measurement - chapter 2 - southampton · measurement chapter 2 ... other measurement issues...

MeasurementChapter 2

Topics in Macroeconomics 2

Economics DivisionUniversity of Southampton

February 2009

Chapter 2 1/45 Topics in Macroeconomics

Measuring GDPMeasuring Real GDP

Other Measurement Issues

IntroductionAn Example

Gross Domestic Product

Gross Domestic Product (GDP)Dollar value of final output produced during a given period oftime within the borders of a country

(Log) Real GDP Per Capita (year 2003 pounds)

3.5

3.6

3.7

3.8

3.9

4.0

4.1

4.2

4.3

4.4

1900

1906

1912

1918

1924

1930

1936

1942

1948

1954

1960

1966

1972

1978

1984

1990

1996

2002

Year

Lo

g R

GD

P p

er

cap

ita





Approaches to Measure GDP

◮ Product approachSum of value added to goods and services in productionacross all productive units in the economy

◮ Expenditure approachAdds all spending on goods and services in the economy

◮ Income approachAdds up all incomes received by economic agentscontributing to production

NOTE: All three measures must add up to the same value(up to measurement error of course)





A Simple Economy

Consider an economy composed of the following agents:◮ A corn producer

Uses labour to produce corn◮ A pig producer

Uses corn and labour to grow pigs◮ Consumers

Supply labour, consume corn and pigs, provide loans◮ A government

Taxes firms and workers, uses labour to producegovernment supplied goods or services





Producer 1

Corn Producer

Total revenue £20 millionWages £5 millioninterest on loans £0.5 millionTaxes £1.5 million

◮ Produces 10 million bushels of corn which are sold for £2per bushel

◮ From these 6 million bushels are sold to the pig producerand 4 million to consumers

◮ Pays wages of £5 million to workers (who are theconsumers)

◮ Pays £0.5 million in interest on a loan (to some consumers)◮ Pays £1.5 million in taxes to the government





Producer 2

Pig Producer

Total revenue £30 millionCost of feed corn £12 millionWages £4 millionTaxes £3 million

◮ Buys 6 million bushels of corn from the corn producer at £2per bushel—These are intermediate goods

◮ Pays wages of £4 million to workers◮ Pays £3 million in taxes to the government◮ Sells all its production to consumers (20 million kg at £1.50

per kilo)





Producers: After-Tax Profits

After-Tax Profits

Corn producer £13 millionPig producer £11 million

Total £24 million

After-Tax Profits = Total revenue- Wages- Interest- Cost of intermediate inputs- Taxes

Before-Tax Profits = 24 + 4.5 = £28.5 million





The Government

Government

Tax revenueFrom producers £4.5 millionFrom consumers £1 million

Wages £5.5 million

◮ The Government collects taxes from consumers andproducers

◮ Uses the tax revenue to pay government workers (someconsumers) to build a bridge





Consumers / Workers

Consumers

Wage income £14.5 millionInterest income £0.5 millionTaxes £1 millionProfits distributed byproducers

£24 million

◮ Consumers work for the producers and government,earning a total of £14.5 million in wages

◮ Receive £0.5 million in interest from the corn producer◮ Pay £1 million in taxes to the government◮ Receive after-tax profits of £24 million from producers

(consumers own the production units)





GDP Using the Product or Value Added Approach

GDP Using the Product Approach

Value added—corn £20 millionValue added—pigs £18 millionValue added—government £5.5 millionGDP £43.5 million

◮ GDP is the sum of value added to goods and services inproduction across all productive units in the economy

◮ We need to subtract intermediate goods to avoid doublecounting

◮ Value added for the government is problematic: usually setto the cost of the inputs since we don’t have market pricesfor most goods produced by the government





GDP Using the Expenditure Approach

GDP Using the Expenditure Approach

Consumption (C) £38 millionInvestment (I) £0Government expenditures (G) £5.5 millionNet exports (NX ) £0GDP £43.5 million

GDP = Total Expenditures = C + I + G + NX

◮ Consumers spend all their income (£8 million on corn and£30 million on pigs)

◮ The government spends all its income◮ There is no investment nor international trade in this

example





GDP Using the Income Approach

GDP Using the Income Approach

Wage income £14.5 millionBefore-tax profits £28.5 millionInterest income £0.5 millionGDP £43.5 million

GDP = Total Income = Y = C + I + G + NX

◮ GDP is also the sum of all incomes received by economicagents contributing to production





