Chapter

Measuring macroeconomic variables

Hồ Thị Hoài Thương

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 Chapter objectives

❑ Gross Domestic Product (GDP)

❑ Consumer Price Index (CPI)

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1. Gross Domestic Product (GDP)
1.1 Definition
– Market value of all final goods and services
– Produced within a country
– In a given period of time
• “GDP is the market value…”
– Market prices - reflect ...
the value of good and services

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1. Gross Domestic Product
• “… of all…”
– All items produced in the economy
• And sold ....
legally in markets

– Excludes most items

• Produced ...
illegally

• Produced ...
at home

• “… final…”
– GDP includes only the value of ...final goods

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1. Gross Domestic Product
• “… goods and services…”
– Tangible goods & intangible services
• “… produced…”
– Goods and services ...produced currently

• “… within a country…”
– Goods and services produced .... domestically

regardless of the nationality of the producer

• “… in a given period of time”
– A year or a quarter
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1. Gross Domestic Product
1.2 Measurement of GDP
• Circular-flow diagram – assumptions:
• All goods and services – bought by households
• Households - spend all of their income

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Figure 1: Circular-flow diagram

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1. Gross Domestic Product
1.2 Measurement of GDP
• GDP can measure 2 things at once
– The total income of everyone in the economy
– The total expenditure on the economy’s output of
goods and services
• For an economy as a whole
– Income must ...
equal expenditure

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1. Gross Domestic Product
1.3 Components of GDP
• Y = C + I + G + NX
– Y = GDP
– C = consumption
– I = investment
– G = government purchases
– NX = net exports

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1. Gross Domestic Product
• Consumption
– Spending by households
– On goods and services
– Exception: ...
new housing -> b tính vào investment

• Investment
– Spending on capital equipment, inventories, and
structures
– Including household purchases of new housing
– Inventory accumulation

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1.2 The Components of GDP
• Government purchases
– Spending on goods and services
– By local, state, and federal governments
– Does not include ...
transferpayments (unempoyed, retirements)

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1. Gross Domestic Product
• Net exports = Exports - Imports
– Exports
• Spending on domestically produced goods by
foreigners
– Imports
• Spending on foreign goods by domestic residents

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Table 1
GDP and its components
Total Percent
(in billions of dollars) of total
Gross domestic product, Y 100%
Consumption, C 9,732 70
Investment, I 2,132 15
Government purchases, G 2,691 19
Net exports, NX –712 -5

This table shows total GDP for the U.S. economy in 2007 and the breakdown of GDP
among its four components.
When reading this table, recall Y = C + I + G + NX.

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 Question 1
What components of GDP (if any) would
each of the following transactions affect:
a.

b.

c.

d.
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1. Gross Domestic Product
1.4 Real Versus Nominal GDP
• GDP rises from one year to the next
– Economy - producing a ... Output of goods
and services
– And/or goods and services are being sold at ....
prices

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1. Gross Domestic Product
• Real GDP
– Production of goods and services
– Valued at ...
– Designate one year as base year
– Not affected by changes in ...
• Nominal GDP
– Production of goods and services
– Valued at ...
• For the base year
– Nominal GDP .... Real GDP
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Table 2
Real and Nominal GDP
Prices and Quantities
Price of Quantity of Price of Quantity of
Year hot dogs hot dogs hamburgers hamburgers
200
2008 $1 100 $2 50
2009 $2 150 $3 100 600

2010 $3 200 $4 150 1200

Calculating Nominal GDP

2008 200
2009 350
2010 500

Calculating Real GDP (base year 2008)

2008 100
171,4
2009
2010 240

Calculating the GDP Deflator

2008
2009
2010
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1. Gross Domestic Product
• The GDP deflator
– Measure of the ...
price level

– Ratio of nominal GDP to real GDP times 100

– =... for the base year
100

• Inflation
– Economy’s overall price level is ....
increasing from one year to next

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1. Gross Domestic Product
• Inflation rate
– Percentage change in some measure of the
price level from one period to the next

Inflation rate (year 2) = (P2 - P1)/P1 x 100%

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1. Gross Domestic Product
1.5 GDP - Good Measure of Economic Well-
being?
• GDP – a good measure of well-being
– Economy’s total ...
income

– Economy’s total ...

expenditure

• Better healthcare
• Better educational systems
•…
– Measure ability to obtain many of the inputs
into a good life
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1. Gross Domestic Product
1.5 GDP - Good Measure of Economic Well-
being?
• GDP – not a perfect measure of well-being
– Doesn’t include
• ...
Leisure

