GDP and Business Cycles
Macroeconomics Measurements
Non Sequitur by Wiley Miller
National Income Accounting
 Statistics that are used to:
 Assess the economic health at regular
intervals
 Allows the long-run course of an economy
by comparing years
 Make policies that will improve economic
problems
Major tool used is Gross Domestic Product
Gross Domestic Product
 GDP = the value of all final goods and
services produced in a given year in the
nation
 Includes all domestic production in a
nation (regardless of ownership)
 Monetary measurement of value
 To avoid multiple counting – must include
ONLY new production (sold to consumers)
Gross Domestic Product
 Does NOT include:
 intermediate goods (ex: tires for new auto)
 public transfer payments (welfare
payment)
 private transfer payments (cash gifts)
 stock market transactions (stocks &
bonds)
 secondhand sales (used books, cars,
homes)
Gross Domestic Product
 2 ways to calculate: Expenditure & Income
Methods
 Expenditure Method – count all new goods
& services that are purchased by:
consumers, businesses, government, &
net exports (X – M = Xn)
 Expenditure = C + Ig + G + Xn
GDP – Income Method
 Income Method – count all earnings
received by those who produce the
goods & services
 Workers, owners of property, interest
earned on savings, profit earned by
business owners (proprietors, partners
& corporation stockholders)
 Requires some accounting adjustments
Expenditures = Income (must balance)
GDP – Income Method
 W = employee compensation
 R = rent received for use of property
 I = Interest received for use of money
 P = profits received by proprietors &
corporation owners (income taxes,
dividends, & undistributed profits
(retained earnings)
 Adds up to: National Income
GDP – Income Method
 Adjustments needed: Expenditures =
Income (must balance)
 National income = all American supplied
resources (here & abroad)
 Must ADD 3 items:
 Indirect Business Taxes (sales, excise,
property, customs duties, license fees, etc)
 Compensation of Fixed Capital =
depreciation (costs of capital over its lifetime)
GDP – Income Method
 Net Foreign Factor Income – must adjust
for income earned abroad so that GDP is
“domestic” production
Income Americans gain from abroad vs
income foreigners earn by supplying
resources in US
Foreign owned resource earnings here
minus American owned resource earnings
from abroad = Net Foreign Factor Income
Is added to National Income to equal GDP
GDP – Nominal vs Real
 Nominal = current year prices
 Real = prices adjusted for inflation
 Real is needed when comparing GDP over
several years so $$$ values will be the
same
 Price Index is used to adjust for several
years
Consumer Price Index
 Used to measure the rate of inflation
 Based on a “market basket” of consumer
goods & services that are typical
 Current prices are compared to base years
CPI = Prices of market basket
Prices of same market basket in base yr.
Business Cycles
 Economic Growth is a major goal
 Measured by – increase in real GDP or
increase in real GDP per capita
 Sources of growth: 1) increase resources
and 2 ) increase the productivity of the
resource inputs
 Productivity = real output per unit of input
Health, training, education &
 Results from
motivation of workers
Business Cycles
 Fluctuations of economic activity levels
 Cycles are:
 Peak – maximum production level is reached
temporarily (full employment)
 Recession – period of decline in business activity for
6 months or longer
 Depression - long, severe period of economic
decline
 Trough – lowest point of recession/depression
 Recovery – expansion of economic activity leading to
improved conditions
Business Cycles
 Causes –
 Characteristic of the market system
 Changes in spending leads to production
changes
 Innovations lead to major economic
adjustments (“creative destruction”)
 Productivity (expands = booms; contracts
= recessions)
 Monetary issue (too much or too little in
circulation)
Business Cycles
 Major problems from economic instability:
unemployment & inflation
 Unemployment – results from economic
downturn
 Measured by: % of labor force that is
unemployed
Unemployment
 Labor force = over 16 yrs old, able &
willing to work & actively seeking work
 Labor force does not count:
 under 16 or unable to work (institutionalized)
 Potential workers who are not seeking work
(homemakers, students, retirees)
 Discouraged workers – no longer looking
Unemployment
 Frictional – workers who are “between
jobs” (voluntarily changing, laid off, fired,
or new workers just starting to look)
 Structural – workers whose skills are no
longer in demand; they will need to be retrained or move to a new location
 Cyclical – workers who lose jobs due to
economic recession & lack of spending
Inflation
 Inflation – a rise in the level of prices
 Measured by CPI comparisons (year to
year; month to month)
 Normal economic growth = 2-3% change
 Inflation is above 6% – “double digit” is
very serious for U.S.
 Hyperinflation can be devastating to output
and employment
Inflation’s Negative Effects
 Fixed income receivers (elderly retirees,
government workers, minimum wage earners,
landlords, etc.)
 Savers (paper assets lose value over time
when interest rate is lower than inflation rate)
 Creditors (lenders are paid back in “cheaper”
dollars & have a loss of “real” income)
Inflation’s Positive Effects
 Flexible-Income receivers are unaffected
(COLA like SS, businesses with prices rising
faster than costs, commission sales positions,
any business that anticipates inflation, etc.)
 Debtors (borrowers pay back loans with
“cheap” dollars – lower interest than inflation %)
Types of Inflation
 Demand – Pull Inflation
 Caused by changes in spending beyond the
production capacity
 i.e. failure to produce more drives up price
 “too much money chasing too few goods”
 In long run, wages will go up as workers are
in demand & cost of living increases
Types of Inflation
 Cost – Push Inflation
 Caused by increase in factors of production
costs
 Per unit production costs rise
 Business must raise prices to make profits
 “wage price spirals” as wages are the largest
single production cost
 Also caused by “supply shocks” (raw
materials or energy costs rise abruptly)
Phillips Curve
 In the short run, inflation & unemployment
are inversely related
 In the long run, unemployment is
unaffected by inflation
Inflation %
SRPC
LRPC – at
natural rate of
unemployment
Unemployment