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Economic Indicators and Measurements

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Chapter 12: Economic Indicators and MeasurementsKEY CONCEPT

• National income accounting uses statistical measures of income, spending, and output to help people understand what is happening to a country’s economy.

WHY THE CONCEPT MATTERS• The economic decisions of millions of individuals determine the fate

of the nation’s economy. Understanding the country’s economy will help you make better personal economic decisions.

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What is GDP?KEY CONCEPTS

• Microeconomics examines actions of individuals and single markets• Macroeconomics examines the economy as a whole• Macroeconomists use national income accounting:

– statistical measures that track nation’s income, spending, output – gross domestic product (GDP) is most important investors

measure

Gross Domestic Product and Other Indicators

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What is GDP?

The Components of GDP • GDP—market value of final goods, services produced in set time

period• To be included in GDP, product must fulfill three requirements:

– must be final, not intermediate product– must be produced during the time period, regardless of when sold– must be produced within nation’s borders

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What is GDP?

Calculating GDP • Expenditures approach often used to measure GDP; tracks four

sectors• Consumption—household spending on durable, nondurable goods,

services• Investment—business spending on capital goods, inventory• Government spending—federal, state, local; not transfer payments• Net exports—value of exports minus value of imports

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What is GDP?

Two Types of GDP• When GDP grows, economy creates more jobs and business

opportunities• Nominal GDP—price levels for the year in which GDP is measured

– states GDP in terms of current value of goods and services• Real GDP—GDP adjusted for changes in prices

– estimate of GDP if prices were to remain constant

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What GDP Does Not Measure

KEY CONCEPTS• GDP does not measure all output, such as

– nonmarket activities—free services with potential economic value– underground economy—unreported market activities

• GDP also does not measure quality of life

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Nonmarket Activities• Some productive activities outside of economic markets• Examples: performing own home repairs, volunteer work• Biggest nonmarket activity is homemaking

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Underground Economy• Illegal activities are unreported

– when goods are rationed or restricted, black market arises• Legal activities paid for in cash not always declared • Estimates suggest underground economy 8 to 10 percent of U.S.

GDP

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Quality of Life• Countries with high GDPs have high living standards• GDP does not show how goods and services are distributed• GDP does not show what goods are being made or services offered

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Other Economic Performance Measure

KEY CONCEPTS• Other measures of economic performance derived by adjusting GDP• Gross national product (GNP)—market value of all final goods,

services – GDP plus products produced abroad; minus domestic products of

foreign nations• Net national product (NNP)—GNP minus depreciation of capital

stock • National income (NI)—total income from production of goods,

services

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Other Economic Performance Measures

KEY CONCEPTS• Personal income (PI)—income received by people from all sources • Disposable personal income (DPI)—personal income minus income

taxes – actual income available for consumer spending

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Reviewing Key Concepts

Explain the relationship between the terms in each of these pairs:

• nominal GDP and real GDP• gross national product and net national product• personal income and disposable personal income

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What Is the Business Cycle?KEY CONCEPTS

• Changes in the economy often follow a broad pattern• Business cycle—series of periods of expanding and contracting

activity – measured by increases or decreases in real GDP– has four phases: expansion, peak, contraction, trough; length can

vary

Business Cycles

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What Is the Business Cycle?

Stage 1: Expansion • Expansion is period of economic growth—increase in real GDP

– real GDP grows from a low point, or trough• Jobs easier to find; unemployment drops• More resources needed to keep up with spending demand

– as resources become scarce, their prices rise

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Stage 2: Peak • Peak is point at which real GDP is highest• As prices rise and resources tighten, businesses become less

profitable– businesses cut back production and real GDP drops

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Stage 3: Contraction• During contraction, producers cut back and unemployment increases

