Economic Well Being
Agec 217, Summer 2007
Economic Well Being
• Macroeconomics
The study of the economy as a whole
Circular Flow Diagram (Mankiw)
Revenue
Goods
and services
sold
MARKETS
FOR
GOODS AND SERVICES
•Firms sell
•Households buy
Wages, rent,
and profit
Goods and
services
bought
HOUSEHOLDS
•Buy and consume
goods and services
•Own and sell factors
of production
FIRMS
•Produce and sell
goods and services
•Hire and use factors
of production
Factors of
production
Spending
MARKETS
FOR
FACTORS OF PRODUCTION
•Households sell
•Firms buy
Labor, land,
and capital
Income
= Flow of inputs
and outputs
= Flow of dollars
Copyright © 2004 South-Western
Economic Well Being
Macroeconomic Indicators
• Employment and Unemployment
• Income
• Wealth
• Inflation
• Stock market indices
• Interest rates
• Retirement solvency
• Output (GDP)
Economic Well Being
Economic Well Being
• Gross Domestic Product (GDP)
– The market value of all final goods and services
produced within a country in a given period of
time
• Final goods (intermediate goods not included)
• Produced within borders, by citizens or foreigners
• Time period: typically one year
GDP
• Gross Domestic Product = C + I + G + NX
C
I
G
NX




Consumption
Investment
Government Spending
Net Exports
Net Exports = Exports - Imports
GDP
• Per capita GDP
– Gross Domestic Product per person in a country
• Nominal GDP
– Uses prices in the year of the measurement
• Real GDP
– Uses prices for a “base” year to enable year to
year comparisons
GDP Values (US, 2001)
Total in
Trillions of
Dollars
$7.0
Percent of
Total
Investment (I)
$1.6
16%
Government Purchases (G)
$1.9
18%
Net Exports (NX)
-$0.3
-3%
Total
$10.1
100%
Consumption (C)
69%
Historical GDP
GDP Measured
• Assume a diet of Pizza and Soda
– 2005: 500 pizza slices and 300 sodas
• Prices: pizza = $1.00 and soda = $0.50
– 2006: 550 pizza slices and 330 sodas
• Prices: pizza = $1.10 and soda = $1.00
GDP Measured
• Nominal GDP’s
– 2005
• 500 * $1.00 + 300 * $0.50 = $650
– 2006
• 550 * $1.10 + 330 * $1.00 = $935
– Percent change = 44% growth
GDP Measured
• Real GDP’s (Base year = 2005)
– 2005
• 500 * $1.00 + 300 * $0.50 = $650
– 2006
• 550 * $1.00 + 330 * $0.50 = $715
– Percent change = 10% growth
GDP Measured
• GDP Deflator (measure of inflation) for base year
(Inflation: the percent increase in price level)
– Calculation
• Nominal GDP / Real GDP * 100
– 2005 (2005 base)
• GDP Deflator = ($650 / $650) * 100 = 100
– 2006 (2005 base)
• GDP Deflator = ($935 / $715) * 100 = 131
GDP Measured
• Using the deflator
– Calulation
• Nominal GDP / GDP Deflator * 100 = Real GDP
– 2006
• ($935 /131) * 100= $715
GDP
• Recession: Two quarters of declining real GDP
• Depression: A severe or long recession
GDP
• Recession: Negative % change in real GDP for
two consecutive quarters
% Change GDP =
(Current Period GDP – Previous Period GDP) *100
-------------------------------------------------------Previous Previous GDP
GDP rationale
• Real GDP per capita is a measure of income
and buying power in an economy. It measures
our ability to produce the items we need and
desire.
• Recessions as measured by GDP often arrive
with stock market drops beforehand and
higher unemployment afterwards.
Critiques of GDP
• Household Income and GDP
Critiques of GDP
• Consumer Confidence Index (Conference
Board): Is it predictive of actual conditions?
–
–
–
–
–
1. Current business conditions.
2. Business conditions for the next six months.
3. Current employment conditions.
4. Employment conditions for the next six months.
5. Total family income for the next six months.
• Frogs in water
Critiques of GDP
• Human Development Index
– Life Expectancy
– Education (literacy and enrollment)
– GDP
http://en.wikipedia.org/wiki/Human_Development_Index
Critiques of GDP
• Human Development Index
Critiques of GDP
• What we spend money on is not always
positive (car accident).
• GDP does not include how much time we
spend on labor
• Some of production has environmental
impacts, for which the costs are not always
measured
Summary
• GDP is comparatively easy to measure and
consistently used to determine a country’s
overall economic health as it has links to many
measures of well being. However, GDP may
not capture all aspects of well being that are
important to a nation’s citizens.