Gross National Product (GNP)

Gross National Product (GNP)Pound value of final output produced by domestic factors ofproduction, regardless of where production takes place

Net Factor PaymentsIncome paid to domestic factors of production by the rest of theworld - Income paid to foreign factors of production by thedomestic economy

GNP = GDP + Net Factor Payments





Problems with Measures of GDP

Problems and things that are left out of GDP measures◮ Inequality◮ Non-market activity (home production)◮ Underground economy◮ Problems with value-added of the government and service

sector




Nominal and Real GDPAn ExamplePrice Indices

Nominal vs Real GDP

◮ Nominal GDP◮ Measures GDP in the current year in terms of current prices

◮ Real GDP at constant prices (base-year prices)◮ Measures GDP in the current year in terms of prices of a

base year◮ One problem with this measure is that the base year used

matters◮ Chain-weighted Real GDP

◮ Essentially uses a “rolling” base year (eg. average price oftwo consecutive years)





Data for the Example

Quantities and Prices

2002 2003 2004

Apples Oranges Apples Oranges Apples OrangesQuantity 50 100 80 120 100 160Price £1.00 £0.80 £1.25 £1.60 £2.00 £2.00

◮ Nominal GDP in 2002: 50*£1.00 + 100*£0.80 = £130◮ Nominal GDP in 2003: 80*£1.25 + 120*£1.60 = £292◮ Nominal GDP in 2004: 100*£2.00 + 160*£2.00 = £520





Nominal GDP and GDP Growth

Nominal GDP and GDP Growth

2002 2003 2004

Nominal GDP (£) 130 292 520GDP growth (%) 124.6 78.1

◮ GDP Growth from 2002 to 2003 = 292/130 - 1◮ GDP Growth from 2003 to 2004 = 520/292 - 1





Real GDP at Constant Prices: Base-Year = 2002


2002 2003 2004


◮ Real GDP in 2002 (this is nominal GDP from before): £130◮ Real GDP in 2003: 80*£1.00 + 120*£0.80 = £176 (these

are 2002 £)◮ Real GDP in 2004: 100*£1.00 + 160*£0.80 = £228







2002 2003 2004


◮ Real GDP in 2002: 50*£1.25 + 100*£1.60 = £222.5 (theseare 2003 £)

◮ Real GDP in 2003 (this is nominal GDP from before): £292◮ Real GDP in 2004: 100*£1.25 + 160*£1.60 = £381







2002 2003 2004


◮ Real GDP in 2002: 50*£2.00 + 100*£2.00 = £300 (theseare 2004 £)

◮ Real GDP in 2003: 80*£2.00 + 120*£2.00 = £400◮ Real GDP in 2004 (this is nominal GDP from before): £520





Real GDP at Base-Year Prices

Real GDP at Base-Year Prices

2002 2003 2004Base Year = 2002Real GDP (£) 130 176 228Real GDP growth (%) 35.4 29.5

Base Year = 2003Real GDP (£) 222.5 292 381Real GDP growth (%) 31.2 30.5

Base Year = 2004Real GDP (£) 300 400 520Real GDP growth (%) 33.3 30.0





Chain-Weighted Real GDP: Average Prices


2002 2003 2004


◮ Average prices from 2002 to 2003:Apples: £1.125Oranges: £1.20

◮ Average prices from 2003 to 2004:Apples: £1.625Oranges: £1.80





Chain-Weighted Real GDP


2002 2003 2004

Apples Oranges Apples Oranges Apples OrangesQuantity 50 100 80 120 100 160Avg Price £1.125 £1.20 £1.625 £1.80

◮ Real GDP using 2002–2003 rolling prices:2002: 50*£1.125 + 100*£1.20 = £176.252003: 80*£1.125 + 120*£1.20 = £234.00

◮ Real GDP growth from 2002 to 2003: 32.8%◮ Real GDP growth from 2003 to 2004: 30.2%





Chain-Weighted Real GDP at 2002 Constant Prices


2002 2003 2004

Real GDP (£) 176.25 234.00 304.67GDP growth (%) 32.8 30.2

◮ 2002: £176.25 (this is Real GDP using 2002–2003 rollingprices)

◮ 2003: £176.25*(1 + 32.8%) = £234.00◮ 2004: £234.00*(1 + 30.2%) = £304.67





Nominal and Real (Chain-Weighted) GDP [Canada]





