Lecture Notes #3 PDF

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Lecture Notes #3...

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Chapter 7 - Measuring the Economy’s Output Measuring the Economy’s Performance: GDP National Income Accounting o Measures economy’s overall performance o Statistics Canada compiles National Income and Product Accounts → Assess health of economy → Track the long-run course of the economy → Formulate policies o National income accounting does for the economy what private accounting would do for an individual household or business. Statistics Canada compiles the data and reports it in National Income and Product Accounts. This information is used by economists and policymakers in formulating decisions for the best interest of the nation. Gross Domestic Product o The main measure of the economy’s performance… → The total (aggregate) market value of all final goods and services produced within the borders of a country during a specific period of time → A Monetary Measure → Avoid multiple counting o Market value final goods o Ignore intermediate goods o Count value added o The primary measure of the economy’s performance as a whole is its aggregate output. This is most commonly calculated as Gross Domestic Product, or GDP. GDP is a monetary measure in that everything is valued in dollars. All goods and services produced must be converted into dollar values for GDP to work. Table 7.1 Comparing Heterogeneous Outputs by Using Money Prices

o Society is willing to pay $1500 more for the combination of goods produced in year 2 than for the combination of goods produced in year 1. o GDP is a monetary measure because we would not otherwise be able to determine if total output has changed from year to year if the mix of goods and services changes. Avoiding Multiple Counting o To avoid multiple counting, only final goods and services are counted o Final goods: Goods and services purchased for final use and not for resale or further processing or manufacturing o Intermediate goods: Products purchased for resale or further processing or manufacturing

o Value added: The market value of a firm’s output less the value of the inputs that the firm purchased from others. o To avoid multiple counting of goods, GDP includes only the market value of final goods and ignores intermediate goods, which are goods either purchased for resale or for further processing into final goods. GDP could also avoid multiple counting by counting only the value added at each stage. Table 7.2 Value Added in a Five-Stage Production Process

o The production and sale of the final coat generated just $350, not $1140 o This table illustrates the value-added in a five-stage production process. The value added is calculated as the difference between the sales value of the materials and the value of the good at the previous production stage value. Using this method will avoid multiple counting. GDP Excludes Nonproduction Transactions o Two types of nonproduction transactions: → FINANCIAL TRANSACTIONS o Public Transfer Payments e.g. welfare, Social Security, etc. o Private Transfer Payments e.g. charity like christmas gifts o Stock-Market Transactions → SECOND-HAND SALES o Secondhand sales contribute nothing to current production so they are ignored in calculating GDP. o Nonproduction transactions must be excluded from GDP since they have nothing to do with the production of final goods. Two Ways of Calculating GDP: Expenditures and Income o The expenditures and income approaches are two different ways to look at the same thing. o The expenditures approach measures GDP as the sum of all of the money spent in buying the output. In theory, either method should yield equal results. o The Expenditures Approach: → The sum of all the money spent in buying final goods and services → By households, businesses, government, and buyers abroad

o The income approach looks at GDP in terms of the income derived, or created, from producing goods and services. o The Income Approach → The income derived or created from producing final goods and services → Payments to the suppliers of factors of production as wages, rent, interest, and profit o You could look at a quarter from the heads side or the tails side, but it is still worth the same amount. Fig 7.1: The Expenditures Approach and The Income Approach to GDP

o Here the two different approaches to measuring GDP are illustrated. o On the left, the expenditures approach measures GDP as the sum of four items: (1) consumption by households, (2) investment by businesses, (3) government purchases, and (4) expenditures by foreigners. o On the right, the income approach uses different inputs: (1) wages, (2) rents, (3) interest, (4) profits, and (5) statistical adjustments. The Expenditure Approach o The Expenditures Approach: adds up all the expenditures made for final goods and services. o The Expenditures Approach adds up: → Personal consumption expenditures (C) (covers all expenditures by households on final goods and services during a year) o Durable goods (Ex, stoves, refrigerators, etc.) o Nondurable goods (Ex, food, clothing, gasoline, etc.) o Services (ex, Haircuts, lawyers, etc.) → Gross investment (Ig) Includes… o Machinery, equipment, and tools by firms o Construction o Changes in inventories o Intellectual property products (R&D) → Government purchases (G) (aka. Government consumption expenditures and gross investment) o Expenditures for goods and services o Expenditures for publicly owned capital

o Excludes transfer payments (Ex, Social Security, because they simply transfer government receipts to certain households and does not generate any sort of production. → Net exports (Xn) = exports (X) – imports (M) o Adding up all four components provides a measure of GDP, a measure of the market value of a specific year’s total output. → Net investment = only investment of added capital o = Gross investment – depreciation o When gross investment and depreciation are equal, there is no change in the capital stock. o GDP as the sum of all the money spent in buying final goods and services. GDP = C + Ig + G + Xn o For Canada in 2017 (in billions, from Table 7-3): → GDP = $1208 + $538 + $447 + (-$49) = $2144 Table 7.3 Calculating GDP in 2017: The Expenditures Approach (billions of dollars)

o Figure 7.2: Gross Investment, Depreciation, Net Investment, and the Stock of Capital

o When gross investment exceeds depreciation during a year, net investment occurs. o This net investment expands the stock of private capital from the beginning of the year to the end of the year, allowing the economy’s production capacity to expand, all other things equal. 7.1 GLOBAL PERSPECTIVE o Comparative GDPs of Selected Nations, 2016 (trillions of dollars) o In 2016, Canada had the world’s tenth-highest GDP. o The GDP data have been converted to U.S. dollars using international exchange rates....