11: measuring nation's income

Question 1

Microeconomics

Answer 1

Study of how households and firms
* make decisions
* interact in markets

Question 2

Macroeconomics

Answer 2

Study of economy-wide phenomena
* Including inflation, unemployment, and economic growth

Question 3

Gross Domestic Product (GDP)

Answer 3

• Measures total income of everyone in the economy.
• Also measures total expenditure on the economy’s output of
  goods and services.

Question 4

Income equals expenditure

Answer 4

• For the economy as a whole
• Because every dollar a buyer spends is a dollar of income for the
  seller.

Question 5

The Circular-Flow Diagram

Answer 5

• Simple depiction of the macroeconomy
• Illustrates GDP as spending, revenue, factor payments, and
  income

Question 6

Households:

Answer 6

 own the factors of production,
sell/rent them to firms for income
 buy and consume goods & services

Question 7

Firms

Answer 7

 buy/hire factors of production,
use them to produce goods
and services
 sell goods & services

Question 8

The government

Answer 8

• Collects taxes, buys goods and services

Question 9

The financial system

Answer 9

• Matches savers’ supply of funds with borrowers’ demand for loans

Question 10

The foreign sector

Answer 10

• Trades goods and services, financial assets, and currencies with
  the country’s residents

Question 11

Four components of GDP

Answer 11

• Consumption (C)
• Investment (I)
• Government Purchases (G)
• Net Exports (NX)
• These components add up to GDP (denoted Y):
  Y = C + I + G + NX

Question 12

CONSUMPTION (C)

Answer 12

Total spending by households on goods and services
* For renters, C includes rent payments.
* Not included in C: purchases of new housing

Question 13

Investment, I

Answer 13

Total spending on goods that will be used in the future to produce more goods
* Business capital: business structures, equipment, and
intellectual property products
* Residential capital: landlord’s apartment building; a
homeowner’s personal residence
* Inventory accumulations: goods produced but not yet sold

Question 14

Government purchases (G)

Answer 14

All spending on the goods and services purchased by the
government
* At the federal, state, and local levels.

Question 15

NET EXPORTS (NX)

Answer 15

• Net exports, NX = exports – imports
• Exports: foreign spending on the economy’s goods and services
• Imports: are the portions of C, I, and G that are spent on goods and services produced abroad
• Adding up all the components of GDP gives:
  Y = C + I + G + NX

Question 16

Nominal GDP

Answer 16

• Values output using current prices
• Not corrected for inflation

Question 17

Real GDP

Answer 17

• Values output using the prices of a base year
• Is corrected for inflation

Question 18

GDP deflator

Answer 18

• A measure of the overall level of prices.
  =100×(nominal GDP)/(real GDP)

Question 19

Economy’s inflation rate

Answer 19

Compute the percentage increase in the GDP deflator from one year to the next

Question 20

Real GDP per capita

Answer 20

Main indicator of the average person’s standard of living
* But GDP is not a perfect measure of well-being.
* Robert Kennedy issued a very eloquent
yet harsh criticism of GDP:

Question 21

GDP DOES NOT VALUE:

• The quality of the environment
• Leisure time
• Non-market activity, such as the child care
  a parent provides at home
• An equitable distribution of income

Question 22

THEN WHY DO WE CARE ABOUT GDP?

• Having a large GDP enables a country to afford
• Better schools, a cleaner environment,
  health care, etc.