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Macroeconomics ECO 403

LESSON 05

THE DATA OF MACROECONOMICS (Continued...)

Nominal vs. Real GDP

2001

2002

2003

good A

Rs30

900

Rs31

1,000

Rs36

1,050

good B

Rs100

192

Rs102

200

Rs100

205

Compute nominal GDP in each year

Compute real GDP in each year using 2001 as the base year.

Nominal GDP

multiply Ps & Qs from same year

2001: Rs46, 200 = $30 × 900 + $100 × 192

2002: Rs51, 400

2003: Rs58, 300

· Real GDP

multiply each year's Qs by 2001 Ps

2001: Rs46, 300

2002: Rs50,000

2003: Rs52,000 = $30×1050 + $100 × 205

GDP Deflator

The GDP deflator, also called the implicit price deflator for GDP, measures the price of output

relative to its price in the base year. It reflects what's happening to the overall level of prices in

the economy

GDP Deflator = Nominal GDP

Real GDP

GDP

inflation

Nom. GDP

Real GDP

deflator

rate

100.0

2001

Rs46,200

n.a.

102.8

2002

51,400

50,000

2.8%

112.1

2003

58,300

52,000

9.1%

Chain-Weighted Measures of GDP

· In some cases, it is misleading to use base year prices that prevailed 10 or 20 years

ago (i.e. computers and college). The base year changes continuously over time.

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Macroeconomics ECO 403

New chain-weighted measure is better than the more traditional measure because it

ensures that prices will not be too out of date.

Average prices in 2001and 2002 are used to measure real growth from 2001 to 2002.

Average prices in 2002 and 2003 are used to measure real growth from 2002 to 2003

and so on.

These growth rates are united to form a chain that is used to compare output between

any two dates.

Components of Expenditures

Y = C + I + G + NX

Y => Total Demand for domestic

C => Consumption Spending by Households

I => Investment spending by businesses and households

G => Govt. purchases of goods and services

NX=> Net exports or net foreign demand

Consumption (C)

Definition: the value of all goods and services bought by households. Includes:

· durable goods last a long time

ex: cars, home appliances

· non-durable goods last a short time

ex: food, clothing

· Services work done for consumers

ex: dry cleaning, air travel.

Investment (I)

Definition 1: spending on [the factor of production] capital.

Definition 2: spending on goods bought for future use.

Includes:

Business Fixed Investment spending on plant and equipment that firms will

use to produce other goods & services

Residential Fixed Investment spending on housing units by consumers and

landlords

Inventory Investment the change in the value of all firms' inventories

Investment vs. Capital

Capital is one of the factors of production.

At any given moment, the economy has a certain overall stock of capital.

· Investment is spending on new capital.

Example (assumes no depreciation):

· 1/1/2002:

economy has Rs500b worth of capital

· during 2002:

investment = Rs37b

· 1/1/2003:

economy will have Rs537b worth of capital

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Macroeconomics ECO 403

Stocks vs. Flows

Flow

Stock

More examples:

Stock

flow

a person's wealth

a person's saving

# of people with college degrees

# of new college graduates

the govt. debt

the govt. budget deficit

What is Investment?

Ali buys for himself a house (9 years old).

Saleem built a brand-new house.*

Baber buys Rs10 million in ABC stock from someone.

An automobile company sells Rs100 million in stock and builds a new car factory in

Lahore.*

Which one is INVESTMENT included in GDP? Why?

Government spending (G)

G includes all government spending on goods and services.

G excludes transfer payments

(e.g. unemployment insurance payments), because they do not represent spending on

goods and services.

Net exports (NX = EX - IM)

Definition:

The value of total exports (EX) minus the value of total imports (IM)

Recall

Y = C + I + G + NX

Where

Y = GDP = the value of total output

C + I + G + NX = aggregate expenditure

A question for you:

Suppose a firm

· produces Rs10 million worth of final goods

· but only sells Rs9 million worth.

Does this violate the expenditure = output identity?

Why output = expenditure

· Unsold output goes into inventory,

and is counted as "inventory investment"...

...whether the inventory buildup was intentional or not.

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Macroeconomics ECO 403

In effect, we are assuming that

firms purchase their unsold output.

GDP: An important and versatile concept

We have now seen that GDP measures

total income

total output

total expenditure

the sum of value-added at all stages

in the production of final goods

GNP vs. GDP

Gross National Product (GNP):

total income earned by the nation's factors of production, regardless of where located

Gross Domestic Product (GDP):

total income earned by domestically-located factors of production, regardless of

nationality.

(GNPGDP) = (factor payments from abroad) minus (factor payments to abroad)

In Pakistan,

which would you want

to be bigger,

GDP or GNP?

Why?

(GNPGDP) as a % of GDP for selected countries, 1997.

USA

0.1%

Bangladesh

3.3

Brazil

-2.0

Canada

-3.2

Chile

-8.8

Ireland

-16.2

Kuwait

20.8

Mexico

-3.2

Saudi Arabia

3.3

Singapore

4.2