İktisada Giriş II Measuring a Notion's İncome. © 2007 Thomson South-Western1 Measuring a Nation ’ s Income Microeconomics is the study of how individual households and firms make decisions and how they interact with one another in markets. Macroeconomics is the study of the economy as a whole. Its goal is to explain the economic changes that affect many households, firms, and markets at the same time.2 Measuring a Nation ’ s Income Macroeconomics answers questions like the following: Why is average income high in some countries ? and low in others? Why is inflation high in some countries and low ? in others? Why was inflation in Turkey above 40% in most of 1980s and 1990s? Why do production and employment grow in ? some years and contract in others? 3 THE ECONOMY’S INCOME AND EXPENDITURE When judging whether the economy is doing ? well or poorly, it is natural to look at the total income that everyone in the economy is earning. 34 THE ECONOMY’S INCOME AND EXPENDITURE For an economy as a whole, total income ? must equal total expenditure because: Every transaction has a buyer and a seller. – Every dollar of spending (expenditure) by some – buyer is a dollar of income for some seller. 45 THE MEASUREMENT OF GROSS DOMESTIC PRODUCT The equality of income and expenditure can be ? illustrated with the circular-flow diagram. 5© 2007 Thomson South-Western Figure 1 The Circular-Flow Diagram Spending Goods and services bought Revenue Goods and services sold Labor, land, and capital Income = Flow of inputs and outputs = Flow of dollars Factors of production Wages, rent, and profit FIRMS Produce and sell • goods and services Hire and use factors • of production Buy and consume • goods and services Own and sell factors • of production HOUSEHOLDS Households sell • Firms buy • MARKETS FOR FACTORS OF PRODUCTION Firms sell • Households buy • MARKETS FOR GOODS AND SERVICES7 THE MEASUREMENT OF GROSS DOMESTIC PRODUCT Gross domestic product (GDP) is a measure ? of the income and expenditures of an economy. GDP is the total market value of all final ? goods and services produced within a country in a given period of time. 78 THE MEASUREMENT OF GROSS DOMESTIC PRODUCT “ GDP is the Market Value . . . ” ? Output is valued at market prices. – “ . . . Of All. . . ” ? Includes all items produced in the economy and legally sold – in markets. (underground economy in Turkey?) “ . . . Final . . . ” ? It records only the value of final goods, not intermediate – goods (the value is counted only once). “ . . . Goods and Services . . . ” ? It includes both tangible goods (food, clothing, cars) and – intangible services (haircuts, housecleaning, doctor visits). 9 THE MEASUREMENT OF GROSS DOMESTIC PRODUCT “ . . . Produced . . . ” ? It includes goods and services currently produced, not – transactions involving goods produced in the past. When a used car is sold, GDP does not increase. “ . . . Within a Country . . . ” ? It measures the value of production within the geographic – confines of a country. “ . . . In a Given Period of Time. ” ? It measures the value of production that takes place within a – specific interval of time, usually a year or a quarter (three months). 10 THE COMPONENTS OF GDP GDP includes all items produced in the ? economy and sold legally in markets. What Is Not Counted in GDP? ? GDP excludes most items that are produced and – consumed at home and that never enter the marketplace. It excludes items produced and sold illicitly, such – as illegal drugs. Or the underground, unrecorded transactions & activities.11 THE COMPONENTS OF GDP GDP ( Y ) is the sum of the following: Consumption ( C ) ? Investment ( I ) ? Government Purchases ( G ) ? Net Exports ( NX ) ? Y = C + I + G + NX 1112 THE COMPONENTS OF GDP Consumption (C) : ? The spending by households on goods and • services, with the exception of purchases of new housing. Investment (I) : ? The spending on capital equipment, inventories, • and structures, including new housing. 1213 THE COMPONENTS OF GDP Government Purchases (G) : ? The spending on goods and services by – municipalities and government agencies. Roads, schools, hospitals, wages of govt. employees, etc. Does not include transfer payments because they – are not made in exchange for currently produced goods or services. Ex: Social security. Net Exports (NX): ? Exports minus imports. – 1314 Table 1 US 2004 GDP and Its Components© 2007 Thomson South-Western US GDP and Its Components (2004) Consumption 70% Government Purchases 19% Net Exports -5 % Investment 16%16 REAL VERSUS NOMINAL GDP Nominal GDP values the production of goods ? and services at current prices . Real GDP values the production of goods ? and services at constant prices . 1617 REAL VERSUS NOMINAL GDP An accurate view of the economy requires ? adjusting nominal to real GDP by using the GDP deflator. 1718 Table 2 Real and Nominal GDP19 Table 2 Real and Nominal GDP20 Table 2 Real and Nominal GDP21 The GDP Deflator The GDP deflator is a measure of the price ? level calculated as the ratio of nominal GDP to real GDP times 100. It tells us what portion of the increase in ? nominal GDP that is because of inflation rather than an increase in the quantities produced. 22 The GDP Deflator The GDP deflator is calculated as follows: ? GDP deflat or = Nominal GD P Real GDP ? 10023 The GDP Deflator Nominal GDP is converted to real GDP as ? follows: Real GDP Nominal GD P GDP deflat or 20XX 20XX 20XX ? ? 10024 Table 2 Real and Nominal GDP25 Inflation based on GDP Deflator 2005-2006 inflation: 71% ? 2006 – 2007 inflation: ~40% ?© 2007 Thomson South-Western Figure 2 Real GDP in the United States Billions of 2000 Dollars $10,000 9,000 8,000 7,000 6,000 5,000 4,00 0 3,000 1970 1975 1980 1985 1990 2000 1995 2005 2,00027 IS GDP A GOOD MEASURE OF ECONOMIC WELL-BEING? GDP is the best single measure of the ? economic well-being of a society. GDP per person tells us the income and ? expenditure of the average person in the economy. Higher GDP per person indicates a higher ? standard of living. GDP is not a perfect measure of the ? happiness or quality of life, however.28 GDP AND ECONOMIC WELL-BEING Some things that contribute to well-being are ? not included in GDP. Income distribution. – The value of leisure. – The value of a clean environment. – The value of almost all activity that takes place – outside of markets, such as the value of the time parents spend with their children and the value of volunteer work. 2829 Table 3 GDP and the Quality of Life