chapter 6 Flashcards
Nominal GDP
the value at current price of all final products and services produced annually in a country → measured as a flow, AKA an amount per unit time
Value
The worth, in Canadian dollars, of all the products and services produced
Real GDP
value at constant price of all final products and services produced annually in a country
What does nominal GDP count
Nominal GDP for any year counts only the products and services produced in that year
What causes increases in nominal GDP
Price increases
Why is the value of intermediate products not included in nominal GDP
because it is already included in the value of the final products
Which type of GDP is better for judging living standards?
Real GDP
Real GDP per person
Real GDP divided by population
- The best measure of a country’s ability to meet the material needs of its citizens
How to measure Real GDP
Calculated by adding up the value of all final products and services produced annually in a country
Value added
value of output minus the value of intermediate products and services bought from other businesses
Income (Y)
consumers earn income by selling inputs to businesses
Consumer spending
consumers use their income to buy products and services from businesses
Business Investment Spending (I)
- When businesses build new factories or buy new machinery
- Businesses are spending on products/services produced by other businesses
Government Spending
When governments build highways or hire the services of accounting firms, those are purchases of products and services in output markets
Rest of World (ROW) Exports and Imports
Other countries also spend money on Canadian products and services or produce products that are imported into Canada
Connection between aggregate income and aggregate spending in a formula
Y = C + I + G + (X - IM)
Why do we subtract imports in Y = C + I + G + (X - IM)
some consumption spending is on imports, and some business investment spending is on imported machinery
Consumer choices
consumers can choose to spend their income or save it
Disposable income
aggregate income minus taxes; income that consumers can spend or save
Net taxes
taxes minus transfer payments
Business choices
- Businesses must invest in building factories and buying the equipment necessary to start production
- Sometimes because of the time lag between when businesses build factories and when sales revenue start to flow in, businesses usually need to borrow money for investment spending
Government choices
- Governments collect taxes, make transfer payments, and spend money to buy products and services in output markets
- Governments also borrow money from the banking system, and can deposit or lend money to the banking system
ROW Choices
- The rest of the world can choose to buy Canadian exports and sell their own products/services to us as Canadian imports
- ROW can also choose to invest money in Canada or borrow money from Canada
Banks
take deposits from consumers, businesses, government, and ROW, and make loans to all of the players
Potential GDP
- real GDP when all inputs (labor, capital, land, and entrepreneurship) are fully employed
- outcome if Adam Smith’s invisible hand works perfectly
Potential GDP per Person
potential GDP divided by the population
Potential GDP and PPF
- An economy that realizes its potential GDP is at a point on the PPF
- Points inside the PPF represent unemployed inputs
- consumer goods (horizontal axis) and capital goods (vertical axis)
Economic growth
the expansion of the economy’s capacity to produce products and services
What causes economic growth
increases in the quantity/quality of a country’s inputs (land, labor, capital, entrepreneurship)
What does economic growth increase
potential GDP per person and shifts the macro PPF outward
Factors that Contribute to Economic Growth
- Labour
- Capital
- Land and Other Natural Resources
- Entrepreneurship
Human capital
increased earning potential from work experience, on-the-job training, and education
Capital
- the factories and equipment businesses use to produce products and services
- more equipment to produce output increases the quantity of capital, which allows workers to produce more
Land
- Potential GDP increases with an increase in the quantity of land that can contribute to production
- Technological change also contributes to increases in the quantity/productivity of land and resources
Entrepreneurship
Entrepreneurs improve management techniques, corporate organization, and worker/management relations that increase productivity, which in turn increase potential GDP
How does potential GDP increase?
by bringing new inputs into the circular flow of markets
Economic growth rate
annual percentage change in real GDP per person
Real GDP per person growth rate formula
((Real GDP/person this year) - (Real GDP/person last year)/Real GDP per person last year) x 100
Rule of 70
number of years it takes for the initial investment to double is roughly 70 divided by annual percentage growth rate
Productivity
- measured as quantity of real GDP produced by an hour of labor
- Key source of our improving standard of living
What increases labor productivity?
Increases in the quantity/quality of inputs
Two Ways to Increase GDP per Person:
- Put a larger fraction of the population to work → increase the labor force participation rate
- Increase productivity so that each worker produces more
Creative destruction
competitive business innovations generate profits for winners, improving living standards for all, but destroy less productive/desirable products and production methods
Business cycles
up and down fluctuations of real GDP around potential GDP
Expansion
period during which real GDP increases
Peak
maximum expansion, real GDP stars decreasing after the peak
Contraction
any period during which real GDP decreases
Trough
lowest point of the cycle
Recession
two or more successive quarters of contraction of real GDP
Recessionary gap
real GDP below potential GDP; vertical distance between potential GDP and real GDP
Inflationary gap
real GDP above potential GDP, can cause inflation
Output gap
real GDP minus potential GDP, positive for inflationary gaps
Limitations of real GDP per person as measure of well-being:
- Non-market production
- Underground Economy
- Environmental Damage
- Leisure
- Political Freedoms and Social Justice
Non-market production
many productive activities that contribute to our well-being happen outside of markets
Underground Economy
illegal activities or legal activities that avoid taxes
Environmental Damage
- Productive economic activity produces undesirable negative externalities like pollution, climate change, and resource depletion
- Costs of environmental damage are not included in GDP
- Higher GDP is often associated with greater environmental damage
Leisure
The more leisure time people take, the lower real GDP will be
Political Freedoms and Social Justice
There is no necessary connection between higher real GDP per person and benefits of democracy and political freedom
Human Development Index
weighs equally life expectancy, educational achievement, and income
Top 5 Countries HDI
Norway, Australia, United States, Netherlands and Germany
