Measuring Total Output and Income
0 likes1,112 views
This document provides an overview of real GDP and its components. It explains that real GDP can be used to measure total economic output or output per capita. The four main components of GDP are defined as consumption, investment, government spending, and net exports. Consumption makes up the largest share, while net exports are typically the smallest. Shortcomings of GDP are also discussed, such as its exclusion of non-market activities and environmental costs.
Measuring Total Output and Income
- 1. Measuring Domestic Output Real GDP "It is not only the quantity of growth that is important, but its quality" -European Commission, 2007 Slide 1 of 26
- 2. In the last module, we learned that GDP is a broad measure of economic activity In this module, we’ll add to our understanding: First, we’ll differentiate between Real GDP and Real GDP Per Capita Finally, we’ll look at some shortcomings of using Real GDP to measure an economy. Second, we’ll explore the four components of GDP. Slide 2 of 26
- 3. To begin…we want economic growth However, there are two ways to measure economic growth: Why do we care: Because growth lessens the burdens of scarcity I think we can all agree…we want more guns AND butter. An increase in real GDP per person occurring over some time period An increase in real GDP for the overall economy occurring over some time period Slide 3 of 26
- 4. In some cases, economic growth is best measured using Real GDP For example, when measuring the economic power of a country and its ability to wage war, economists would be more interested in Real GDP. Think of it in these terms- if a country were to transform its production into wartime equipment such as tanks and planes, how much could they produce? Slide 4 of 26
- 5. In other cases, economic growth is best measured using Real GDP per Capita For example, when measuring the likelihood that people in a country would buy a new expensive product, economists might look to Real GDP per capita. Think of it in these terms- if a store like Tiffany’s, which sells expensive jewelry- were to consider entry in a new country- they might consider Real GDP per person as opposed to total Real GDP. It is important to note however that in both cases, we are discussing REAL GDP. As we have already learned, we must control for changing prices in order to fairly compare GDP from one period to the next! Slide 5 of 26
- 6. Let’s turn our attention to the components of GDP • C = Personal Consumption • I = Investment • G = Government • Xn = Exports (net) GDP = C + I + G + Xn This consists of U.S. residents spending money at the cash register, online or on services such as haircuts. This consists of spending on houses, buildings, equipment, and software. This consists of federal, state, and local spending on goods and services. This consists of the value of goods and services we sell to other countries minus that which we buy from them. The next slide will show the size of each component. After that we’ll look at each component in depth. GDP can be broken into four components: Slide 6 of 26
- 7. Consumption is the largest component of an economy Note that the U.S. economy is on pace to produce about $16 trillion in goods and services in 2013. Picture the U.S. economy as a 4 piston engine. Unlike other engines, this one has one big piston and three little pistons. If something goes wrong with the big piston, what do you think happens to the engine? Slide 7 of 26
- 8. Let’s explore the 4 pistons Slide 8 of 26
- 9. Piston #1: Consumption Consumption is the largest component of economic activity in the U.S. It includes spending on goods and services by us, the American consumer. In 2011, we’ll spend $10 trillion in consumption! Anytime you are at a cash register, swipe your credit card, click “buy now” or get a service such as a haircut or a tree trimmed, that is consumption. 1 Slide 9 of 26
- 10. Consumption can be broken down into three parts Consumption includes services such as a haircut, durable goods, and non durable goods- explained on the next slide. Slide 10 of 26
- 11. What are in those categories? Durable goods- they have a useful life of 3+ years…like this washing machine Nondurable goods- they have a useful life of less than 3 years…like food or medicine. Services include haircuts, doctors appts, lawyers, architects, lawn care and many others Slide 11 of 26
- 12. Piston #2: Investment Investment is typically the third largest component of economic activity in the U.S. It includes spending on office buildings, malls, houses, apartment complexes, malls, software, and equipment. In 2012, we spent $2.1 trillion in investment! For the definition of GDP, Investment does not include purchases of stocks. If companies take invested money and build buildings, that is included. 3 Stocks Slide 12 of 26
- 13. Investment (I) Investment is divided into four sections: commercial equipment and software, Nonresidential structures (like malls or offices) , residential structures, and inventories With the housing market turmoil, this section has gotten al lot of attention (Note: when a new home is built and sold its value is captured here) Slide 13 of 26
- 14. Piston #3: Net Exports Net Exports are the smallest component of economic activity in the U.S. It is calculated by taking the total value of all goods and services we sell to other nations and subtracting the value of all goods and services that we buy from other nations. For at least 30 years, net exports have been negative meaning that we buy more from other countries than they buy from us. 4 Slide 14 of 26
- 15. Net Exports (Xn) Net Exports = Exports - Imports Since GDP = C+I+G+NX Exports add to GDP while imports take away from it. Slide 15 of 26
- 16. Recent growth in imports has far outpaced growth in exports You might also notice the huge disruption in trading activity that occurred during the last recession! At some point in the 1980s, we started to see a trade deficit develop. That means we are buying more from other countries than they are buying from us. Slide 16 of 26
- 17. The U.S. balance of trade has deteriorated Slide 17 of 26 Recent trends in international trade show that over a long period the U.S. has a growing Trade imbalance. That is a Key Learning Outcome. Interestingly, economists are not in agreement as to whether or not a growing trade imbalance is a problem. What do you think?
