Measuring

Macroeconomics
Aggregate Output
National income accounts
An accounting system used
to measure aggregate
economic activity.
The typical measure of
aggregate output in the
national income accounts is
gross domestic product,
or GDP.
GDP: Production and Income
There are three ways of defining GDP:
1. The value of the final goods and
services produced in the economy.
2. The sum of value added in the
economy.
3. The sum of the incomes in the
economy.
Nominal and Real GDP
Nominal GDP is the sum of the
quantities of final goods produced times
their current price.
Nominal GDP usually increases over time
because:
1. production increases
2. prices increase...
Real GDP is constructed as the sum of
the quantities of final goods times
constant (rather than current) prices.
 Nominal and Real GDP
Year Quantity of Price of cars Nominal
Cars (in ,000) GDP
1995 10 $20 $200
1996 12 $24 $288
1997 13 $26 $338
Using 1996 dollars to compute real GDP, then:

Year Quantity of Price of cars Nominal

Cars (in ,000) GDP
1995 10 $24 $240
1996 12 $24 $288
1997 13 $24 $312
Nominal and Real GDP
Nominal GDP is also called
dollar GDP
GDP in current dollars
Real GDP is also called
GDP in constant dollars
GDP adjusted for inflation
GDP in 1996 dollars
 Nominal and Real GDP
Nominal and Real
GDP U.S. GDP,
1960-2000
From 1960 to
2000,
nominal GDP
increased by
a factor of
19. Real
GDP
increased by
a factor of 4.
GDP is obviously the most
important macroeconomic
variable. (?)
Two other variables that inform us
on other important aspects of
how an economy is performing:
1. Unemployment
2. Inflation
The Unemployment Rate
labor force = employed + unemployed
L = N + U

U
Unemployment rate: u
L
The Inflation Rate
The inflation rate is the rate at
which the price level changes
(typically increases).
Two ways to measure inflation:
GDP Deflator
CPI
The GDP Deflator
nominal GDPt $Yt
Pt
real GDPt Yt

The rate of change in the GDP deflator

equals the rate of inflation:
( Pt Pt 1 )
Pt 1
The Consumer Price Index
The GDP deflator measures the
average price of domestic output,
while the consumer price index
(CPI) measures the average price of
consumption (the cost of living).
The composition of the CPIs basket
Food and bev.
5.8% 5.9%
Housing 17.6%
2.8%
Apparel 2.5%
4.5% 4.8%
Transportation

Medical care

Recreation
16.2%
Education

Communication
40.0%
Other goods and
services
Measurement Issues - CPI

The average (?) consumption

basket.
Accounting for quality of products.
Updating the consumption basket
over time.
Substitution of cheaper goods for
more expensive ones (or vice versa).
 The CPI and the GDP Deflator

The inflation
rates, computed
using either the
CPI or the GDP
deflator, are
largely similar.
Effects of Inflation

Inflation makes buyers poorer.

Inflation makes sellers richer.
Since most people are both buyers
(as consumers) and sellers (as
owners of factors of production),
the average persons income and
wealth should not change because
of inflation.
Inflation Redistributes Income
Inflation redistributes income from
those who cannot raise their prices to
those who can.
People do not raise prices if inflation is
unanticipated.
People can not raise their prices if they are
fixed by a contract.
Inflation redistributes income from
lenders to borrowers
Dead-Weight Costs of Inflation
Informational Costs
Uncertainty Costs
Menu Costs
Shoe-leather Costs
A Road-Map for the course
Output is determined by:
demand in the short run, say, a few years,
the level of technology, the capital stock, and
the labor force in the medium run, say, a
decade or so.
factors such as education, research, saving,
and the quality of government in the long
run, say, a half century or more.