You are on page 1of 67

CB2402 Macroeconomics

GDP: Measuring Total Production
and Income

Japanese Economy Enters Recession
• In Q3 2014, real gross domestic product fell
1.6%, following a 7.3% contraction in the Q2.
• Japan met one definition of a recession: two
consecutive quarters of contraction.

Japan Falls Into Recession. Wall Street
Journal. 17 November 2014.

• The prime minister Abe
delayed the sales tax
increase, along with the
Bank of Japan’s move to
pump tens of billions of
dollars of cash into the
economy in 2014, will
keep so-called
Abenomics to continue.

consumption . a fall of 26% money supply to stimulate around two years. Bloomberg • The exchange rate drops from 80 • One of the arrows of JPY/US to 120 Abenomics is to increase the JPY/US.

000 in two years (70% increase) .• The Nikkei index increase from around 10.000 to 17.

vs 3.2%.3% growth expected.2 percent annual rate last quarter (Q3). CNBC. the Commerce Department said. 21 December 2017 . economy grew at its fastest pace in more than two years in the Q3 2017. • Growth was powered by robust business spending. Final reading on US Q3 GDP is up 3.S. US recovery • The U. • Gross domestic product expanded at a 3. … tax cuts passed by Congress this week.

From the Economist

Outlines
1. What is Gross Domestic Product (GDP)
2. Calculation of GDP
3. Nominal versus Real GDP
4. Limitations of the GDP Concept.

Microeconomics and Macroeconomics
• Microeconomics is the study of how
households and firms make choices, how they
interact in markets, and how the government
attempts to influence their choices.
• In contrast, macroeconomics is the study of
the economy as a whole (aggregate behavior),
including topics such as inflation,
unemployment, and economic growth.

GDP fluctuates around its trend. What are economic fluctuations? • In the short run. – Recessions: periods of falling real incomes and rising unemployment – Depressions: severe recessions (very rare) – Recovery: periods of rising real incomes and falling unemployment – Boom: Peak of the business cycle • Short-run economic fluctuations are often called business cycles. .

Professor Kuznet presented the original formulation of GDP. It is the birth of GDP. History of GDP • Before World War II. companies and the government in a single measure. . there was no formal/systematic way to measure a country’s aggregate (total) output. • Near the end of World War II (1944). • His idea is to capture all economic production by individual.

) . (*measures of aggregate output for earlier times. History of GDP • Measures of aggregate output have been published on a regular basis in the US since October 1947. but these have been constructed retrospectively.

were given the Nobel Prize (in 1971) in Economics for their contributions to the development of the national income and product accounts. Simon Kuznets.Two economists. a great contribution in empirical achievement. and Richard Stone. Simon Kuznets Richard Stone . from Cambridge University. from Harvard University.

.What is Gross Domestic Product (GDP) • Gross domestic product (GDP) is the total market value of all final goods and services produced within a given period (one year) by factors of production located within a country.

• The best practical way is to value each good and service in monetary terms. Market Values • We cannot add together the number of cars. and the best measure of this that we have is the price that each good or service is sold for. • Market Value = Price x output . and all other goods and services without agreeing on a common way to measure them. melons. haircuts. a.

• GDP excludes intermediate goods which are the goods that are produced by one firm for use in further processing by another firm. b. • Otherwise. . double counting exist. Final Goods and Services • Final goods and services are goods and services produced for final use.

Example Value Added in the Production of i-phone Stage Of Production Value Of Sales Value Added (1) Idea 2500 2500 (2) Assembly 3500 1000 (3) Advertisement 5000 1500 (4) Retail sale 6000 1000 Total value added $6000 What is the GDP in this example?  Not to add all value of sales. its not final .

