Chapter 7: GDP and CCI: Tracking the Macroeconomy

Question 1

The National Income and Product Account

Answer 1

keeps track of the flows of money between different sectors of the economy

Question 2

How does the reliability of the accounts relate to development?

Answer 2

Typically, the more reliable the set of numbers known as the National Accounts, the more economically developed the country

Question 3

What factors do the National Accounts keep track of?

Answer 3

Consumer spending, government purchases, business investment, and other flows of money between sectors

Question 4

What is the underlying principle of the circular flow diagram?

Answer 4

the flows of money into an economic sector are equal to the flows of money out of the economic sector

Question 5

What are the main groups in the updated circular flow?

Answer 5

households, firms, government, and the rest of the world

Question 6

What are the main markets in the updated circular flow

Answer 6

factors, goods and services, financial

Question 7

The inflows of money to the households

Answer 7

wages, rent, income, and profit from the factor markets (from the firms) and transfer payments from the government

Question 8

The outflows of money from the households

Answer 8

consumer spending to the product market, taxes to the government, and savings to the financial markets (in the form of stocks, bonds, and securities invested in firms via the financial market)

Question 9

The inflows of money to the government

Answer 9

borrowing from the financial markets and taxes from households

Question 10

the outflows of money from the government

Answer 10

government spending on goods and services (the product market), transfer payments (households)

Question 11

the inflows of money to firms

Answer 11

borrowing, stock issued by firms (to households, government, and world via the factor market), GDP (product market)

Question 12

The outflows of money from firms

Answer 12

investment in the product market and wages, rent, interest, and profit (to households via the factor market)

Question 13

The inflows of money to the rest of the world

Answer 13

foreign borrowing and selling of foreign stock in domestic markets (financial market), imports (product market)

Question 14

The outflows of money from the rest of the world

Answer 14

lending from foreign entities and foreign purchases of domestic stock (financial markets), exports (product market)

Question 15

Government borrowing

Answer 15

the total amount of funds borrowed by state, local, and federal governments in the financial markets

Question 16

Government purchases of goods and services

Answer 16

the total expenditures on goods and services by state, local, and federal governments

Question 17

Inventories

Answer 17

stocks of goods and raw materials held to facilitate business operations

Question 18

Investment Spending

Answer 18

spending on productive physical capital, like machinery and construction of buildings, and on changes to inventories

Question 19

Why are changes on inventories included in investment spending from firms to product markets?

Answer 19

Because, like spending on machinery, inventory changes affect the ability of firms to make future sales. Spending on additions to inventories is a form of investment spending by the firm, increasing future sales and vice versa.

Question 20

Consumer Spending

Answer 20

Household spending on goods and services

Question 21

How does the rest of the world engage in our economy?

Answer 21

commerce and investment via imports, exports, and foreign investment

Question 22

Foreign investment

Answer 22

borrowing or lending by foreigners

Question 23

Define GDP

Answer 23

Gross Domestic Product is the total value of all the final goods and services produced in an economy in a given year

Question 24

What does “total value” mean in GDP?

Answer 24

We are necessarily integrating price and standardizing to dollar value

Question 25

What are final goods and services?

Answer 25

we are not looking at middle-steps to avoid double-counting. We want to look at the final product already made up of all constituent components

Question 26

The 3 Types of Goods and Services

Answer 26

1. Non-market 2. Intermediate 3. Final

Question 27

The 2 types of non-market goods and services

Answer 27

1. Government: these are goods like tanks or ammunition which we value at production cost. It is difficult to find the actual value, since we typically find value of products by comparing them to other products 2. Other non-market goods and ignored goods: things like house-care that are not initially counted until women enter the workforce, black market dealings (babysitting and drug-dealing)

Question 28

Intermediate goods and services

Answer 28

used up in the production of final goods and services and not counted in GDP (counted within the final goods and services)

Question 29

Final goods and services

Answer 29

Ultimately consumed by consumers and counted in GDP

Question 30

Capital Goods

Answer 30

long-lived goods and services used in the production of other products (factories and shopping malls)

Question 31

How do we factor in phones where the screen is made in China and the battery in California?

Answer 31

We include only the parts made domestically (the battery), factoring out the foreign-made parts (the screen)

Question 32

What are the three ways of calculating GDP?

