CHAPTER

The Data of Macroeconomics

MACROECONOMICS

SIXTH EDITION

N. GREGORY MANKIW
PowerPoint Slides by Ron Cronovich
2007 Worth Publishers, all rights reserved

In this chapter, you will learn

the meaning and measurement of the most important macroeconomic statistics:

Gross Domestic Product (GDP) The Consumer Price Index (CPI) The unemployment rate

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Gross Domestic Product: Expenditure and Income

Two definitions:

Total expenditure on domestically-produced

final goods and services.

Total income earned by domestically-located

factors of production.

Expenditure equals income because every dollar spent by a buyer becomes income to the seller.
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The Circular Flow

Income ($) Labor

Households

Firms

Goods

Expenditure ($)
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Value added
definition: A firms value added is the value of its output minus the value of the intermediate goods the firm used to produce that output.

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Exercise:

(Problem 2, p. 40)

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 & compare value added at each stage of production and GDP
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Final goods, value added, and GDP

GDP = value of final goods produced
= sum of value added at all stages of production.

The value of the final goods already includes the

value of the intermediate goods, so including intermediate and final goods in GDP would be double-counting.

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The expenditure components of GDP

consumption

investment government spending net exports

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Consumption (C)
definition: The value of all goods and services bought by households. Includes:

durable goods
last a long time ex: cars, home appliances nondurable goods last a short time ex: food, clothing services work done for consumers ex: dry cleaning, air travel.
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U.S. consumption, 2005

$ billions
Consumption Durables Nondurables $8,745.7 1,026.5 2,564.4

% of GDP
70.0% 8.2 20.5

Services

5,154.9

41.3

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Investment (I)
Definition 1: Spending on [the factor of production] capital. Definition 2: Spending on goods bought for future use Includes: business fixed investment Spending on plant and equipment that firms will use to produce other goods & services. residential fixed investment Spending on housing units by consumers and landlords. inventory investment The change in the value of all firms inventories.
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U.S. investment, 2005

$ billions
Investment Business fixed Residential $2,105.0 1,329.8 756.3

% of GDP
16.9% 10.6 6.1

Inventory

18.9

0.2

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Investment vs. Capital

Note: Investment is spending on new capital. Example (assumes no depreciation): 1/1/2006: economy has $500b worth of capital

during 2006: investment = $60b

1/1/2007: economy will have $560b worth of capital
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Stocks vs. Flows

Flow
Stock

A stock is a quantity measured at a point in time. E.g., The U.S. capital stock was $26 trillion on January 1, 2006. A flow is a quantity measured per unit of time. E.g., U.S. investment was $2.5 trillion during 2006.
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Stocks vs. Flows - examples

stock flow a persons annual saving # of new college graduates this year the govt budget deficit

a persons wealth
# of people with college degrees the govt debt

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Now you try:

Stock or flow?

the balance on your credit card statement how much you study economics outside of
class

the size of your compact disc collection the inflation rate the unemployment rate
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Government spending (G)

G includes all government spending on goods
and services..

G excludes transfer payments

(e.g., unemployment insurance payments), because they do not represent spending on goods and services.

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U.S. government spending, 2005

$ billions
Govt spending Federal Non-defense Defense $2,362.9 877.7 290.6 587.1

% of GDP
18.9% 7.0 2.3 4.7

State & local

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1,485.2

11.9
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Net exports: NX = EX IM
def: The value of total exports (EX) minus the value of total imports (IM).
200

U.S. Net Exports, 1950-2006

2%

billions of dollars

-200 -400 -600 -800 1950

-2% -4% -6% -8% 1960 1970 NX ($ billions) 1980 1990 2000 NX (% of GDP)

percent of GDP

0%

An important identity

Y = C + I + G + NX
aggregate expenditure

value of total output

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A question for you:

Suppose a firm

produces $10 million worth of final goods but only sells $9 million worth.
Does this violate the expenditure = output identity?

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Why output = expenditure

Unsold output goes into inventory,

and is counted as inventory investment whether or not the inventory buildup was intentional.