Old output is not counted in current GDP because it was already counted when it was produced. • GDP does not count transactions in which money or goods changes hands but in which no new goods and services are produced. c. . Exclusion of old outputs (During a Period of Time) • GDP is concerned only with new. production. or current.

regardless of where the output is produced. but Hong Kong’s GNP changed . Labour. Hong Kong’s GDP unchanged.  GDP is within a country.g. Exclusion of Output Produced Abroad • GDP is the value of output produced by factors of production located within a country. GNP is by citizens e.… • Gross national product (GNP): The total market value of all final goods and services produced within a given period by factors of production owned by a country’s citizens. in US.  exclude foreign production  Factors of production: Land.c.

because every dollar of expenditure by a buyer is a dollar of income for the seller. . Income and Expenditure • Gross Domestic Product (GDP) measures total income of everyone in the economy. income equals expenditure. For the economy as a whole. • GDP also measures total expenditure on the economy’s output of goods and services.

. revenue.g. rent. capital. – Factor payments are payments to the factors of production. and income. wages. land. • Notice that: – Factors of production are inputs like labor. and natural resources. factor payments. • illustrates GDP as spending. interest) . The Circular-Flow Diagram • is a simple model to show economic activity. (e.

• Household’s income is Tax Transfer equal to its spending. Payment Expense by Household Government = Consumption Exoebb Tax •The circular flow and the measurement of GDP © Pearson Education Limited 2015 22 of 41 . The Circular Flow and the Measurement of GDP • In a very simple model of the economy. we could start with households and firms.

Adding Government to the Circular Flow How does the government affect economic activity? • It taxes households and firms. •The circular flow and the measurement of GDP © Pearson Education Limited 2015 23 of 41 . • It uses those taxes to buy goods and services. and to make transfer payments— payments to households for which the government does not receive a good or service in return.

Adding the Rest of the World to the Circular Flow Economic activity with the rest of the world. these are known as imports. •The circular flow and the measurement of GDP © Pearson Education Limited 2015 24 of 41 . • Households buy goods and services from firms in other countries. • Firms sell goods and services to households in other countries. these are known as exports.

Adding the Financial System to the Circular Flow The Financial system. • Households can save some incomes in the financial system (banks). •The circular flow and the measurement of GDP © Pearson Education Limited 2015 25 of 41 . • These financial system firms lend money to other firms and the government.

measures the total amount spent on all final goods and services during a given period. and profits—received by all factors of production in producing final goods and services. [focus] • Income approach .measures the income— wages. Calculation of GDP • Expenditure approach . rents. • Value added approach A method of summing the value added in the economy (side 17) [focus] . interest.

The Expenditure Approach There are four main categories of expenditure: • Personal consumption expenditures (C): household spending on consumer goods • Gross private domestic investment (I): spending by firms and households on new capital. or exports (EX) minus imports (IM) GDP = C + I + G + NX GDP = Y = Output . plant.IM): net spending by the rest of the world. inventory. that is. and new residential structures • Government consumption and gross investment (G) • Net exports (NX= EX . equipment.

Hong Kong Government Half yearly Economic Report 2017 .

you will sell durable goods . (i) Durable goods Goods that last a relatively long time. such as cars and household appliances (e. computer). a. Personal Consumption Expenditures (C) Personal consumption expenditures (C) Expenditures by consumers on goods and services.  Proxy for Recession: If the economy is recession.g.

such as legal and medical services and education. such as food and clothing.(ii) Nondurable goods Goods that are used up fairly quickly. . (iii) Services The things we buy that do not involve the production of physical things.

Hong Kong Government Half yearly Economic Report 2017 .

Gross Private Domestic Investment (I) Gross private domestic investment (I) Total investment in capital—that is. plants. equipment. (i) nonresidential investment (fixed investment) Expenditures by firms for machines. b. tools. and so on. plants. the purchase of new housing. . and inventory by the private (or nongovernment) sector. (purchase of new capital (k)) (ii) residential investment Expenditures by households and firms on new houses and apartment buildings.

Gross Private Domestic Investment (I) (iii) change in business inventories The amount by which firms’ inventories change during a period. Inventories are the goods that firms produce now but intend to sell later. Change in inventories = Inventories at the end of year – Inventories at the beginning of the year .

It can say: Property industry supporting Hong Kong Economy Hong Kong Government Half yearly Economic Report 2017 .

