Gross Domestic Product

and Real GDP

Gross Domestic Product

What? What? Where? Where?

When? When? How?How?

GDP is a measure of the value of all final goods and services newly produced in a country during some period of time.

ProductProduct WeightWeight ValueValue

Adding Unlike Products

7 tapes+ 3 CDs

_____________________________

??????

$10 per tape$25 per CD

___________________________________________

$70 worth of tapes+ $75 worth of CDs

______________________________________________________________________

$145 of tapes & CDs

Table 6.1

Intermediate & Final Goods

• Intermediate goodsGoods that undergo further processing or added-value before being sold to consumers

• Final goodsNew goods that undergo no further processing before being sold to consumers

• Double counting problem

NZ System of National Accounts

• Every day there are millions of transactions taking place in the New Zealand economy:

• businesses buy and sell goods and services

• Government collects taxes and makes transfer payments to beneficiaries

• people are paid for the work they do and use this income to buy food or pay rent.

NZ System of National Accounts

• Measuring these transactions is a huge and complex task but one which is essential to understanding how the economy operates. In New Zealand, as in most other countries, these transactions are classified, measured and recorded in the national accounts

• NZSNA

Three Ways to Measure GDP

• Expenditure approach

• Income approach

• Production approach

Expenditure Method

Table 6.2

Consumption

Investment

Government Spending

Net Exports

National Expenditure = C + I + G + (X – M)

NZSNA Terminology

Table 6.2

Consumption

Investment

Government Spending

Net Exports

Final private expenditure

Gross fixed capital formation

Government final expenditure

Exports of goods and services – Imports of goods and services.

Unplanned Investment

• Unplanned investment refers to goods produced but not sold.

• In the NZSNA these are called “increases in stocks” .

• They may be positive or negative.• The symbol is ΔR.• They should be included in GDP as

they are products produced in this time period.

GDP – Expenditure Method

National Expenditure = C + I + G + (X – M)

Increases in stocks ΔR

GDP = C + I + G + (X – M) + ΔR + sd

Statistical discrepancy used to balance

GDP – INCOME METHOD.

• The total of all incomes in the economy = National Income.

• Plus depreciation. This is an expense incurred in production however not paid out in income.

• Plus net indirect taxes. These are included in expenditure method (products are measured at market price) and so must be added with this method.

NZSNA Terminology

Table 6.2

Wages and salaries

Gross Profits

Depreciation

Net Indirect Taxes

Compensation of Employees

Operating Surplus

Consumption of fixed capital

Indirect taxes minussubsidies.

GDP – INCOME METHOD

Compensation of Employees

Operating Surplus

Consumption of Fixed capital

Net Indirect Taxes

Calculating GDP

  $ Million

Operating Surplus 21,000

Imports of Goods and Services 15,000

Increase in Stocks 2,000

Consumption of Fixed Capital 4,000

Final Consumption Expenditure by Government 10,000

Final consumption Expenditure by Private Sector 41,000

Compensation of Employees 35,000

Exports of Goods and Services 16,000

Net Indirect Taxes 6,000

Gross Fixed Capital Formation 12,000

GDP Income Method

Calculating GDP

  $ Million

Operating Surplus 21,000

Imports of Goods and Services 15,000

Increase in Stocks 2,000

Consumption of Fixed Capital 4,000

Final Consumption Expenditure by Government 10,000

Final consumption Expenditure by Private Sector 41,000

Compensation of Employees 35,000

Exports of Goods and Services 16,000

Net Indirect Taxes 6,000

Gross Fixed Capital Formation 12,000

GDP Expenditure Method

GDP – PRODUCTION METHOD

• The “value-added” for all firms in the economy are added to calculate GDP.

• Value-added can be measured by subtracting purchases from sales.

GDP – PRODUCTION METHOD

$100

$150$200

$300

Tree GrowerSawmill. Buys trees, makes furniture.

Wholesaler. Buys furniture from sawmill, sells to shops.

Consumers buy from shop.

Value- AddedTree Grower $100Sawmill $50Wholesaler $50Shop $100Total $ 300

Consumer Price Index

• Is an index which measures changes in the price level for a country.

• The index is a “weighted” one which means products which we spend more of our income on have a higher weighting.

• The base year (the year the index series begins) is 1000

Consumer Price Index

Year CPI % price level change

2002 1000

2003 1222

2004 1300

2005 2300

22.2%30%

130%

Measures rate of change in price level from the

base year (2002).

Rate of change between 2003 and

2004 is

1300 – 1222 * 100 1222

6.4%

Change in CPI

• An increase in the CPI is called inflation. The price level increases. The purchasing power of money decreases.

• A decrease in the CPI is called deflation.

• Disinflation refers to a decrease in the inflation rate. The CPI is increasing at a decreasing rate.

REAL GDP

• Real GDP is nominal GDP adjusted for any changes in the price level.

• Real GDP is a better measure than nominal GDP as it is a better measure of quantity of production. Any inflationary or deflationary effects are eliminated.

REAL GDP

In base year production is 4 bananas @ $1

each. Nominal GDP at market prices is $4

In the second year nominal GDP is 4

bananas @ $2 each = $8

CPI

1000

Even though nominal GDP has increased there is no increase in production.

Real GDP in year two is $4/2000 * 1000 = $4

CPI

2000

The Business Cycle

The rate of change in real GDP for economiesoften follows a cyclic pattern as is evident above.

Times of economic growth are often followed by times of A slowing rate of increase or even a decrease.

The Business Cycle

In times of rapid economic growth an economy will usually

experience;

Increasing employmentDecreasing unemployment

Increasing incomesIncreasing government revenue

Decreasing government transfers

Increasing importsIncreasing C+I

Increase in inflationary pressures

Lower output gap (difference between real output and

potential output) or capacity constraints.

%GDP change

Time

Economic boom

The Business Cycle

In times of falling growth an economy will usually

experience;

Decreasing employmentIncreasing unemployment

Decreasing incomesDecreasing government revenueIncreasing government transfers

Decreasing C+IDecrease in inflationary

pressuresHigher output gap

%GDP change

Time

Economic

Recession