Review of the Spending Approach to Measuring GDP Example 1998.3 (billions of dollars)

note new symbols

Gross Domestic Product Y 8526.5Consumption C 5843.0 68.5 %Investment I 1361.8 16.0%Net Exports X - 168.8 - 2.0%Government purchases G 1490.5 17.5%

Could you compare the spending shares in 1998 with those of 1996

shown in Fig 20.3 of the text?20_03

100

90

80

70

60

50

40

30

20

10

PERCENT OF GDP

68percent

Governmentpurchases

Investment

Consumption

15percent

19percent

The Production Approach:Value Added

• Perhaps the most straightforward way of measuring GDP

• But must avoid double counting

• value-added = value of production less value of intermediate goods

• At each stage of production add value-added only to avoid double counting

A simple example showing how value-added avoids double counting

20_05

Caribou Coffee in

Minneapolis

Value added by growing and picking beans

Value added by roasting and packaging

Value of beans

Value added by shipping and wholesale services

Value of roasted and packaged beans

Value added by espresso machine and service at a cafe

Value of shipped, roasted, and packaged beans purchased by Caribou Coffee

Va

lue

of

a c

up

of

esp

res

so

($

1.5

0)

Coffee grower

Coffee roaster

Coffee shipper and wholesaler

The Income Approach

• If we add up what everyone earns we get yet another measure of GDP

• Use an example to show how this works

Example of the income approach (1998.3 estimates)

Aggregate Income 8526Labor Income: wages, salaries 5133

Capital Income: Profits, interest, rent 1789Depreciation 912Indirect Business Taxes 648Net income of foreigners 18Statistical Discrepancy 26

WGAD

• Now we see why the G is in GDP– GDP includes production of goods used to

replace depreciated goods– that is, GDP is gross because it includes

depreciation

• net domestic product is GDP - depreciation

National Saving

• Income and spending approaches provide a way to measure national saving (S)

• Definition: for a nation S = Y - C - G

• The spending identity shows that

• Y = C + I + X + G

• thus we get Y - C - G = I + X which implies S = Y - C - G = I + X

• Or S - I = X

An Important Implication of S - I = X

• If S < I, then• X<0 and the country

has a trade deficit• Example

– United States now

• If S > I, then• X>0 and the country

has a trade surplus• Example

– Japan now

Circular flow diagram: does it help you understand?20_04

REST OF THE WORLD

Taxes

Consumption (C) C

Pri

vate

savin

gGovernment saving

Transfers

Aggregate income (Y)

C + I + G + X

Inve

stm

ent (

I)

Sav

ing

ava

ilabl

e fo

r in

vest

me

nt (

I)

C + GC + I + G

Government purchases (G)

National saving (S)

Aggregate expenditure (Y)

S - I

Net exports

(X)

FIRMS

CONSUMERSGOVERNMENT

Real GDP

• Look at any news report about GDP (example Wall Street Journal)

• “Here are some of the major components of gross domestic product in billions of chained 1992 dollars”

• What are chained 1992 dollars?– Are they locked up in jail?

Example: Wall Street Journal report

2nd Qtr.1998

3rd Qtr.1998

GDP—billions ofchained 1992 $

7498.6 7559.5

Implicit PriceDeflator(% change)

0.9 0.8

Difference between real and nominal GDP over time

20_06

B ILLIONS

OF DOLLARS

1982 1984 1986 1988 1990 1992 1994 1996

3,200

4,400

6,000

7,600

Nominal GDP

Real GDP in chained

(1992) dollars

End of Lecture