In effect, we are assuming that

firms purchase their unsold output.

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GDP: An important and versatile concept

We have now seen that GDP measures

total income total output total expenditure the sum of value-added at all stages
in the production of final goods

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GNP vs. GDP

Gross National Product (GNP):

Total income earned by the nations factors of production, regardless of where located.

Gross Domestic Product (GDP):

Total income earned by domestically-located factors of production, regardless of nationality. (GNP GDP) = (factor payments from abroad) (factor payments to abroad)
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Discussion question:

In your country, which would you want to be bigger, GDP, or GNP? Why?

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(GNP GDP) as a percentage of GDP

U.S.A. Angola Brazil Canada Hong Kong Kazakhstan Kuwait Mexico Philippines U.K.
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1.0% -13.6 -4.0 -1.9 2.2 -4.2 9.5 -1.9 6.7 1.6

selected countries, 2002

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Real vs. nominal GDP

GDP is the value of all final goods and services

produced.

nominal GDP measures these values using

current prices.

real GDP measure these values using the prices

of a base year.

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Practice problem, part 1

2006 P good A $30 Q 900 P $31 2007 Q 1,000 P $36 2008 Q 1,050

good B

$100

192

$102

200

$100

205

Compute nominal GDP in each year. Compute real GDP in each year using 2006 as
the base year.
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Answers to practice problem, part 1

nominal GDP multiply Ps & Qs from same year 2006: $46,200 = $30 900 + $100 192 2007: $51,400 2008: $58,300

real GDP multiply each years Qs by 2006 Ps 2006: $46,200 2007: $50,000 2008: $52,000 = $30 1050 + $100 205
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Real GDP controls for inflation

Changes in nominal GDP can be due to:

changes in prices. changes in quantities of output produced.

Changes in real GDP can only be due to changes in quantities, because real GDP is constructed using constant base-year prices.

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U.S. Nominal and Real GDP,

19502006
14,000 12,000 10,000

(billions)

8,000 6,000 4,000 2,000 0 1950

Real GDP (in 2000 dollars) Nominal GDP

1960

1970

1980

1990

2000
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GDP Deflator

The inflation rate is the percentage increase in

the overall level of prices.

One measure of the price level is

the GDP deflator, defined as

Nominal GDP GDP deflator = 100 Real GDP

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Practice problem, part 2

Nom. GDP 2006 2007 2008 $46,200 51,400 58,300 Real GDP $46,200 50,000 52,000 GDP deflator Inflation rate n.a.

Use your previous answers to compute

the GDP deflator in each year.

Use GDP deflator to compute the inflation rate

from 2006 to 2007, and from 2007 to 2008.
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Answers to practice problem, part 2

Nominal GDP 2006 2007 2008 $46,200 51,400 58,300 Real GDP $46,200 50,000 52,000 GDP deflator 100.0 102.8 112.1 Inflation rate n.a. 2.8% 9.1%

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Two arithmetic tricks for working with percentage changes

1. For any variables X and Y, percentage change in (X Y ) percentage change in X + percentage change in Y EX: If your hourly wage rises 5% and you work 7% more hours, then your wage income rises approximately 12%.
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Two arithmetic tricks for working with percentage changes

2. percentage change in (X/Y ) percentage change in X percentage change in Y

EX: GDP deflator = 100 NGDP/RGDP. If NGDP rises 9% and RGDP rises 4%,

then the inflation rate is approximately 5%.

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Chain-Weighted Real GDP

Over time, relative prices change, so the base

year should be updated periodically.

In essence, chain-weighted real GDP

updates the base year every year, so it is more accurate than constant-price GDP.

Your textbook usually uses

constant-price real GDP, because:

the two measures are highly correlated. constant-price real GDP is easier to compute.
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Consumer Price Index (CPI)

A measure of the overall level of prices

Published by the Bureau of Labor Statistics

(BLS)

Uses: tracks changes in the typical households

cost of living

adjusts many contracts for inflation (COLAs) allows comparisons of dollar amounts over time
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How the BLS constructs the CPI

1. Survey consumers to determine composition

of the typical consumers basket of goods.