Chain-Weighted Real GDP: Average Growth Rates

Real GDP Growth at Base-Year Prices

2002-2003 2003-2004Base Year = 2002 Real GDP growth (%) 35.4 29.5

Base Year = 2003 Real GDP growth (%) 31.2 30.5

Base Year = 2004 Real GDP growth (%) 33.3 30.0

◮ Average growth rate from 2002 to 2003:g2002−2003

c =

√1.354 ∗ 1.312 = 1.3333

◮ Average growth rates from 2003 to 2004:g2003−2004

c =

√1.305 ∗ 1.30 = 1.302





Chain-Weighted Real GDP at 2002 Constant Prices


2002 2003 2004

Real GDP (£) 130.00 173.29 225.62GDP growth (%) 33.3 30.2

◮ 2002: £130.00 (this is Real GDP using 2002 prices)◮ 2003: £130.00*(1 + 33.3%) = £173.29◮ 2004: £173.29*(1 + 30.2%) = £225.62





Nominal and Real (Chain-Weighted) GDP [U.K.]

3.5

3.6

3.7

3.8

3.9

4.0

4.1

4.2

4.3

4.4

1900

1906

1912

1918

1924

1930

1936

1942

1948

1954

1960

1966

1972

1978

1984

1990

1996

2002

Year

Lo

g R

GD

P p

er

cap

ita





Implicit GDP Price Deflator

Implicit GDP Price Deflator =Nominal GDP

Real GDP∗ 100

◮ By convention, the price deflator is 100 in the base year (ifthere is a base year)

◮ Of course, the implicit GDP price deflator depends on themeasure of real GDP







2002 2003 2004Base Year = 2002 100 165.9 228.1% increase 65.9 37.5

Base Year = 2003 58.4 100 136.5% increase 71.2 36.5

Base Year = 2004 43.3 73.0 100% increase 68.5 37.0

Chain-weighted 73.8 124.8 170.7% increase 69.2 36.8





Consumer Price Index (CPI): Base-Year = 2002


2002 2003 2004


◮ CPI in 2002: 100◮ CPI in 2003: 100*(50*£1.25 + 100*£1.60)/130 = 171.2

(71.2% increase from 2002)◮ CPI in 2004: 100*(50*£2.00 + 100*£2.00)/130 = 230.8

(34.8% increase from 2003)





Inflation from CPI and Implicit GDP Price Deflator

Inflation

2003 2004Base Year = 2002 65.9 37.5

Base Year = 2003 71.2 36.5

Base Year = 2004 68.5 37.0

Chain-weighted 69.2 36.8

CPI 71.2 34.8





Figure 2.3:Inflation from CPI and Implicit GDP Deflator





Problems measuring Real GDP and the Price Level

◮ Relative prices change over time◮ The quality of goods changes over time◮ New goods appear all the time




Savings, Wealth, and CapitalLabour Market Measurement

Some Definitions

◮ Private disposable income Y d

Y d= Y + NFP + TR + INT − T

TR: Transfers from the government to the private sectorINT : Interest on government debtT : Taxes

◮ Private sector saving Sp

Sp= Y d − C = Y + NFP + TR + INT − T − C

◮ Government saving Sg

Sg= T − TR − INT − G

◮ National saving SS = Sp

+ Sg= Y + NFP − C − G

S = C + I +G+NX +NFP−C−G = I +NX +NFP = I +CA





Nation’s Wealth

◮ The set of assets held by the country as a whole◮ Plants, equipment, and structures◮ Housing (and durables?)

◮ Wealth can be accumulated in 2 ways (S = I + CA)◮ Through investment, as addition to the nation’s capital stock◮ Through current account surpluses, as Brits accumulate

claims on foreigners

◮ Wealth and capital are stocks◮ Investment and current account are flows





Labour Market Measurement

Individuals can be in one of three labour market pools◮ Employed

Worked full-time or part-time during the last week◮ Unemployed

Not employed during the last week butactively searched for work during the last 4 weeks

◮ Out of the labour forceNeither employed nor unemployed

Unemployment rate =Number unemployed

Labour force

Participation rate =Labour force

Total working age population





Labour Market Tightness

◮ Unemployment rate is potentially useful as a measure ofmarket tightness - degree of difficulty firms face in hiringworkers

◮ But there are two potential problems:◮ Discouraged workers◮ Search intensity


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