Module 5 Flashcards
why can statistical discrepancy not be a good measure in the true error of computing the GDP
- both the income and expenditure approach could be underestimated (lower than what it actually is)
- then you wouldn’t be able to see it in the discrepancy error
what are the 2 main sources of error that you need to be aware of
- From the difficulty of measuring the value of non-market goods produced
- Ability of GDP to measure the standard of living
what is the error from the difficulty of measuring the value of non-market goods produced
- Non-market goods are those produced in the underground economy and those goods and services that are produced without being sold on a market
- The underground economy includes illegal activities, or legal activities that aren’t reported so taxes can be evaded
- Goods and services that aren’t sold in markets are things like fixing our houses, cooking, etc.
- Statistics Canada can estimate the size of the underground economy, but its difficult tot estimate household production
what is the error of the ability of GDP to measure the standard of living
- Ex. even if the quality of education or the health care system is an important factor that contributes to the well-being of an economy, its not taken into account in the GDP
- Same thing for the quality of the environment (air, water, etc.), the level of income inequality, etc.
what is the purpose of quantity indexes
to measure the change in the value of a basket of goods at constant prices
what does the passche quantity index do
fix the prices to the current period
what is the real value/value at constant prices
when the value of a set of goods for different periods is computed using the prices of the same period
what does the passche quantity index do
uses the prices of the base period
how much is one period for monthly data
1 month
why is there an issue with the Laspeyres and Paasche quantity indexes
- they are both based on the value of a basket of goods using prices from a distant period
- Ex. the 1990 Paasche quantity index is the value of the goods purchased in 1980 at the price of 1990
- Since the quality and specificity of goods change rapidly, it makes no sense to value them using prices from distant periods
- Ex. computers in 1990 were very slow compared with the ones we have today
- The price for a personal computer could be over $4k
- Should we use that price to value today’s computer?
what is the solution the issue with the Laspeyres and Paasche quantity indexes
- The first solution was to keep changing the base year, but when to change it?
- Now the solution is to never use prices and quantities that are separated by more than 1 period
- 1 period is determined by the frequency of the data
how much is one period if the frequency of the data (observation) is 5 years
5 years
how much is one period for quarterly data
1 quarter
what are price indexes in comparison to quantity indexes
they are like quantity indexes, but the quantities are held fixed instead of prices
what does the paasche price index do
hold the current basket of goods fixed
what is the fisher quantity index theory
the theory that the ideal index should be between the Paasche and the Laspeyres
what does a higher price index mean
it means that a given basket of goods cost more
what is the objective of price indexes
to measure the change in value of a fixed basket of goods
what is real GDP
- makes production/output/quantity remain constant even when prices are changing
- so an increase in real GDP is an increase in production not price
what does the laspeyres price index do
has the basket of goods from the base period that is fixed
what does the value of real GDP depend on
- the base year
- ex. the value of 1994 real GDP with the base year of 1992 is 739.5, but the value of the same year with the base year of 1990 is 714
how are nominal variables measured
they are measured based on current prices
what is nominal GDP measuring
measuring economic activity at current price
what happens to nominal GDP when prices increase
nominal GDP will also increase even if production is the same
what kind of index is CPI
- laspeyres type of price index
- but the price reference period isn’t the same as the basket reference period
what is a way to obtain real GDP
construct a quantity index and use the index to calculate the real GDP
what are the different types of measures of inflation and their purpose
- For measuring the changes in the cost of living, inflation rate is generally based on the CPI
- For measuring the changes in the price level of goods produced in the economy, its based on the GDP deflator
- Other measures can also serve other purposes
- Ex. the Bank of Canada will have their own measure when designing monetary policies
how do you interpret index numbers/ real GDP
- can compare the index # to others
- ex. comparing the index # of one year to the to the base year = 100 (# - 100) = % change in quantity
can you compare 2 real values
only if they are measured at the prices of the same year
what is the deflation approach
Consists of transforming nominal values into real values using price indexes
how does the deflation approach work
- Each component of the nominal GDP is deflated with the appropriate price index, and you add them up to calculate the real GDP
- Ex. the value of durable goods is deflated with a price index constructed from the price of durable goods only
- This is done because the prices of each component don’t have the same behaviour
what is the inflation rate
the growth rate of the general price level
what is the GDP deflator
- an index that measures the overall changes in the price of all goods included in the GDP
- Like average movement of all prices
what are inflation rates normally
- the annualized growth rates between 2 successive periods
- if the data is already annual data, then only need to calculate the growth rates and don’t need to annualize it
what is the decrease in general price level called
deflation
when is the inflation rate is negative
when the price level decreases
how do you calculate the inflation rate
- since its a growth rate of the price index, just use the growth rate formula on the price index
- the one that is xt - xt-1 / xt-1
with the GDP deflator, what can CPI used to do
transform nominal values into real values
who is CPI more appropriate for and why
its better for household members because the basket of goods used for the index is what households consume
what happens to the real value when it grows at a slower rate than inflation
the real value decreases
what does CPI inflation usually do
overestimates the change in cost of living since the items in the basket of goods was determined several periods in the past, and can change over time
what happens to the real value when it grows at a faster rate than inflation
the real value increases
if the growth rate of nominal wage was higher than inflation, what happens
the variable (ex. wage) was more fully indexed to inflation
what happens when the nominal value and inflation grows at the same rate
the variable is indexed to inflation
what is it called when welfare/pension benefits grow at the same rate as inflation
its inflation indexed
what is inflation-indexed income
a way to preserve the purchasing power of individuals
