econ 1022 Flashcards
Gross Domestic Product (GDP)
The market value of the final goods and services produced within a country in a given time period.
GDP has four parts
Market value
Final goods and services
Produced within a country
In a given time period
Market value
Adding the value of items together at what the market values one unit of a set item.
Final goods
When calculating the GDP we only take the values of the final goods produced.
Final goods
Final goods are goods that are bought by the final user in a specific time period
Intermediate goods are items produced by one firm, bought by another firm, and used as a component to a final good or service
If we added the value of intermediate goods then it would result in double counting
Second-hand goods, financial assets, and stocks and bonds
Produced within a country
Only goods and services produced within that country are a part of its GDP
In a given time period
GDP is normally measured quarterly or yearly
Economy consists of
households, firms, governments, and the rest of the world.
Households sell and firms buy the services of labour, capital, and land in factor markets
A firm’s retained earnings are a part of the household’s income (think of it as income households save and lend back to firms
Households and Factor markets represent
the blue flow, Y, shows total income paid by
firms to households.
Consumption expenditure
The total payment of goods from households to firms.
shown by the red flow labelled C .
Firms buy and sell new capital equipment
(computer systems, airplanes, trucks, assembly line equipment) in the goods market.
Aggregate income =
Aggregate expenditure (Y = C)
Investment
Purchase of new plant, equipment, and buildings, shown by the
red flow labelled I.
Government expenditure
Government expenditure on goods and services, shown as the red flow G.
Government expenditure
Government finances this through taxes, which are not a part of the circular flow diagram
Financial transfers from the government to houses are also not a part of the circular flow
Rest of the World
Firms in Canada sell goods and services to the rest of the world (exports) – and buy goods and services from the rest of the world (imports)
The value of exports (X ) minus the value of imports (M) is
called net exports, the red flow X – M.
net export positive and negative
If net exports are positive, the net flow of goods and
services is from Canadian firms to the rest of the world.
If net exports are negative, the net flow of goods and
services is from the rest of the world to Canadian firms.
Gross Domestic Product
the sum of the red flows equals the blue flow, Y = C + I + G + (X – M)
GDP can be measured in two ways
The total expenditure on goods and services, The total income earned producing goods and services.
The total expenditure on goods and services
This is called aggregate expenditure, which is the sum of all of the red flows in the circular flow diagram (consumption expenditure + investment + government expenditure + net exports)
The total income earned producing goods and services
The total income earned producing goods and services – This is called aggregate income and is equal to the total amount paid for the services of factors of production (wages, interest, rent, profit)
The blue flows in the circular flow diagram demonstrate this
GDP =
C + I + G + X – M.
Gross
Before subtracting the decrepitation of capital.
Net
After subtracting the depreciation of capital.
Depreciation
The decrease in the value of a firm’s capital that results from wear and tear and obsolescence.
Gross Investment
Amount spent buying new capital and replacing depreciated capital.
Net investment
The amount in which the value of capital increases, Gross investment – Depreciation
The Bureau of Economic Analysis uses two approaches to
measure GDP
The expenditure approach
▪The income approach
The Expenditure Approach
The expenditure approach measures GDP as the sum of the red flow: consumption expenditure, investment, government expenditure on goods and services, and net exports.
GDP = C + I + G + (X − M)
The Income Approach
The income approach measures GDP by summing the incomes that firms pay households for the factors of production they hire.
Two broad categories are
1. Wages, salaries, and other labor income
2. Other factor incomes
Measuring Canadian GDP
Payment for labor services (W) includes wages and benefits.
Other factor incomes (OFI) consist of interest, rent, profit, and some self-employment income.
OFI is net income after deducting depreciation; adding depreciation gives the gross measure.
Gross domestic income at factor cost is the sum of W and OFI.
Converting GDP from factor cost to market prices involves adding indirect taxes and subtracting subsidies.
The statistical discrepancy is the gap between expenditure and income approaches in GDP calculation.
Net exports
is the difference between imports and exports
Indirect Tax
Tax paid by consumers when they buy goods and services
Direct Tax
Tax on income
Statistical discrepancy
The gap between the income approach and the expenditure approach (GDPE Total – GDPI Total)
Real GDP
The value of final goods and services produced in a given year when valued at the prices of a reference base year.
The current base year is 2007
Indicates how much production has increased
You can calculate the real GDP by using the prices of the base year for the current year to see the production increase
Nominal GDP
The value of final goods and services produced in a given year when valued at the prices of that year. (More precise name of GDP).
Economists use estimates of real GDP for two purposes:
To compare the standard of living over time
To compare the standard of living across countries
Real GDP per person
The GDP divided by the population.
Removes any influences on rising prices and a rising cost of living
Potential GDP
Maximum quantity of GDP that can be produced while avoiding shortages of labour, capital, land, and entrepreneurial ability.
Lucas Wedge
The dollar value of the accumulated gap between what real GDP per person would have been if the growth rate in the 1960’s had persisted.
Business cycle
Fluctuations in the pace and expansion of GDP
The business cycle is not predictable, but it has two phases
Expansion – The real GDP increases, Recession – Period in which real GDP decreases (its growth rate is negative for at least two quaters)
Expansion – The real GDP increases
In the early stages real GDP returns to potential GDP
As the expansion period grows, real GDP eventually exceeds potential GDP
Recession – Period in which real GDP decreases (its growth rate is negative for at least two quaters)
US Bureau of Economic Research – A period of significant decline in total output, income, employment, and trade, usually lasting from six months to a year, and marked contraction of many sectors of the economy
As well as two returning points
Peak – Expansion ends and recession begins (highest level real GDP attains at that time)
Trough – Real GDP reaches a temporary low point which the next expansion begins
Two problems arise when using real GDP to compare living standards across countries:
The real GDP of one country must be converted into the same currency units as the real GDP of the other country – We must compare the purchasing power
The goods and services in both countries must be valued at the same prices
Some of the factors that influence the standard of living and that are not a part of GDP are:
Household production – Things like changing a lightbulb that are not traded in markets (results in GDP overestimating total production)
Underground economic activity – Because this activity is unreported, it it not a part of the GDP calculation (composes about 5-15% of Canada’s GDP 100 billion to 300 billion)
Leisure time – Improvements in leisure and wellbeing are not reflected in the GDP
Environmental quality – Economic activity directly relates to environmental quality – something that many people value