Government Consumption and Gross Investment (G) Government consumption and gross investment (G) Expenditures by governments for final goods and services such as teachers’ salaries. and aircraft carriers. highways. G = Export – Import Export = Goods + Services . since those do not result in immediate production of new goods and services. This does not include transfer payments.

Net exports (NX = EX . The figure can be positive or negative. .IM) The difference between exports (sales to foreigners of domestically produced goods and services) and imports (domestic purchases of goods and services from abroad).

Hong Kong Government Half yearly Economic Report 2017 .

China has stock market crisis Hong Kong Government Half yearly Economic Report 2017 .In 2013.

change in GDP will larger than 0. since C = $2000. 3. C = $3000 . There is a big stock market boom. you purchase 3 computer for each $1000. the change in GDP will larger than 0. I =$-2000. change in GDP = 0. I = $2000  In 2017. You produce 5 computers this year. the Y (output) will be $5000. .  Speculation gain should not be counted in GDP as it is not production. You buy a second hand Mankiw Textbook in Shenzhen. Many people gain money from speculating in stock. What components of GDP would each of the following transaction affect? 1. Then.  Increase in G. but 2 computers are unsold.  In 2016. Hong Kong government hires more civil servants. the change in GDP is 0. 4. 2. But in terms of commission on services for broker. you resell it to your classmate  Since it’s second hand and production is not within Hong Kong.

Hong Kong Property Bubble 320 280 240 200 160 120 80 40 0 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 12 14 CLASS_A CLASS_B CLASS_C From Rating and Valuation Department .

Line = Property Supply .000 40 20.000 160 80.000 120 60.000 280 140. Hong Kong Property Bubble 320 160.000 240 120.000 0 0 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 12 14 CLASS_A CLASS_B CLASS_C SUPPLY_TOTAL From Rating and Valuation Department Bar = Land Supply.000 200 100.000 80 40.

China stock market crisis in 2015 Hong Kong Government Half yearly Economic Report 2017 .

Hong Kong property price has increased from 100 to around 349. B and C. in 2017). • According to Demographia’s report in 2017. • Is the soaring property price sustainable? . it takes 18. Hong Kong’s Property Bubble • Starting from 2009.1 years to buy a property in Hong Kong.1 (Average of Class A.

Demographia report 2017 .

.

(i) Affordability decrease Hong Kong Government Half yearly Economic Report 2017 .

(ii) Supply of property increase .

Reserve meeting Is it the time to buy property in Hong Kong? Justify. .(ii) Fed Fund Rate Increasing Interbank (Mr. Powell) The Probability of rate increase for 21 March 2018 Fed.

Nominal versus Real GDP • Inflation can distort economic variables like GDP. so we have two versions of GDP: One is corrected for inflation. It is not corrected for inflation. Real GDP is corrected for inflation. .  Current Price x Current Output (Q) • Real GDP values output using the prices of a base year. the other is not. • Nominal GDP values output using current prices.

GDP = Current Price x Current Output (Q) EXAMPLE: 2.50 1100 2004 $12 600 $3. N.000 37.800 .00 1000 2003 $11 500 $2.9% 2004: $12 x 600 + $3 x 1200 = $10. N.250 30.5% 2003: $11 x 500 + $2.00 1200 Nominal GDP Compute nominal GDP in each year: Growth Rate  Increase: 2002: $10 x 400 + $2 x 1000 = $6.GDP Growth Rate Pizza Latte year P Q P Q 2002 $10 400 $2.50 x 1100 = $8. 1.

00 1200 Compute real GDP in each year.200 16.EXAMPLE (Base year method): Pizza Latte year P Q P Q 2002 $10 400 $2. Real GDP using 2002 as the base year: Growth Rate  Increase: 2002: $10 x 400 + $2 x 1000 = $6.000 20.0% 2003: $10 x 500 + $2 x 1100 = $7.400 .7% 2004: $10 x 600 + $2 x 1200 = $8.00 1000 2003 $11 500 $2.50 1100 2004 $12 600 $3.

EXAMPLE: Nominal Real year GDP GDP 2002 $6000 $6000 2003 $8250 $7200 2004 $10. • real GDP is measured using constant prices from the base year (2002 in this example). . • nominal GDP is measured using the (then) current prices.800 $8400 In each year.

