Chapter 9 Concepts and Terms

Question 1

Wealth is a stock

Answer 1

like a lake—your bank account balance, plus the portion of your car that you own, plus the portion of your house that you own.

Question 2

Income is a flow

Answer 2

like
a river—how much your paycheck is. So income re ects value creation, while wealth re ects accumulated past value that has been saved.

Question 3

those sold to a final user

Answer 3

final goods

Question 4

those not sold to a final user

Answer 4

intermediate goods

Question 5

the current market value of all final goods and services produced within the country’s borders in one year

Answer 5

Gross Domestic Product (GDP)

Question 6

GDP tells us…

Answer 6

how big an economy is

Question 7

GDP does not count all transactions that take place because there are no records or market values for some production, and because other transactions would cause double counting

Answer 7

• Production of underground illegal goods, such as heroin, is not counted because we have insuf cient records.
• Production of underground legal goods—working off the books—is not counted because we have insuf cient records.
• Production that does not enter markets, such as being one’s own cook, maid, or car repairman, is not counted because we have insuf cient records.
• Sales of used goods are not counted since the original sale was counted. But services of middlemen in selling used goods are counted.
• Financial transactions—sales of stocks, bonds, and the like—are not counted because either; most are not original sales, so they are like used goods, or, if they are original sales, used to nance
the acquisition of capital, we count the capital, so we don’t count the funds raised to purchase the capital. To do so would be like counting the $20,000 you paid for the new car and the $20,000 car loan you received—the output involved is only $20,000, not $40,000. However, services of nancial professionals are counted in GDP, just like with used goods
• We do not count government transfer payments—taking from one person and giving to another, but not in return for any good or service—such as social security, unemployment insurance checks, and food stamps.
• We do not count the value of leisure—though we count tickets to Six Flags, MMO subscriptions, and other market activity that accompanies an individual’s leisure time.
• We do not subtract bads—unwanted phenomena such as disease, crime, and garbage. Keynesian economists assert that bads may, paradoxically, increase GDP because we pay to lessen their effects—such as hiring policemen to combat a new crime wave. Keynesians are correct in pointing out that the crime wave would make us worse off. However, Keynesians err in thinking that GDP will rise, since people must give up goods in order for government to hire policemen. Hence, people have fewer pizzas and more policemen, so GDP does not rise. Different outputs are produced, as happens in Bastiat’s broken window story.

Question 8

taking from one person and giving to another, but not in return for any good or service

Answer 8

transfer payments

Question 9

unwanted phenomena such as disease, crime, and garbage

Answer 9

bads

Question 10

to discuss GDP, which is the usual approach that is discussed on the news and in the most referenced government reports. With this approach, we add up the current market values of all nal goods and services.

Answer 10

the expenditure approach

The expenditure approach breaks GDP down by the four groups who spend on nal output.

Question 11

adds up all the payments to factors of production—the wages, interest, rents, and pro ts—generated by production. Government uses this method because they gather these data as people pay taxes

Answer 11

the income approach

Question 12

Income ≡ Output

Answer 12

the ≡ symbol, says that though income and output are de ned in different ways, they are equal.

Question 13

spending by consumers on nondurable goods, durable goods, and services. Durable goods are those which last for at least a year.

Answer 13

Consumption

Question 14

spending by business on capital (plant, equipment, tools, etc.), changes in business inventories, and spending on new residential housing. Note, this does not mention stocks or bonds.

Answer 14

Investment

Question 15

spending by all levels of government on goods and services. Note that transfer payments do not fit this definition.

Answer 15

Government Purchases

Question 16

Exports - Imports. Note that this makes it seem as if “Exports, good. Imports bad,” which is contrary to what we learned in the trade chapter.

Answer 16

Net Exports

Question 17

which is what GDP would be if prices had remained the same as they were in a base year.

Answer 17

Real GDP

Question 18

When we look at how well the economy is doing over time, we…

Answer 18

always use Real GDP to remove the effects of in ation and only look at how many goods and services we are producing.