• ...
Activities outside the market

• ...
Quality of environment

• ...
Distribution of income

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 What is value added?
❑ Definition: A firm’s value added is the value of its
output minus the value of the intermediate goods the
firm used to produce that output.
❑ Exercise: A farmer grows a bushel of wheat and sells it
to a miller for $1.00. The miller turns the wheat into
flour and sells it to a baker for $3.00. The baker uses
the flour to make a loaf of bread and sells it to an
engineer for $6.00. The engineer eats the bread.
Compute: (a) value added at each stage of production
and (b) GDP
❑ GDP = value of final goods produced = sum of value
added at all stages of production
2. Consumer Price Index
2.1 Definition
– Measure of ....
overall level of prices of goods and services

– Bought by a ....
typical
Consumer
2.2 How the consumer price index is calculated
✓ Fix the basket
✓ Find the prices
✓ Compute the basket’s cost
✓ Chose a base year and compute the CPI

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Calculating the CPI and the inflation rate: an example
Step 1: Survey consumers to determine a fixed basket of goods
Basket = 4 hot dogs, 2 hamburgers
Step 2: Find the price of each good in each year
Year Price of hot dogs Price of hamburgers
2008 $1 $2
2009 2 3
2010 3 4
Step 3: Compute the cost of the basket of goods in each year
2008
2009
2010
Step 4: Choose one year as a base year (2008) and compute the CPI in each year
2008 100
2009 175
2010 250

Step 5: Use the consumer price index to compute the inflation rate from previous year
2009 75%
2010 42,8% 24
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 What Is in the CPI’s Basket?

17%
Transportation

15%
Food and 42%
beverages Housing

Education and
6%
communication 6%
6% 4% 4%

Medical care
Other goods
Recreation Apparel and services
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2. Consumer Price Index
2.3 Problems in Measuring the Cost of Living
CPI is an accurate measure of ..... of
selected goods, but it is not a perfect measure
of the cost of living.
 Question 2
List 3 major problems in using CPI as a
measure of the cost of living. Explain and give
an example for each problem.

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2. Consumer Price Index
2.4 The GDP deflator vs. consumer price index
• GDP deflator
– Reflects prices of all goods & services....produced domestically
– Compares the price of ....current year to the price of the same
goods and services in the base year
• CPI
– Reflects prices of goods & services...bought by typical consumer
– Compares the price of ...fixed basket to the price of the basket
in the base year

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 Question 3
In each scenario, determine the effects on the
CPI and the GDP deflator.
a.

b.

c.

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 Figure 2 Two measures of inflation

This figure shows the inflation rate—the percentage change in the level of prices—
as measured by the GDP deflator and the consumer price index using annual data
since 1965. Notice that the two measures of inflation generally move together. 30
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 2. Consumer Price Index
2.5 Correcting variables for inflation
a. Comparing Dollar Figures from Different Times
• Inflation makes it harder to compare dollar amounts
from different times.
• Example: the minimum wage
– $1.15 in 1964
– $5.85 in 2007
• Did min wage have more purchasing power in
1964 or 2007?
• To compare, use CPI to convert 1964 figure into 2007’s
dollars…

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2. Consumer Price Index
Amount in =
today’s dollars

If CPI 1964 =100; CPI 2007=600

The minimum wage in 1964 was ............$ in 2007’s
dollars.

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2. Consumer Price Index
b. Real and nominal interest rates
• Nominal interest rate
– Interest rate as usually reported
– Without a correction for the effects of ...
• Real interest rate
– Interest rate corrected for the effects of ...
– = Nominal interest rate – ...

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 Figure 3: Real and nominal interest rates

This figure shows nominal and real interest rates using annual data since 1965. The nominal
interest rate is the rate on a 3-month Treasury bill. The real interest rate is the nominal
interest rate minus the inflation rate as measured by the consumer price index. Notice that
nominal and real interest rates often do not move together. 34
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 Chapter summary
• Gross Domestic Product (GDP) measures both
total income and total expenditure on the
economy’s output of goods & services.
• Nominal GDP values output at current prices;
real GDP values output at constant prices.
Changes in output affect both measures,
but changes in prices only affect nominal GDP.
• GDP is the sum of consumption, investment,
government purchases, and net exports.
 Chapter summary
• The overall level of prices can be measured by
either
❑ the Consumer Price Index (CPI),
the price of a fixed basket of goods
purchased by the typical consumer, or
❑ the GDP deflator,
the ratio of nominal to real GDP