic Product
(GDP)
Real GDP
Intermediate goods
Final goods
Disposable income
Closed economy
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Price index
Consumer price
index (CPI)
Per capita GDP
Expenditures
approach
Net exports
2
CIRCULAR FLOW MODEL
$ COSTS
$ INCOMES
RESOURCE
MARKET
RESOURCES
BUSINESSES
INPUTS
e.g. labor
GOVERNMENT
GOODS &
SERVICES
HOUSEHOLDS
GOODS &
SERVICES
PRODUCT
MARKET
$ REVENUE
3
$ CONSUMPTION
Creating the National Accounts
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The national accounts (GDP, National Income,
Personal Income, etc.) owe their creation to the Great
Depression. All government officials had were
scattered statistics: like railroad freight car loadings,
stock prices, and incomplete indexes of industrial
production.
Simon Kuznets developed a set of national income
accounts. The first version of these accounts was
presented to Congress in 1937 and in a research
report titled National Income.
The push to complete the national accounts came
during World War II, when policy makers were in even
more need of comprehensive measures of the
economy’s performance. The federal government
began issuing estimates of gross domestic product
and gross national product in 1942.
Gross Domestic Product
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Gross domestic product (GDP) is the
total market value of all the final
goods and services produced within
an economy (a country) in a given
year. (or the aggregate production
in an economy).
“Total market value” refers to the
quantity of goods multiplied by their
respective prices.
5
Capital Goods
Capital Goods
GDP and Growth on the PPC
Consumer Goods
Today’s new PPC
Consumer Goods
Future growth as a result of increase in productivity and
productive resources. The change in the PPC would
represent in increase in a nation's ability to increase GDP
production. And remember from Chapter 1, the GDP should
grow at 3.5% annually in the U.S. Approximately 2% of the
growth comes from increases in productivity and 1-1.5%
comes from an increase in productive resources (workers) 6
7
Why is GDP Important
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GDP is the most important statistical
measures of a nation’s prosperity and
economic growth
As GDP grows the burden of scarcity is
lessened for a society. A country has
more “stuff”.
GDP per capita provides the best
measure of economic well-being rather
than Nominal or Real GDP.
8
What’s NOT Included in the GDP
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Intermediate goods are excluded. They are goods that
are used in the production process. It is not the final
good or service. The totals for the intermediate goods
are assumed to be included in the price of the final good.
For example the cotton in a pair of blue jeans is NOT
included but rather is part of the cost of the new pair of
jeans.
Only newly produced goods are included in GDP (no
used goods). We only count goods produced during a
given year, so used goods have been previously counted.
Non-market Transactions (e.g. sales of stocks,
bonds, transfer payments, etc.). These activities involve
payments of money and not the production of
goods/services.
9
U.S. Real GDP, 1930-2003
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The graph shows that
real GDP has grown
substantially over this
period.
This is what
economists call
economic growth.
The current GDP for
the U.S. is
approximately $15
Trillion
•Economic Growth: sustained increases in the real
production of an economy over a long time. In the U.S., the
optimum rate of GDP growth is about +3.5% per year. In
China the GDP optimum GDP growth rate is about 8%.
10
The Components of GDP using the
Expenditure Model
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Economists divide GDP into four broad
expenditure categories:
1. Consumption expenditures: purchases by
consumers
2. Private (gross) investment expenditures:
purchases by firms + inventory changes +
depreciation (consumption of fixed capital) +
New Home Sales
3. Government purchases: purchases by federal,
state, and local governments.
4. Net exports: net purchases by the foreign
sector (domestic exports minus domestic
imports).
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The Expenditure Approach to
Computing GDP
GDP = C + Ig + G + Xn (or X – M)
The front and back covers of your textbook contain the
historical numbers for the data reflected above.
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Consumption (or Personal
Consumption) Expenditures
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Consumption expenditures are
purchases of currently produced goods and
services, either domestic or foreign.
Historically is has been 60+% of GDP, but in
reality it is now around 70%.
We can break down consumption into
durable goods, or goods that
typically last 3+ years (like large appliances);
nondurable goods that last for a short time
(like clothing, food, etc.); and services,
which reflect work done in which people play
a prominent role in delivery(lawyer,
manicure, etc.)
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Private Investment Expenditures
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Private (Gross) investment (Ig)
expenditures (15-20% of GDP)
includes:
1. Spending on new plants and
equipment.
2. Newly produced housing
(approximately 40% of investment
expenditures)
3. Additions to inventories during the
current year (goods produced but not
sold during a given year).
4. Depreciation of fixed capital
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Investment Expenditures (What is
Depreciation)
Total investment expenditures are called
gross investment.
During the year, some of the existing
plant, equipment, and housing will
deteriorate. This wear and tear is called
depreciation.
The true addition to the stock of capital of
the economy is net investment.
•Gross Investment =net investment +
depreciation (or Consumption of Fixed Capital)
15
Government Purchases
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Government purchases refer to
purchases of newly produced goods
and services by all levels of
government. (15-20% of GDP)
Transfer payments are funds paid to
individuals but not associated with
the production of goods and services.
These are excluded from GDP
computations. Consequently, a large
part of the federal government
budget is not part of GDP.
