Chapter 2 1

1 values of economic flows either at the level of the total economy, such as GDP and National Income, or at lower levels of aggregation such as the income, expenditure, and saving of the

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values of economic flows either at the level

of the total economy, such as GDP and National

Income, or at lower levels of aggregation such

as the income, expenditure, and saving

of thehousehold or government sectors.

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Learning objectives

In this chapter, you will learn about:

• Gross Domestic Product (GDP)

• the Consumer Price Index (CPI)

• the Unemployment Rate

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U.S Consumption - 2003

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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 investment

spending on plant and equipment that firms will use to produce other goods & services

§ residential fixed investment

spending on housing units by consumers and landlords

§ inventory investment

the change in the value of all firms’ inventories

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U.S Investment, 2003

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Government spending (G)

• Government spending refers to money spent by the public sector on the

acquisition of goods and provision of services such as education,

healthcare, social protection, defense, public consumption and public

investment

• Transfer payments consisting of income transfers

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Government spending (G)

• Federal expenditures fall into five main categories:

• Health insurance (Medicaid and Medicare)

• Retirement benefits (Social Security)

• National defense

• Interest on the debt

• Other spending (a broad category that covers spending on education,

housing, transportation, agriculture,…)

• Transfer payments include welfare, financial aid, social security, and

government subsidies for certain businesses

These include, but are not limited to:

• Unemployment compensations

• Old age insurance

• Civil service pensions

• State and local government pensions

• 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, 2003

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Output = Expenditures

Suppose a firm

• produces $10 million worth of final goods

• but only sells $9 million worth

Does this violate the expenditure = output identity?

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• Gross National Product (GNP):

total income earned by the nation’s factors of production,

regardless of where located

• Gross Domestic Product (GDP):

total income earned by domestically-located factors of production,

Real GDP controls for inflation

Changes in nominal GDP can be due to:

§changes in prices

§changes in quantities of output produced

Changes in real GDP can only be due to changes

in quantities, because real GDP is constructed using constant base-year prices

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A base year is the first of a series of years in an economic or

financial index.

New, up-to-date base years are periodically introduced to

keep data current in a particular index.

Any year can serve as a base year, but analysts typically

choose recent years.

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Consumer Price Index (CPI)

• A measure of the overall level of prices

• Published by the Bureau of Labor Statistics (BLS)

• In 2019, the consumer price index (CPI) for all items in Vietnam was

at 165.82 points, with 2010 as the base year (2010=100)

• The consumer price index indicates changes in the price of a weighted

average market basket of consumer goods and services purchased by

households

How the BLS constructs the CPI

1 Survey consumers to determine composition

of the typical consumer’s “basket” of goods.

2 Every month, collect data on prices of all items in the basket; compute cost of basket

3 CPI in any month equals

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Exercise: Compute the CPI

The basket contains 20 pizzas and

For each year, compute

§ the cost of the basket

§ the CPI (use 2009 as the base year)

§ the inflation rate from the preceding year

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The composition of the CPI’s “basket” in Vietnam

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not employed, not looking for work

the fraction of the adult population that ‘participates’ in the labor force

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