Gross Domestic Product (GDP)
is the market value of all final goods and services produced within a country in a given period of time.
How can GDP be computed?
GDP can be computed by looking at expenditure or by looking at income.
Total expenditure has several components
Y=C+I+G+NX or rather (consumption + Investment + Government Purchases + Net Exports)
Consumption
Spending by households on goods and services, with the exception of purchases of new housing
Investment
Spending on capital equipment, inventories, and structures (including household purchases of new housing). The idea is that this is spending on goods that will be used in the future to produce more goods and services.
Government Purchases
Spending on goods and services by local, state, and federal governments
Net Exports
Spending on domestic goods by foreigners (exports) minus spending on foreign goods by domestic residents (imports)
What does the word "net" in "net exports" refer to?
The word net in net exportsrefers to the fact that imports are
subtracted. Imports are subtracted because part of consumption, investment and government purchases is spending on foreign goods.
If total spending rises from one year to the next, at least one of two things must be true:
the economy is producing a larger output of goods and services, or 2 goods and services are being sold at higher prices.
Nominal GDP
The production of goods and services valued at current prices
Real GDP
The production of goods and services valued at constant priceshttp://quizlet.com/create_set/
What is a better indicator of the economy's production of goods and services?
Real GDP
GDP deflator:
A measure of the price level calculated as the ratio of nominal GDP to real GDP times 100
Why is GDP per capita used as a measure of economic well-being?
The justication is that GDP per capita is the average income per person.
What are the several problems with GDP per capita as a measure of well-being?
**There are other things that affect well-being. (But note that many of those other things that affect well-being become more affordable when income is high, e.g., health care, education, leisure.)
**GDP excludes the value of goods and services that are n
The consumer price index (CPI):
A measure of the overall cost of the goods and services bought by a typical consumer (a measure of the cost of living)
How does the Bureau of Labor Statistics calculate the consumer price index?
1. Fix the basket: Survey consumers to nd the basket of goods and services bought by the typical consumer.
2 Collect prices
3 Compute the baskets cost
4 Choose a base month and compute the index
5 Compute the ination rat
Compute the index:
Consumer price index =
Price of basket in current month/ Price of basket in base month X 100
Compute the ination rate:
Inflation rate 2008 = CPI Dec 2008 - CPI Dec 2007/ CPI Dec 2007 X 100
Producer Price Index (PPI):
A measure of the cost of a basket of goods and services bought by firms
The consumer price index is not a perfect measure of the cost of living:
1 Substitution bias
2 Unmeasured quality change
3 Introduction of new goods
There are two important differences between
the GDP deflator and the consumer price index:
1. The GDP deflator reflects the prices of all goods and services produced domestically, whereas the consumer price index reflects the prices of all goods and services bought by consumers.
2. In the consumer price index, the prices of different goods and
A price index (e.g., GDP deflator or consumer price index) can be used to:
1. Compare dollar figures from different times.
2. Indexation: The automatic correction by law or contract of a dollar amount for the effects of inflation
3. Calculate the real interest rate.
How do you compare dollar figures from different times?
Salary in 2008 dollars = Salary in 1970 dollars X Price level in 2008/ Price level in 1970
How do you calculate the real interest rate?
Real interest rate = Nominal interest rate - Inflation rate
Fact 1:
Real GDP per person grows over time in most countries.
Fact 2:
Small differences in growth rates sustained over a long period
of time lead to large di�erences in levels.
Fact 3:
Real GDP per person grows faster in some countries than in
others.
Fact 4:
There is substantial variation in living standards across
countries.
When is real GDp per person high?
When labor productivity is high
Labor productivity:
The quantity of goods and services produced per worker
Determinants of labor productivity:
1. Physical capital per worker
2. Human capital per worker
3. Natural resources per worker
4. Technological knowledge
Production function:
A function describing the relationship between the quantity of inputs used in production and the quantity of output from production.
Aggregate production function:
A function describing the relationship between the quantity of inputs used in a country and the quantity of output produced in a country.
The production function of a country:
Y = AF (K, L,H,N)
Y : quantity of output
K: quantity of physical capital
L: quantity of labor
H: quantity of human capital
N: quantity of natural resources
F (): a function showing the relationship between inputs and output
A: the level of technology
The aggregate production function often has a property called constant returns to scale:
For any positive number x,
xY = AF (xK, xL, xH, xN)
Setting x = 1/L yields
Y/L = AF (K/L, 1, H/L, N/L)
Policies aimed at increasing physical capital per worker:
1. Encouraging saving and investment
(Less consumption today, more capital and output tomorrow)
2. Encouraging investment from abroad
3. Protecting property rights and promoting political stability
Policies aimed at increasing human capital per worker:
1. Providing education
2. Health and nutrition
3. Promoting political stability
Policies aimed at increasing technological knowledge:
1. Sponsoring research and development
2. The patent system
Monopoly:
There is only one rm supplying the good.
Marginal revenue:
The change in total revenue from an additional unit sold.
Marginal cost:
The change in total cost from an additional unit supplied.
When marginal revenue is above or equal to marginal cost:
All firms are willing to supply an additional unit.
When marginal revenue is below marginal cost:
No rm is willing to supply an additional unit.
A monopoly (graph)
**The quantity supplied by a monopolist is below the equilibrium quantity of a perfectly competitive market.
**Thus, the quantity supplied by a monopolist is below the quantity that maximizes the sum of consumer and producer surplus.
**The price set by a
To achieve the optimal quantity, the government can:
1. introduce a price control,
2 introduce a quantity control,
3 introduce a subsidy, or
4 ensure that there is competition.
financial institution:
An institution that helps to match one persons saving with another persons investment
There are two types of financial institutions:
1. Financial markets
2. Financial intermediaries
Financial market:
A financial institution through which a person who wants to save can directly supply funds to a person who wants to borrow. (Ex: stock market, bond market)
Bond:
A certificate of indebtedness
Stock:
A claim to partial ownership in a firm
financial intermediary:
A financial institution through which saverscan indirectly provide funds to borrowers. Financial intermediaries stand between savers and borrowers (EX: Banks, mutual funds)
Mutual fund:
An institution that sells shares to the public and uses the proceeds to buy a selection of stocks and bonds.
Government policies affecting the market for loanable funds:
1. Saving incentives:
They shift the supply curve to the right.
2. Investment incentives:
They shift the demand curve to the right.
3. Government budget deficits and surpluses
A budget deficit shifts the supply curve to the left.
Savings and Investment in the national income accounts (closed economy):
Y = C + I + G
savings =
Investment. Or:
Y - C - G = I
what does T = ?
Let T denote the amount that the government collects from
households in taxes minus the amount it pays back to households in the form of transfer payments (such as Social Security and welfare).
S = Y - C - G
or
S = (Y-T-C) +(T- G)
S= private savings + pub