Answer 32

1. Direct calculation by surveys 2. Add up aggregate spending on domestically produced final goods and services (this includes the net exports) 3. Sum the total factor income earned by households from firms in the economy

Question 33

Direct Calculation by surveys

Answer 33

Surveying all firms and adding up the total value of all the final goods and services produced

Question 34

How can we use aggregate spending on domestic products to calculate GDP?

Answer 34

Aggregate Spending on domestic products is the total sum of expenditures on domestically produced final goods and services. This is made up of consumer spending, government spending in the product market, business investment in the product market, and net exports (money gained from exports minus money lost from imports). The aggregate spending flows into the firms, so we use this as GDP

Question 35

How do we calculate the value added per firm?

Answer 35

Value of sales (to who the firm is selling) - the cost the intermediate goods used in production

Question 36

What do we know about initial firms and intermediate costs

Answer 36

There should be no intermediate costs for initial firms

Question 37

What is the relationship between the value of sales for a firm and the total expenditure by the firm?

Answer 37

value of sales is equal to total expenditure, but value added is NOT the same

Question 38

stocks

Answer 38

shares in the ownership of the company. They pay dividends, which become profit for households

Question 39

bonds

Answer 39

borrowing by firms in the form of IOUs that pay interest (money flows as borrowed from the financial markets to the firms and back from the firms to the financial markets when repaid. The interest on these loans flows into the factor market and to the households which initially owned the money)

Question 40

Goods Included in GDP

Answer 40

Domestically produced final goods and services including 1. Capital Goods 2. Construction of new structures 3. Changes to inventories these three are all included in I in the GDP equation

Question 41

Goods not included in GDP

Answer 41

1. Intermediate products 2. inputs (not including capital goods) 3. Used goods 4. Financial assets like stocks and bonds 5. Foreign-produced goods and services

Question 42

How can households add value to goods and services to make them final and count them in GDP

Answer 42

Imputing: for example, when you buy a household you formerly rented, statisticians make an estimate of what you would have paid if you continued to rent. Estimates of GDP take into account the value of housing that is occupied by owners as well as the value of rental housing

Question 43

How can governments add value to count in GDP?

Answer 43

Spending in the form of military, education, and other government services can increase GDP. These are services provided by G (government spending in the market for goods and services) and the equal flow of money into the government to fund these programs comes from the financial markets and households. Note that this only works in the value added method of calculating GDP, which focuses on the value of provided products, not spending on products (the aggregate spending approach)

Question 44

What is the most important use of GDP?

Answer 44

It is a measure of the size of the economy, providing us a scale against which to measure the economic performance of other years or to the performance of other countries

Question 45

GNP

Answer 45

the total value of all goods and services produced in a given year by labor and property supplied by the citizens of a country.

Question 46

Initially, economists preferred GNP but then switched to GDP. Why did they switch?

Answer 46

GDP was considered a better indicator of short-run movements in production because data on international flows of factor income is more unreliable

Question 47

What is one major drawback to comparing GDP over time? How do we fix this?

Answer 47

Part of GDP increase is due to inflation, so we must use Real GDP

Question 48

Which nations would benefit more from GNP than GDP?

Answer 48

Nations like Ireland which have many industries and workers from other nations and GDP is much less than GDP

Question 49

What is GDP useful for and not useful for?

Answer 49

It is good at comparing economies at a given time but not over time due to changing price levels

Question 50

In order to accurately measure an economy's growth, we need to measure ___

Answer 50

aggregate output

Question 51

aggregate output

Answer 51

the economy's total quantity of output of final goods and services. The measure used for the purpose of measuring growth is Real GDP

Question 52

Real GDP

Answer 52

the total value of all the final goods and services produced in an economy in a given year, calculated using the prices of a selected base year

Question 53

How does Real GDP stand as a measure of well-being? How can we make it more accurate?

Answer 53

It is fairly innaccurate and it only values market transactions. We can make it more accurate by dividing it by the total population, or Real GDP per Capita (average aggregate output per person), which is positively associated with several measures of well-being

Question 54

What are 4 things not factored by Real GDP

Answer 54

1. environmental quality and resource depletion 2. leisure 3. intangible things people value 4. the effects of income inequality

Question 55

What are three well-being measures positively associated with Real GDPC?