- 18. Piston #4: Government Spending Government Spending is typically the second largest component of economic activity in the U.S. It is the sum of purchases of goods and services by all levels of government in the U.S. including federal, state, and local. It exceeded $3 trillion in 2012. It only includes purchases. Transfers (where money is provided to a person and is not exchanged for a good or service such as Social Security, or Medicare) is not included when calculating GDP. 2 Slide 18 of 26
- 19. Government Expenditures Government Expenditures includes government consumption expenditures and investments Federal State Local Slide 19 of 26
- 20. Government Expenditures Note: These figures exclude transfer payments, interest, and other subsidies that account for approximately 70% of federal government spending. That spending is not accounted for in GDP because it does not involve the purchase of a final good or service. Government expenditures are divided into three sections: Federal, State, and Local Slide 20 of 26
- 21. Be sure you understand the four components of GDP We will spend a lot of time reflecting on these components in the future. As you can imagine, understanding them can be critical to figuring out what is wrong with an economy. For example, if you see that GDP is falling and your economy is headed for a recession, you might then explore these to see which component has dropped. Doing so can allow elected leaders to tailor economic policy to address those specific areas. Slide 21 of 26
- 22. Let’s talk about one other aspect of GDP GDP is a useful tool. It allows us to measure and compare the size of different economies and determine if they are growing or not. It does however, have its shortcomings. Let’s explore some of those. Slide 22 of 26
- 23. GDP is great but… Economists use it to measure the size of a country, but also use it to measure “quality of life”…or even “happiness” assuming that greater income = happiness. GDP is a GREAT measure of an economy. In fact, if told that they could only have one statistic describing an economy, most economists would probably pick GDP. Slide 23 of 26
- 24. Shortcomings of GDP • Excludes nonmarket transactions • Excludes amount of leisure the citizens of the economy are able to have • Does not record the improvements in quality of products • Doesn’t include underground (black market) economy (8% in U.S) These are “under the table” transactions Time off has value but isn’t counted in GDP TV’s have gotten much better, right! These are transactions where nothing is purchased. Examples include a social security payment. Slide 24 of 26
- 25. Shortcomings of GDP (Cont.) • Does not record the pollution costs to the environment • Does not account for changes in population • Does not fully measure quality of life or well-being GDP is criticized for not measuring happiness well. Tibet’s answer to this problem is to measure GDH-Gross Domestic Happiness! Slide 25 of 26
- 26. In summary A nation’s total output can be measured by adding the value of all products produced or all income earned. That will equal Gross Domestic Product. Using the expenditure approach, GDP is broken into four parts…Consumption, Investment, Net Exports, and Government Spending. It can also be used to measure a total Economy (Real GDP) or individual wealth (Real GDP per Capita) Understanding these four pieces can help when assessing the health of an economy It is also important to remember that GDP has some shortcomings. Economists use it as a proxy for happiness…perhaps we should not! Slide 26 of 26