Lecture 2 measuring a nation s income

Lecture Objectives• Consider why an economy’s total income equals its total expenditure.. The Economy’s Income and Expenditure- Measures the total income of everyone in the economy - Mea

LECTURE 2

Measuring a Nation’s Income

Some etiquette rules in the

class

• Attendance check is compulsory and

constitutes 10% to the final grade

• Please have your smartphones on silent mode

• Students must do homework before the

tutorial class If you forget to do them or don’t have them printed out, please leave the class

• Food and drinks: refreshments are allowed in

LETTERS IS EXCRUTIATINGLY IMPOLITE

– If you miss your deadlines, you might be

considered to have makeup midterm or small test but only with a proper paper from a hospital

– No emails about your grades regarding the FINAL EXAM It is handled by the faculty staff, not me

Assessment for the subject will be on the basis of:

• Class Participation Required 10%

• Group assignment(s) Required 10%

• Midterm: 20%, small test: 10%

• To pass this subject students must achieve:

• 50% or more in the final examination, AND an overall mark of 50% or more (For students

entering Cohort 2016-2020 or earlier)

• An overall mark of 50% or more (For students entering Cohort 2017-2021 or after)

Lecture Objectives

• Consider why an economy’s total income

equals its total expenditure

• Learn how gross domestic (GDP) is defined and calculated and its four components

• Distinguish between real GDP and nominal GDP

• Consider whether GDP is a good measure of economic well-being

The Economy’s Income and Expenditure

- Measures the total income of everyone in the

economy

- Measures the total expenditure on the

economy’s output of goods and services

- Income must equal expenditure

• All goods and services - bought by households

• Households - -spend all of their income

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Figure 1

The circular-flow diagram

Households buy goods and services from firms, and firms use their revenue from sales to pay wages to workers, rent to landowners, and profit to firm owners GDP equals the total amount spent by households in the market for goods and services It also equals the total wages, rent, and profit paid by firms

in the markets for the factors of production.

Measurement of Gross Domestic Product

• Gross domestic product (GDP)

- Produced within a country

- In a given period of time

• “GDP is the market value…”

Market prices - reflect the value of the goods

Measurement of Gross Domestic Product

- All items produced in the economy

• And sold legally in markets

- Excludes most items

• Produced and sold illicitly

• Produced and consumed at home

- Value of intermediate goods is alreadyincluded in the prices of the final goods

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Measurement of Gross Domestic Product

- Tangible goods & intangible services

- When Tim buys a new refrigerator, the

transaction contributes to which component of the GDP?

- The construction of a highway?

- A new pair of Gucci shoes produced in China?

- A new pair of Gucci shoes produced by Chinese

people living in Italy?

The Components of GDP

• Consumption

- Spending by households

- On goods and services

- Exception: purchases of new housing

The Components of GDP

• Government purchases

- Government consumption expenditure andgross investment

- Spending on goods and services

- By local, state, and federal governments

- Does not includetransfer payment

The components of U.S GDP

• 2010, GDP of the United States = $14 trillion

• GDP per person = $45,838

- Investment = $7,061 per person

- Government purchases = $8,912 per person

- Net exports = -$2,360 per person

Table 1

GDP and its components

(in billions of dollars) (in dollars) of total

Gross domestic product, Y $13,843 $45,838 100%

This table shows total GDP for the U.S economy in 2010 and the breakdown of GDP

among its four components.

When reading this table, recall the identity Y = C + I + G + NX.

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Real Versus Nominal GDP

- Economy - producing a larger output of goodsand services

- And/or goods and services are being sold athigher prices

- Production of goods and services

- Valued at current prices

Real Versus Nominal GDP

- Production of goods and services

- Valued at constant prices

- Designate one year as base year

- Not affected by changes in prices

• For the base year

- Nominal GDP = Real GDP

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Table 2

Real and Nominal GDP

Prices and Quantities Price of Quantity of Price of Quantity of

Year hot dogs hot dogs hamburgers hamburgers

Calculating Nominal GDP

2008 ($1 per hot dog × 100 hot dogs) + ($2 per hamburger × 50 hamburgers) = $200

2009 ($2 per hot dog × 150 hot dogs) + ($3 per hamburger × 100 hamburgers) = $600

2010 ($3 per hot dog × 200 hot dogs) + ($4 per hamburger × 150 hamburgers) = $1,200

Calculating Real GDP (base year 2008)

2008 ($1 per hot dog × 100 hot dogs) + ($2 per hamburger × 50 hamburgers) = $200

2009 ($1 per hot dog × 150 hot dogs) + ($2 per hamburger × 100 hamburgers) = $350

2010 ($1 per hot dog × 200 hot dogs) + ($2 per hamburger × 150 hamburgers) = $500

Calculating the GDP Deflator

2008 ($200 / $200) × 100 = 100 This table shows how to calculate real GDP, nominal GDP,

Real Versus Nominal GDP

• The GDP deflator

- Measure of the price level

- Ratio of nominal GDP to real GDP times 100

- =100 for the base year

- Measures the current level of prices relative tothe level of prices in the base year

• Inflation

- Economy’s overall price level is rising

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Real Versus Nominal GDP

Real GDP over recent history

• The GDP data

- Real GDP grows over time

Figure 2

Real GDP in the United States

GDP - Good Measure of Economic Well-being?

well-being of a society”

- Economy’s total income

- Economy’s total expenditure

- Larger GDP

• Good life

• Better healthcare

• Better educational systems

- Measure - ability to obtain many of the inputs

GDP - Good Measure of Economic Well-being?

International differences in GDP

and the quality of life

• Rich countries - Higher GDP per person

International differences in GDP

and the quality of life

• Low GDP per person

- More infants with low birth weight

- Higher rates of maternal mortality

- Higher rates of child malnutrition

- Fewer school-age children are actually in school

- Fewer teachers per student

- Fewer paved roads

- Fewer households with electricity 26

Table 3

GDP and the quality of life

Real GDP per Life Adult literacy Internet usage Country person (2005) expectancy (% of population) (% of population)

United States $41,890 78 years 99% 63 %