Measuring Economic Activity - GDP Flashcards
How to measure economic activity?
By measuring an economy’s national income (= the value of output)
How to calculate the value of a good?
Quantity x price is the value of an output
What is the relation between value of output and national income?
Value of aggregate output = national income
- Because total income = total expenditure = value of output (P x Q)
What is GDP?
GDP is the total value of a nation’s final output in a particular period of time
What does GDP include?
- Final products and services
- Value of what has been produced within the country
- Emphasis on production rather than sales
What does GDP exclude?
- Purely financial transactions
- public transfer payments
- private transfer payments
- sale of stocks and bonds - Second-hand sales
- contributes to the year in which it was produced - Intermediate goods
What are the 3 methods of calculating GDP?
- Income Approach
- Expenditure Approach
- Output Approach
What is the income approach for calculating GDP?
National Income = Wages for labor + Interest for capital + Rent for land + Profits for entrepreneurship
What is the idea behind the income approach?
Income is only generated when a good or service is sold, meaning that the value of the good/service is equal to the amount of income it generates
What is the expenditure approach for calculating GDP?
Total Expenditures = Households consumption (C) + Investment in capital by firms (I) + Government spending (G) + net exports (X - M)
What is the idea behind the expenditure approach?
When an individual spends something on a good or service, that amount of expenditure is equal to the value of the good
What is the relation between income approach and expenditure approach?
An individual’s income is generated through selling a good or service, and an individual’s expenditure is generated by buying that good or service.
Therefore, person A’s expenditure =- person B’s income, which means total income in an economy = total expenditure in an economy = value of output
What is consumer spending?
All purchases by households on final goods and services
What is investment spending?
Spending by firms on capital (buildings, equipment, etc.) and inventories
What is government spending?
- Purchases of factors of production
- Public investments (roads, schools, etc.)
What is net exports?
Exports - Imports
What is the output approach?
National output = outputs of the primary sector + secondary sector + tertiary sector
Why is only the final product value considered for output approach?
The final product value will be the sum of all the value added to the product by earlier firms, thereby avoiding double counting.
Example: Firm A sells raw materials for $700, Firm B sells intermediate good for $1100 (+400 added value), and Firm C sells final good for $1700 (+600 added value).
Therefore, the total added value = 700 + 400 + 600 is equal to the final product value ($1700).
What is nominal GDP?
Measures the value of a nation’s output produced in a year, in terms of the sum of the goods produced times their current prices
What is a flaw of nominal GDP?
If the average price level of a nation’s output increases in a year, the nominal GDP would increase even if the actual amount of output does not change
What is real GDP?
Measures the value of a nation’s output in a particular year, adjusted for changes in the price level from a base year
What is an advantage of real GDP?
Offers a more accurate measure of actual quantity of goods and services a nation produces because it adjusts for price changes
What is the GDP deflator?
It is a price index that can be used to adjust a nation’s nominal GDP for changes in the price level
What is the formula for GDP deflator?
(nominal GDP / real GDP) * 100
What is the base year?
Base year is the year whose prices are being considered while calculating real GDP.
Thus, the GDP deflator index of a base year would be 100
How does the GDP deflator represent inflation / deflation?
- If index is 110, this means that the prices have risen by 10%
- If the index is 90, this means that the prices have fallen by 10% between those years
What is the relation between GDP deflator, real GDP, and nominal GDP?
- If GDP deflator index > 100, real GDP will be lower than nominal GDP
- If GDP deflator index < 100, real GDP will be higher than nominal GDP