Theme 2.1: Measuring Economic Growth Flashcards
The four main Macro-economic indicators
The rate of economic growth
The rate of inflation
The level of unemployment
The state balance of payments
GDP as a factor of economic growth
Economic growth can be measured by the change in national output over a period of time. The national output is all the goods and services produced by a country.
Output can be measured in two ways:
Volume - Adding up the quantity of goods and services produced in one year.
Value - Calculating the value (£Billions) of all the goods and services produced in one year.
National output is usually measured by value - this is called the gross domestic product (GDP)
GDP can also be calculated by adding up the total amount of national expenditure (aggregate demand) in a a year, or by adding up the total amount of national income earned in a year.
This means that, in theory, national output = national expenditure = national income
Patterns in the rate of economic growth
The rate of economic growth is the speed at which the national output grows over a period of time.
Over the course of several years, the speed of this growth is not usually constant. Here are a few useful terms:
- Long periods of high economic growth rates are often called booms.
- If there’s a negative economic growth for two consecutive quarters (a ‘quarter’ is just a three month period of time - a quarter of a year), this is called a recession. A long recession is often referred to as a slump.
- An economic depression is worse than a recession - it’s a sustained economic downturn which lasts for a long period of time (e.g. several years).
Calculating and using Economic growth
Over one year, a country’s GDP may increase or decrease. This simply means the change in the amount of goods and services produced between one year and the next. The change in GDP can be shown in two ways - as a value (£billions) or as a percentage.
To measure the rate of economic growth over time as a percentage, use this formula:
Change in GDP / Original GDP x 100 = Percentage change
Some GDP growth may be due to prices rising (inflation). Nominal GDP is the name given to a GDP figure that hasn’t been adjusted for inflation. This figure is misleading - it’ll give the impression that GDP is higher than it is.
Economists remove the effect of inflation to find out what’s called real GDP. For exmaple, a 4% increase in nomial GDP during a period when inflation was 3% means real GDP only rose by about 1%. The other 3% was due to rising prices.
GDP per capita
GDP can be used to give an indication of a country’s standard of living. This is done by dividing the total national output by the country’s population to get the national output per person - GDP per capita. Here’s the formula:
Total GDP / Population size = GDP per capita
GNI and GNP
Economists also use the indicators Gross National Income and Gross National Product:
GNI is the GDP plus net income from abroad - this net income is any income earned by a country on investments and other assets owned abroad, minus any income earned by foreigners on investments domestically.
GNP is similar to GNI - it’s the total output of the citizens of a country, whether or not they’re resident in that country.
GNI and GNP per capita can also be used to compare the living standards between different countries. They are calculated in a similar way to GDP per capita - by dividing the total GNI or GDP by the country’s population.
Purchasing Power Parity and Living Standards
When using GDP per capita (or GNP or GNI per capita) to compare living standards in countries that use different countries, the exchange rate might not reflect the true worth of two currencies - so comparing GDP per capita in this way might not give an accurate picture.
To overcome this problem, comparisons are usually carried out using the principle of purchasing power parity (PPP).
Purchasing power is the real value of an amount of money in terms of what you can actually buy with it. This can vary between countries - for example, in a less developed country, e.g. Malawi, $1 will buy more goods than in a more developed country, e.g. Canada.
Using PPP in comparisons of countries’ living standards involves adjusting the GDP per capita figures to take into account the differences in purchasing power in those countries, with the results usually expressed in US dollars. This makes for a more accurate and easier comparison.
Using GDP to make comparison has limitations
GDP and GDP per capita are used to compare the economic performance and the standards of living in different countries:
- a high GDP would suggest a country’s economic performance is strong.
- a high GDP per capita suggests that a country’s standard of living is high.
Using the GDP and the GDP per capita to make comparisons between countries has its limitations. There are several things that GDP and GDP per capita figures might not take into account:
The extent of the hidden economy
Public spending
The extent of income inequality
Other differences in the standard of living between countries
The extent of the hidden economy
Economic activity that doesn’t appear in the official figures.
Public spending
some government’s provide more benefits, such as unemployment benefits or free health care, than others. For example, two countries might have similar GDP per capita figures but one country might spend much more money per person on providing benefits that improve the standard of living.
The extent of income inequality
Two may have similar GDP per capita, but the distribution of that income between the rich an the poor may be very different.
Other differences in standard of living between countries
Other differences in standard of living between countries, such as the number of hours workers have to work per week, working conditions, the level of damage to the environment, and different spending needs (e.g. cold countries spend more income on heating to achieve the same level of comfort that exists in warm countries.
Index numbers
Index numbers are useful for making comparisons over a period of time. The first year is called the base year - the index number for this year is set at 100. Changes up or down are expressed as numbers above or below 100. For example:
A 3% rise in real GDP over one year would mean the index rose to 103 in year 2.
A 2% fall in real GDP over one year would mean the index fell to 98 in year 2.
An index number of 108 in year 4 means an 8% rise from the base year.