Question 19

if we are comparing values at a single point in time, we…

Answer 19

might use GDP (which we could call nominal GDP or current dollar GDP)

Question 20

the percentage change in Real GDP. It is the best measure of whether an economy
is getting better or worse

Answer 20

Economic growth

Question 21

We only look at growth rates in…

Answer 21

Real GDP

Question 22

Two successive quarters (three month periods) of negative economic growth is called?

Answer 22

recession

Question 23

in ation is caused by…

Answer 23

increases in the money supply, not by increases in output

Question 24

Economic growth is not a cause of the in ation -

Answer 24

it is a short run result of money growth.

Question 25

Note that since the negative growth rates began, the positive growth was rarely at least 3%, which we classify as strong.

Answer 25

Just Saying

Question 26

In the third quarter of 2014 the economy grew by 4.9%, and four of the last ve quarters have been strong.

Answer 26

again…

Question 27

describes the ups and downs of the economy

Answer 27

The business cycle

Question 28

an increase in Real GDP is called an

Answer 28

expansion

Question 29

the business cycle, Real GDP is at a temporary high.

Answer 29

peak

Question 30

Real GDP falls, the economy is suffering a

Answer 30

contraction

Question 31

of the business cycle, Real GDP is at a temporary low

Answer 31

trough

Question 32

Real GDP grows from the trough

Answer 32

recovery

Question 33

There is no specific length of time that a recovery must continue before we call it an expansion, though a usual guidepost involves unemployment falling to pre-recession levels

Answer 33

Some use the language incorrectly, for instance, saying that the US was in recession from 2008 through 2013, because unemployment was so high. In truth, the US was in a sickly recovery that could not bring unemployment down to its pre-recession levels

Question 34

following the 1980s recession, growth is very strong—over a year at 6% or more

Answer 34

following the 2008 recession, growth is mostly sickly, at around 2%…A growth rate of 3% is considered strong

Question 35

GDP tells us the size of the economy

Answer 35

To compare to other countries, we need to convert using some sort of exchange rate. We also use GDP for comparisons with other current dollar measures of economic and government activity.

Question 36

Real GDP is used to examine economic growth over time

Answer 36

since it removes the effects of changing prices.

Question 37

Neither measure illustrates the wellbeing of the people in a country. For this, we use

Answer 37

Per Capita GDP; GDP divided by the population

Question 38

Per Capita GDP is the best measure we have, though it is not perfect because it does not take account of the distribution of income within a country

Answer 38

The World Bank’s estimates of Per Capita GDP have the US as the major industrialized country with the highest Per Capita GDP—about $50,000.

Question 39

The average US resident is about 25% better off than the average Canadian, which is signi cant, given that for an individual working at a job, a 25% raise is large.

Answer 39

dont cha know

Question 40

In evaluating any measure of economic health, both the level of economic achievement and also economic growth must be considered

Answer 40

The average US resident would not want to trade living standards with the average Chinese resident. But, if China grew at an amazing long-term rate of 10% per year, while the US grew at a satisfactory 3% per year, China’s populace would be, on average, as well off as the US populace in 23 years.

Question 41

Economic growth is not only related to the level of economic freedom, but also to the change in economic freedom

Answer 41

If a state that has no economic freedom grants a small amount of economic freedom, it might experience huge economic growth, raising the population from horrible living standards to less horrible living standards.

Question 42

For instance, if the state moves from a policy of no person being able to open any business to a policy that only men over fty years old can open a business, the initial growth rates due to the expansion of freedom might
be huge, compared to mature countries where men and women, young and old, can open a business.

Answer 42

But that does not mean that the particular policy is correct—only that the direction is correct. So as a country like China chooses more economic freedom, they move in the correct direction, but that does not mean that every policy they have—from limited internet access, to the one-child policy, to severely limited rights to own a home, to their still huge government ownership of much of the means of production—is good.