– resources become less scarce, so prices tend to stabilize or fall• Recession—contraction lasting two or more quarters • Depression—long period of high unemployment, slow business

activity • Stagflation—stagnation in business activity with inflation of prices

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Stage 4: Trough• Trough is point at which real GDP and employment stop declining• A business cycle is complete when it has gone through all four

phases

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Aggregate Demand and Supply

KEY CONCEPTS• Business cycles can be explained through concept of supply and

demand– apply concept to the economy as a whole

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Aggregate Demand• Aggregate demand—total amount of products that might be bought

at every level – includes all goods and services, all purchasers

• Aggregate demand curve is downward sloping– vertical axis shows average price of all goods and services – horizontal axis shows the economy’s total output

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Aggregate Supply• Aggregate supply—sum of all goods and services that might be

provided at every price level • Aggregate supply curve almost horizontal when real GDP is low

– businesses do not raise prices when economy is weak• Curve slopes upward as prices increase with rise in real GDP• Curve almost vertical with inflation—no rise in real GDP

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Macroeconomic Equilibrium• Macroeconomic equilibrium—aggregate demand equals aggregate

supply – aggregate demand curve intersects aggregate supply curve

• Figures 12.9, 12.10: P1 is equilibrium price level; Q1 equilibrium real GDP – increase in aggregate demand shifts AD curve to right– decrease in aggregate supply shifts AS curve to left

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Why Do Business Cycles Occur?

KEY CONCEPTS• Four major factors that affect the business cycle:

– decisions made by businesses– changes in interest rates– expectations of consumers– external shocks to the economy

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Factor 1: Business Decisions• Decisions by businesses affect suppliers, related businesses

– if enough make similar decisions, can affect economy and business cycle

• Demand slump can lead to decreased production, lay offs—contraction

• New technology can raise productivity, demand, employment—expansion

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Factor 2: Changes in Interest Rates• Rising interest rates make borrowing costly, lower aggregate demand

– decrease household purchases, business investment in capital goods

– promote contraction• Low rates increase home sales—more people qualify for mortgage

– related economic activities increase and economy expands

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Factor 3: Consumer Expectations• Consumers’ ideas on prices, business activity, jobs influence choices

– consumers’ choices can change aggregate demand– confident consumers tend to consume more, raising aggregate

demand• Consumer Confidence Survey report published monthly

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Factor 4: External Issues• A nation’s economy can be influenced by events beyond its control• Natural disasters can damage capital, infrastructure

– example: damage of hurricanes Katrina and Rita to Gulf Coast in 2005

• Conflicts overseas and political decisions made by other countries– example: OPEC decision to reduce amount of oil supplied to West

in 1973

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Predicting Business Cycles

KEY CONCEPTS• Economic indicators—measures for predicting changes in business

cycle– help businesses and government make informed choices

• Leading indicators—measures that usually change before real GDP • Coincident indicators—measures that usually change at same time

as real GDP • Lagging indicators—measures that usually change after real GDP

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Business Cycles in U.S. History

KEY CONCEPTS• National Bureau of Economic Research (NBER)

– tracks economic indicators and business cycles• Identified 20 recessions in U.S. in 20th century

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The Great Depression• Began with stock market crash of 1929, lasted over a decade

worldwide– U.S. did not fully recover until entered World War II in 1941

• In U.S. from 1929 to 1933– real GDP declined by one third– sales dropped and one in four people left jobless– many businesses and banks failed

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The New Deal• President Franklin D. Roosevelt enacted New Deal programs

– focused on federal spending to revive economy; government employed many

– federal spending tripled from the 1920s to the mid-1930s– placed economy under closer government regulation

• Debate over New Deal and economic growth; WWII reduced unemployment

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Business Cycles Since the Great Depression• Since Depression, U.S. has had about a dozen contractions,

expansions• Recessions have been less severe than before 1930s• 1970s contraction triggered in part by OPEC Oil Embargo of 1973

– unemployment rose to 7.4 percent; prices rose, creating stagflation

• 1990s great expansion, partly from growth of information technology

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Explain the relationship between the terms in each of these pairs:

• contraction and expansion• aggregate demand and aggregate supply• leading indicators and lagging indicators

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What Is Economic Growth?KEY CONCEPTS

• Business cycle is pattern of expansion and contraction in economy• Economic growth can be measured by changes in real GDP

Stimulating Economic Growth

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What Is Economic Growth?