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Net Exports
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Imports (M) are goods we buy from
other countries. Exports (X) are goods
made here and sold to other countries.
Net exports (X – M) are total exports
minus total imports
• When we buy more goods from abroad than we
sell, we have a trade deficit (M > X)
• A trade surplus occurs when our exports
exceed our imports (X > M)
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Net Exports (Xn) has been a negative
number since the 70s
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Putting It All Together:
The GDP Equation
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Letting symbols C, Ig, G, Xn stand
for consumption, investment,
government purchases, and net
exports, respectively, we can write:
GDP = C + Ig + G + Xn
GDP = consumption + investment +
government purchases + net exports
18
GDP Statistics from Bureau of
Economic Analysis
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http://www.bea.gov/newsreleases/n
ational/gdp/2010/pdf/gdp1q10_2nd.
pdf
See page 5 of release.
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The Income Approach to
Computing GDP
(we will not use this approach)
You do not need to know this method of computing the GDP, but need
only be aware that this system exists. You can disregard any
references to this method in this chapter.
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Computing Disposable Income
from GDP
Other “National Income” accounts derived
from the GDP.
Table 7-4, Pg 125 in textbook
GDP
minus: consumption of fixed capital
(depreciation) equals
NDP (Net Domestic Product)
minus: Net Foreign Factor
minus: Indirect Business Taxes equals
NI (National Income)
21
Other National Income Accounting
Measurements (continued)
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NI (National Income)
- Undistributed corporate profits
- Social security contributions
- Corporate income Taxes
+ Transfer payments equals
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PI (Personal income)
- Personal taxes equals
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DI (Disposable income)
• How much spendable income the public
holds (and remember, the public needs
enough income to purchase 60-70% of
the GDP (C+I+G+(X-M)
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Nominal v. Real GDP
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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 an overall increase in prices.
Real GDP is current GDP measured with a
fixed dollar amount.
• Real GDP holds the value of the dollar
constant and is useful for making year to
year comparisons
Real GDP is the IMPORTANT ONE!!!
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Miracle in Venezuela?
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The South American nation of Venezuela has a
distinction that may surprise you: in recent
years, it has had one of the world’s fastestgrowing nominal GDPs. Between 1997 and 2007,
Venezuelan nominal GDP grew by an average of
28% each year—much faster than nominal GDP
in the United States or even in booming
economies like China.
So is Venezuela experiencing an economic
miracle? No, the inflation rate in Venezuela
during this 10 year period averaged 20-240%>
Miracle in Venezuela?
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No, it’s just suffering from unusually high
inflation. Currently, the inflation rate in
Venezuela is about 37%.
Nominal GDP
(billions of bolivars),
Real GDP (billions of
1997 bolivars)
VEB500,000
400,000
300,000
200,000
100,000
1997
1999
2001
2003
2005
2007
Year
Real GDP Versus Nominal GDP
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We can measure the change in prices over time using
an index number called the GDP deflator (or the GDP
Price Index). Keep in mind, the GDP index is an “Index”
(or number), not a dollar amount or a percent.
The formula for the GDP Index is:
100 X Price of market basket of goods in current year /
Price of market basket of goods in base year.
For Example: 100 X $20/$10 = 200
To find Real GDP:
Nominal GDP / GDP Deflator in 100ths or
$240/2.00 = $120
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Computing Real GDP
Real GDP =
Nominal GDP
Price Index (in 100ths)
Assume the Nominal GDP is $15 Billion
and the GDP Deflator is 103.
Real GDP =
$15 Billion
1.03
= $14.56 Billion
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GDP as a Measure of Welfare
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GDP is our best measure of the value of output
produced by an economy, but as a measure of
welfare, it has several recognized flaws that you
need to be aware of.
1. It ignores transactions that do not take place
in organized markets.
2. Leisure time is not included in GDP. Like a
shorter work week.
3. Ignores improvement in product quality
4. It ignores the underground economy.
5. It does not value changes in the environment
that occur in the production of output
(negative externalities)
6. It does not include population changes
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Per Capita GDP
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Per Capita GDP: Real GDP divided by
the population.
GDP figures are useful for obtaining an
estimate of the productive capabilities of
an economy but they do not necessarily
measure happiness or well being.
Per Capita GDP is the best measure of
economic progress
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Global GDP
• http://en.wikipedia.org/wiki/List_of_countri
es_by_GDP_%28nominal%29
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Per capita GDP
• http://en.wikipedia.org/wiki/List_of_countri
es_by_GDP_%28PPP%29_per_capita
30
Other Price Indexes
Consumer Price Index (CPI)
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All price indexes use the same formula, only the
market basket changes.
The CPI measures price changes for consumer
goods (whereas the GDP price index measures
ALL gods that comprise the GDP).
Market Basket of goods in
current year
CPI =
divided by
X 100
Market Basket of goods in a
base year
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The Producer Price Index (PPI) measures price
changes at the production level.
31
Consumer Price Index
Motor fuel
7%
Apparel
4%
Transportation
13%
Medical care
5%
Housing
40%
Recreation
5%
Education and
communication
6%
Other goods
and services
4%
Food and
beverages
16%