 The change in real GDP is the amount that GDP would change if prices were constant (i.EXAMPLE: Nominal Real year GDP Inflation GDP Inflation 2002 $6000 $6000 37.0% 2003 $8250 $7200 30. Hence.800 $8400 • The change in nominal GDP reflects both prices and quantities. real GDP is corrected for inflation. .9% 16.. if zero inflation).5% 20.e.7% 2004 $10.

The GDP Deflator • The GDP deflator is a measure of the overall level of prices. • Definition: nominal GDP GDP deflator = 100 x real GDP  One way to measure the economy’s inflation rate is to compute the percentage increase in the GDP deflator from one year to the next. .

800 $8400 128.0 14.800/8400) = 128.6 2004: 100 x (10.6 2004 $10.0 2003: 100 x (8250/7200) = 114.EXAMPLE: Nominal Real GDP year GDP GDP Deflator 2002 $6000 $6000 100.6 .6 12.6% 2003 $8250 $7200 114.2% Compute the GDP deflator in each year: 2002: 100 x (6000/6000) = 100.

Compute nominal GDP. using 2010 as the base year. Exercise Year Price of Quantity Price of Quantity Milk of Milk Honey of Honey 2010 $1 100 $2 50 2011 $1 200 $2 100 2012 $2 200 $4 100 a. For each year. identify the variable that does not change. b. c. and the GDP deflator in 2011 and 2012 from the preceding year. Did economic well-being rise more in 2011 or 2012? Explain . Compute the percentage change nominal GDP. real GDP. and the GDP deflator for each year. real GDP. Explain in words why your answer makes sense.

GDP 2010 $1 x 100 + $2 x 50 $200 100 (base year) =$200 2011 $1 x 200 + $2 x $1 x 200 + $2 x $400/$400 x 100 [Output Increase] 100 100 =100 =$400 =$400 2012 $2 x 200 + $4 x $1 x 200 + $2 x $800/$800 x 100 [Inflation] 100 100 =200 =$800 =$400 (100% of 2011) . Current Price x Real GDP GDP Deflator Current Quantity N.

. GDP and Economic Well-Being • Real GDP per capita is the main indicator of the average person’s standard of living. such as DIY product – distribution of income – Political freedom and social justice are not included in real GDP. – but GDP is not a perfect measure • GDP does not measure – the quality of the environment – leisure time – non-market activity.

The quality of the environment Polluted river in Guangdong (Reuters) Land pollution in Hainan (China Daily) .

The quality of the environment Beijing Smog . (Yahoo) .

.

• By adding the non-health impacts of pollution.8% of GDP.3% of its GDP in 2007. .• The World Bank report finds that the health costs of air and water pollution in China amount to about 4. the total cost of air and water pollution in China is about 5. which are estimated to be about 1.5% of GDP.

. China’s poor (in rural area) are disproportionately affected by the environmental health burden and only six provinces bear 50% of the effects of acid rain in the country.• The burden of both air and water pollution is not distributed evenly across the country. • For example.

2010 Real Time Air Quality http://aqicn.PM2.org/city/beijing/ .5 Concentration in China.

in Inner Mongolia. largest Chinese source of rare earth Photograph: David Gray/Reuters . Case Study – Rare Earth in China The town of Baotou.

• China accounts for 97% of global output of it. Case Study – Rare Earth in China • Rare earth is essential to advanced technology from smartphones to GPS receiver. . with two-thirds produced in Baotou. wind farms to electric cars.

youtube. https://www. a lot of toxic chemicals must be used. • The villagers have obtained the promise of financial compensation.youtube. These chemicals cause cancers to people.com/watch?v=t_UdqZdFr- w&list=PL5mnQL6klRERkVxQo_kZHrOEV3karvsA_ https://www. as yet only partly fulfilled.com/watch?v=ZHJ3G- yoet0 Rare-earth mining in China comes at a heavy cost for local villages. 7 August 2012 . Case Study – Rare Earth in China • To extract rare earth. Guardian.