Chapter 2: The Data of Macroeconomics

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Chapter 2 The Data of Macroeconomics
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The Data

• Idea look at some statistics that describe the
  average state of the economy
• Gross Domestic Product (GDP)
• Real GDP and GDP deflator
• the Consumer Price Index (CPI)

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Gross Domestic Product

• Definition Value of total final goods and
  services produced in an economy in a given period
  of time (measure of economic activity)
• There are two ways to compute it
• Total income of everyone in the economy
• Total expenditures on the economys goods and
  services
• These two measures must be equalExpenditure of
  buyers Income of sellers

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Why expenditure income
In every transaction, the buyers expenditure
becomes the sellers income. Thus, the sum of all
expenditure equals the sum of all income.
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The Circular Flow
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Gross Domestic Product (GDP)

• Example an economy with two goods, apples and
  oranges
• GDP (papplesqapples) (porangesqoranges)
• (0.50 4) (1.00 3) 5.00

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Gross Domestic Product (GDP)

• Intermediate Goods
• Value Added value of firms output minus value
  of intermediate inputs

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Gross Domestic Product (GDP)

• GDP is the value of all FINAL goods and services
  produced and sold in the economy 1.50
• GDP is also equal to the sum of value added in
  all stages on production 0.50 1.00 1.50

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The expenditure components of GDP

• consumption
• investment
• government spending
• net exports

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An important identity

• Y C I G NX
• where Y GDP the value of total output
• C I G NX aggregate expenditure

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Consumption (C)

• durable goods last a long time ex cars, home
  appliances
• non-durable goodslast a short time ex food,
  clothing
• serviceswork done for consumers ex dry
  cleaning, air travel.

def the value of all final goods and services
bought by households. Includes
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U.S. Consumption, 2005
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Investment (I)

• def1 spending on the factor of production
  capital.
• def2 spending on goods bought for future use.
• Includes
• business fixed investmentspending on plant and
  equipment that firms will use to produce other
  goods services
• residential fixed investmentspending on housing
  units by consumers and landlords
• inventory investmentthe change in the value of
  all firms inventories

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U.S. Investment, 2005
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Investment vs. Capital

• Capital is one of the factors of production. At
  any given moment, the economy has a certain
  overall stock of capital.
• Investment is spending on new capital.

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Investment vs. Capital

• Example (assumes no depreciation)
• 1/1/2002 economy has 500b worth of capital
• during 2002investment 37b
• 1/1/2003 economy will have 537b worth of
  capital

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Stocks vs. Flows
More examples

• stock flow
• a persons wealth a persons saving
• of people with of new college college
  degrees graduates

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Government spending (G)

• G includes all government spending on goods and
  services.
• G excludes transfer payments (e.g. unemployment
  insurance payments), because they do not
  represent spending on goods and services.

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Government spending, 2005
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Net exports (NX EX - IM)

• def the value of total exports (EX) minus the
  value of total imports (IM)

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GDP An important and versatile concept

• We have now seen that GDP measures
• total income
• total output
• total expenditure
• the sum of value-added at all stages in the
  production of final goods

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Some Issues of GDP

• Home production
• Illegal activities
• Underground economy
• Environment Quality

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GNP vs. GDP

• Gross National Product (GNP) total income
  earned by the nations factors of production,
  regardless of where located
• Gross Domestic Product (GDP)total income earned
  by domestically-located factors of production,
  regardless of nationality.
• (GNP GDP) (factor payments from abroad)
  (factor payments to abroad)

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(GNP GDP) as a percentage of GDP for selected
countries, 1997.
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Real GDP

• Is GDP a good measure of well-being/economic
  activity?
• Recall that
• GDP (papplesqapples) (porangesqoranges)
• Higher GDP does NOT imply higher well-being ?
  GDP can increase if prices increase, with no
  change in quantities
• Real GDP measure of output keeping prices
  constant

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Real GDP

• In the previous example

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Real GDP

• Let 2002 be the base-year, i.e., real GDP will
  be calculated using 2002 prices

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Real GDP

• Now with 2003 as base-year
• Notice that, at the base-year
• Real GDP Nominal GDP

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Real GDP

• Issue results are sensitive to the choice of
  base year
• Base year 2002, Real GDP goes from 5.00 to 5.50
  (growth rate 10)
• Base year 2003, Real GDP is the same in both
  years (growth rate 0)
• Solution Chain-weighting
• Take the average of the growth rates 5

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Real GDP

• Then use this growth rate to calculate Real GDP
  in 2003
• RGDP2003 5.00(1 .05) 5.25
• RGDP2002 5.00
• Advantages
• It does not depend on the base year
• Prices are updated as time passes

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GDP Deflator

• Reflects changes in the overall price level ?
  how price changes between current year and the
  base year

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GDP Deflator

• In our example, using 2002 as base year
• 5.20/5.50 0.945

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GDP Deflator

• ? Price level decreased 5.5 from 2002 to 2003

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Consumer Price Index (CPI)

• Measures changes in the price level, i.e.,
  inflation
• More specifically, measures how the cost of a
  given consumption basket evolves over time (cost
  of living)
• The bundle includes goods and services consumed
  by a typical consumer

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Consumer Price Index (CPI)

• For example, suppose a typical consumer buys 5
  apples and 2 oranges
• In other words, the cost of this basket is 2
  lower in 2003 relative to 2002 (the base year)

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CPI vs. GDP Deflator
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CPI vs. GDP Deflator
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Two measures of inflation
Percentage
change
16

14

12

10

8

6

4

2

0

2
-
1948
1953
1958
1963
1968
1973
1978
1983
1988
1993
1998
Year
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Reasons why the CPI may overstate inflation

• Substitution bias The CPI uses fixed weights,
  so it cannot reflect consumers ability to
  substitute toward goods whose relative prices
  have fallen.
• Introduction of new goods The introduction of
  new goods makes consumers better off and, in
  effect, increases the real value of the dollar.
  But it does not reduce the CPI, because the CPI
  uses fixed weights.
• Unmeasured changes in quality Quality
  improvements increase the value of the dollar,
  but are often not fully measured.

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CPI vs. GDP deflator

• prices of capital goods
• included in GDP deflator (if produced
  domestically)
• excluded from CPI
• prices of imported consumer goods
• included in CPI
• excluded from GDP deflator
• the basket of goods
• CPI fixed
• GDP deflator changes every year