2. Every month, collect data on prices of all items

in the basket; compute cost of basket

3. CPI in any month equals

Cost of basket in that month 100 Cost of basket in base period

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Exercise: Compute the CPI

Basket contains 20 pizzas and 10 compact discs. prices: 2002 2003 2004 2005 For each year, compute the cost of the basket the CPI (use 2002 as the base year) the inflation rate from the preceding year

pizza $10 $11 $12 $13

CDs $15 $15 $16 $15

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Answers:
Cost of basket 2002 2003 2004 $350 370 400 CPI 100.0 105.7 114.3 Inflation rate n.a. 5.7% 8.1%

2005

410

117.1

2.5%

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The composition of the CPIs basket

Food and bev. Housing Apparel Transportation Medical care Recreation Education Communication Other goods and services
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17.4%

6.2%

5.6% 3.0%

3.8%

3.1% 3.5%

15.1%

42.4%
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Reasons why the CPI may overstate inflation

Substitution bias: The CPI uses fixed weights,

so it cannot reflect consumers ability to substitute toward goods whose relative prices have fallen.

Introduction of new goods: The introduction of

new goods makes consumers better off and, in effect, increases the real value of the dollar. But it does not reduce the CPI, because the CPI uses fixed weights.

Unmeasured changes in quality:

Quality improvements increase the value of the dollar, but are often not fully measured.
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The size of the CPIs bias

In 1995, a Senate-appointed panel of experts

estimated that the CPI overstates inflation by about 1.1% per year.

So the BLS made adjustments to reduce the bias. Now, the CPIs bias is probably under 1% per
year.

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CPI vs. GDP Deflator

prices of capital goods included in GDP deflator (if produced domestically) excluded from CPI prices of imported consumer goods included in CPI excluded from GDP deflator

the basket of goods CPI: fixed GDP deflator: changes every year
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Two measures of inflation in the U.S.

15%

Percentage change from 12 months earlier

12% 9% 6% 3% 0% -3% 1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005

GDP deflator
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CPI
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Categories of the population

employed
working at a paid job

unemployed
not employed but looking for a job

labor force
the amount of labor available for producing goods and services; all employed plus unemployed persons

not in the labor force

not employed, not looking for work
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Two important labor force concepts

unemployment rate
percentage of the labor force that is unemployed

labor force participation rate

the fraction of the adult population that participates in the labor force

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Exercise:

Compute labor force statistics

U.S. adult population by group, June 2006 Number employed = 144.4 million Number unemployed = 7.0 million Adult population = 228.8 million

Use the above data to calculate the labor force the number of people not in the labor force the labor force participation rate the unemployment rate
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Answers:

data: E = 144.4, U = 7.0, POP = 228.8 labor force

L = E +U = 144.4 + 7 = 151.4

not in labor force

NILF = POP L = 228.8 151.4 = 77.4

unemployment rate
U/L x 100% = (7/151.4) x 100% = 4.6%

labor force participation rate

L/POP x 100% = (151.4/228.8) x 100% = 66.2%
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The establishment survey

The BLS obtains a second measure of

employment by surveying businesses, asking how many workers are on their payrolls.

Neither measure is perfect, and they

occasionally diverge due to: treatment of self-employed persons new firms not counted in establishment survey technical issues involving population inferences from sample data
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Two measures of employment growth

8%

Percentage change from 12 months earlier

6% 4% 2% 0% -2% -4% 1960

1965

1970

1975

1980

1985

1990

1995

2000

2005

Establishment survey
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Household survey
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Chapter Summary
1. Gross Domestic Product (GDP) measures both total income and total expenditure on the economys output of goods & services. 2. 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. 3. GDP is the sum of consumption, investment, government purchases, and net exports.
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Chapter Summary
4. 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
5. The unemployment rate is the fraction of the labor force that is not employed.

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