Answer 55

1. Material standard of living (more goods and services) 2. Health and life expectancy 3. Education

Question 56

What is Nominal GDP?

Answer 56

The value of GDP calculated using the prices current in the year in which output is produced – it is good for comparing economies at a given time

Question 57

What is chain-linking?

Answer 57

is the method of calculating changes in real GDP using the average between the growth rate calculated using an early base year and the growth rate calculated using a late base year.

Question 58

Real GDPC is useful in

Answer 58

comparing labor productivity between countries and identifying what a country could potentially do with its PPC

Question 59

The Aggregate Price Level

Answer 59

the measure of the overall level of prices in the economy

Question 60

A market basket

Answer 60

a hypothetical set of consumer purchases of goods and services

Question 61

A price index

Answer 61

measures the cost of purchasing a given market basket in a given year, where the cost is normalized so that it is equal to 100 in the selected base year. is the ratio of the current cost of that market basket to the cost in a base year, multiplied by 100.

Question 62

Why do we prefer to use average price changes?

Answer 62

Simplicity

Question 63

Why do we prefer to use a market basket in developing the price index?

Answer 63

To measure the average price changes for consumer goods and services, we track the changes in the cost of the market basket.

Question 64

We are given prices for barley, emmer, and spelt over 2 years. Explain how we can use a price index to find the price change in wheat over the 2 years

Answer 64

Instead of taking the cumbersome route of reciting three separate numbers to track the change in price of wheat, we create a market basket, finding the average amount of each barley, emmer, and spelt that a consumer purchases in a given year, or our base year. We then multiply quantity consumed by price in both the base year and second year to determine the price of the market basket in each year. To determine the price index, we take the price of the market basket in each year and divide it by the price in the base year. The base year price index will be 100. The second year price index will be different, and we use the difference between them to determine the average change in the price of wheat

Question 65

what is the price index formula?

Answer 65

(market basket price in given year)/(market basket price in base year) *100

Question 66

What is the inflation rate formula?

Answer 66

((Year 2 price index) – (Year 1 Price Index))/(Year 1 Price Index) *100

Question 67

Consumer Price Index

Answer 67

measures the cost of the market basket of a typical urban American family

Question 68

What is the Inflation Rate

Answer 68

is the percent change per year in a price index— typically the consumer price index

Question 69

What is the CPI intended for?

Answer 69

while it measure the costs of the market basket of a typical urban american family, it is used to show how the costs of all purchases by the typical family have changed over time with changing price levels

Question 70

What bases do we use in creating the American CPI?

Answer 70

1. Typical family of four 2. Living in a typical American city 3. Base period of 1982-1984 (Average CPI of 100 at this time)

Question 71

In order to increase our accuracy of the inflation rate, which two factors do we discount from the CPI when calculating inflation rates?

Answer 71

energy and food due to relative volatility

Question 72

Different countries have different CPIs. Which factor is dominant in developing nations' CPIs

Answer 72

Food

Question 73

The Producer Price Index

Answer 73

measures changes in the prices of goods purchased by producers. This mostly contains raw commodities like steel, electricity, and coal.

Question 74

Why is the PPI regarded as an early warning sign for inflationary changes?

Answer 74

Commodity producers compared to the rest of the economy are quick in changing prices in response to perceived change in the overall demand for their goods. This means that PPI often reacts to inflationary and deflationary pressures faster than CPI, so it's regarded ad an early warning sign for changes in the inflation rate

Question 75

GDP Deflator

Answer 75

for a given year is 100 times the ratio of nominal GDP to real GDP in that year. (nominal/real) GDP *100. or example if in 2017, the real GDP stays constant and the nominal doubles, the GDP deflator will be 200, indicating the aggregate price level doubled

Question 76

The PPI, CPI, and GDP Deflator each produce different inflation rates (although the last is not an index). What is the most important point about these different rates?

Answer 76

They have been moving closer over time and show how different parts of the economy are affected by economic events

Question 77

How do you use the GDP Deflator to find inflation rates?

Answer 77

using the formula ((current GDP | deflator – GDP deflator in the previous year)/(GDP deflator in the previous year)) × 100,