Gross Domestic Product

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1 Gross Domestic Product Chapter 09 McGraw-Hill/Irwin Copyright 2011 by The McGraw-Hill Companies, Inc. All rights reserved.

2 Learning Objectives After this chapter you should be able to: 1. Define and discuss GDP. 2. Explain how GDP is measured. 3. List and illustrate the two things to avoid when compiling GDP. 4. Distinguish among Gross Domestic Product, Net Domestic Product, and National Income. 5. Compare and contrast nominal GDP and real GDP, and compute real GDP. 6. Discuss how our GDP compares to those of other nations. 7. Calculate per capita GDP. 8. List and explain the shortcomings of GDP as a measure of national economic well-being. 9. Explain and analyze the Gross Progress Index and compare it to GDP. 9-2

3 What Is GDP? GDP is an indicator of national output (production). GDP is measured by counting the nation s expenditures on all FINAL goods and services produced during the year at market prices. Final goods and services includes only those goods and services that consumers, businesses, and governments buy for their own use. The dress is counted, but not the fabric bought to produce the dress. An alternate definition of GDP is the value of all goods and services produced within a nation s boundaries during the year. Counts production of cars by Japanese and German carmakers within the U.S. as exports. Does not count production of cars by U.S. carmaker in Mexico. 9-3

4 9-4 GDP = C + I + G + Xn GDP in 2009 = 10, , , GDP in 2009 = trillion

5 Components of GDP in

6 Components as Percent of Total GDP in

7 Questions for Thought and Reflection Why does the Bureau of Economic Analysis only count final goods and services in GDP? How does the price of the final good or service reflect the cost of the inputs or intermediate goods? What is the largest category of expenditures in the United States? Is this a good or bad thing? 9-7

8 9-8 Other Measures of National Output Start with GDP = C + I + G + X n Net Domestic Product (NDP) =GDP Depreciation To calculate, subtract Depreciation from Gross Invesment National Income = NDP Indirect business taxes and subsidies

9 Two Things to Avoid When Compiling GDP Multiple counting Only expenditures on final products what consumers, businesses, and government units buy for their own use belong in GDP. Intermediate goods are not counted. Used goods are not counted including used homes. Transfer Payments and Financial Transactions Transfer payments are not payments for currently produced goods and services. When they are spent for final goods and services they will go into GDP as consumer spending or C. Financial transactions do not go into GDP. The firm may use the money to purchase investment goods that are counted in I. 9-9

10 9-10 The Value-added Approach to Measuring GDP Because only the value-added is counted, this method also avoids multiple counting.

11 Deflating the GDP to Get Real GDP Nominal GDP is value of the final goods and services produced in a given year valued at that year s prices. Also called GDP in current dollars. Real GDP is nominal GDP corrected for inflation in order to measure actual production. If nominal GDP increases from 2011 to 2012, some of this may be because the prices of goods and services increased. Did we sell more pizzas or did the price go up or both? Real GDP adds expenditures in the prices (or dollars ) of a base year for comparison. 9-11

12 9-12 GDP in Billions of Dollars Nominal GDP increases may be due to increases in production and/or price increases.

13 How Real GDP is Calculated Formula: Nominal GDP/GDP Deflator x 100 = Real GDP Example: What is the Real GDP if nominal GDP is 15,000 dollars and the GDP deflator is 125? 15,000/125 x 100 =12,

14 9-14 Nominal and Real GDP Why does nominal GDP rise faster than real GDP? Why do the lines cross in 2005?

15 Calculating Percentage Changes %Change = New Number Original Number Original Number What is the percentage change from 1979 to 1980 if 1980 GDP is and 1979 GDP is ? = 226.7/ =.089 or 8.9%

16 Change in Real vs. Nominal GDP 9-16

17 9-17 GDP by Nation in Trillions of Dollars The U.S. has a much larger population than Japan and Germany. So which country s citizens have a higher standard of living?

18 Per Capita GDP Per Capita GDP enables us to compare GDP in countries with different size populations. V It is a better measure of the average standard of living. Per Capita GDP = GDP/Population Per Capita Real GDP = Real GDP/Population 9-18

19 9-19 GDP Per Capita Nations International comparisons for per capita GDP over the short run (less than 10 years) are quite valid. Over the long run (20 years or longer) this comparison is like comparing apples and oranges.

20 9-20 Per Capita Real GDP Per Capita Real GDP corrects for changes in prices and changes in population.

21 9-21 Questions for Thought and Reflection How do you calculate percentage change in real GDP from one year to the next? Give an example using data from Figure 4. Name some of the wealthiest countries per capita and some of the wealthiest countries in terms of absolute size of GDP. Explain the difference.

22 9-22 Shortcomings of GDP as a Measure of National Economic Well-being GDP gives us a ballpark idea of how much we produce, not necessarily how well off we are. Shortcomings: Production that is excluded: Household production Illegal production The underground economy Volunteer work Treatment of leisure time Method only values the things we buy, not time spent relaxing. Human cost and benefits Psychic costs and benefits of work What goes into GDP

23 9-23 What Goes into GDP GDP measures how much we produce, but not what we produce. When a large part of our production goes toward national defense, police protection, pollution control devices, repair and replacement of poorly made cars and appliances, and cleanups of oil spills, a large GDP is not a good indicator of how we re doing. U.S. spends more per capita on health care but we are less healthy than citizens in other countries. In general, the problem with using GDP as a measure of national economic well-being is that GDP is just one number, and no single number can possibly provide us with all of the information we need.

24 Current Issue: GDP or GPI The Gross Progress Index (GPI) is an alternative measure of a nation s well-being using GDP as a starting point. It adds in positive things like housework, volunteer work, environmental contributions, such as clean air, water, moderate climate, etc. It subtracts negative things like crime, natural resource depletion, loss of leisure time, family breakdown, etc. Many of these things (positive & negative) are hard to quantify. 9-24

25 Current Issue: GDP or GPI According to GPI calculations, our per capita GPI was less than one-quarter of the official 2009 per capita GDP of $46,437. And real per capita GPI has fallen by about 40 percent since the early 1970s. 9-25

26 9-26 Questions for Thought and Reflection What are the shortcomings of the GDP method of calculating a nation s well-being? Do other methods exists to calculate well-being? Why aren t they used? Why did Hurricane Katrina increase our nation s GDP?

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