Gauging Economic Growth • Early theories held that economic growth resulted from:

– collecting high taxes from growing population– exporting more than importing

Adam Smith argued “wealth of nations” came from productive capacities

• Best measure of growth is increase in real GDP– rate of real GDP change is good indicator of how well resources

used

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What Is Economic Growth?

Population and Economic Growth • Population influences economic growth

– if population grows faster than real GDP, growth may mean more workers

• Real GDP per capita—real GDP divided by total population• Real GDP per capita is measure of standard of living

– everyone does not actually have that amount; does not measure quality of life

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What Determines Economic Growth?

KEY CONCEPTS• Four factors influence economic growth:

– natural resources, human resources, capital, technology and innovation

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Factor 1: Natural Resources• Access to natural resources is important

– arable land, water, forests, oil, mineral resources• Resources not enough; also need free market, effective government

– Nigeria has oil but low GDP per capita, widespread poverty– Japan has few resources but high GDP per capita from industry

and trade

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Factor 2: Human Resources• Labor input—size of labor force multiplied by length of work week • Population growth made up for shorter work week since early 1900s• More important than size of labor force is its level of human capital

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Factor 3: Capital• More and better capital goods increase output

– more and better machines can produce more goods• Capital deepening—increase in the capital to labor ratio

– providing more and better equipment to each worker increases production

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Factor 4: Technology and Innovation• Technology, innovation make efficient use of resources, raise output• Innovations can increase economic growth

– examples: reduce time needed to complete task; improve customer service

• Information technology has had strong impact on economic growth– advances in production lower prices, make capital deepening

cheaper

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Productivity and Economic Growth

KEY CONCEPTS• Productivity—amount of output produced from a set amount of inputs• labor productivity: amount of goods and services produced by one

worker in an hour• capital productivity: amount produced by set amount of equipment

and materials

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How Is Productivity Measured?• For a business, compare amount of capital, work hours to total output• Multifactor productivity—applies to an industry or business sector

– ratio between economic output and labor and capital inputs used• Multifactor productivity data compiled for major industries, sectors

– used to estimate productivity of entire economy

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What Contributes to Productivity?• Quality of labor—educated, healthy workforce is more productive• Technological innovation—new technology helps increase output• Energy costs—cheaper power lowers cost of using tools • Financial markets—banks, stock markets flow funds where needed

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How Are Productivity and Growth Related?• Economic growth is a measure of a change in production• Productivity is a measure of efficiency• Economy can grow

– by increasing quantity of resources, labor, capital, or technology – by increasing productivity

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Thomas Robert Malthus: The Population Problem

A Natural Limit to Economic Growth?• Malthus called attention to issues of population growth, scarcity• Said population would grow geometrically, food supply arithmetically• “An Essay on the Principle of Population” attacked, but unrefuted• Malthus’s estimates have turned out to be wrong

– population has grown at slower rate; food production has risen sharply

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Explain the differences between the terms in each of these pairs:

• economic growth and real GDP per capita• capital deepening and labor input

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Poland: Economic Freedom and Economic Growth

Background• Poland was under Communist rule from 1948 to 1989. In 1990, it held free

elections and began moving toward a free market economy. Since then, Poland has experienced a surge in economic growth. In 2004, it joined the European Union.

What’s the Issue• How successful is Poland’s economy?

Thinking Economically• Which economic measurements and indicators are evident in documents A

and C? Explain what they convey about the strengths and weaknesses of Poland’s economy.

• What factors have driven Poland’s economic growth?• Compare documents A and C, written about six months apart. What

continued economic trends and new economic strengths do they describe?

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