Economic Well Being
Agec 217, Summer 2007
Economic Well Being
• Macroeconomics
The study of the economy as a whole
Circular Flow Diagram (Mankiw)
Copyright © 2004 South-Western
Spending
Goods andservicesbought
Revenue
Goodsand services
sold
Labor, land,and capital
Income
= Flow of inputs and outputs
= Flow of dollars
Factors ofproduction
Wages, rent,and profit
FIRMS•Produce and sell
goods and services•Hire and use factorsof production
•Buy and consumegoods and services
•Own and sell factorsof production
HOUSEHOLDS
•Households sell•Firms buy
MARKETSFOR
FACTORS OF PRODUCTION
•Firms sell•Households buy
MARKETSFOR
GOODS AND SERVICES
Economic Well Being
Macroeconomic Indicators• Employment and Unemployment• Income• Wealth• Inflation• Stock market indices• Interest rates• Retirement solvency• Output (GDP)
Economic Well Being
Economic Well Being
• Gross Domestic Product (GDP)
– The market value of all final goods and services produced within a country in a given period of time• Final goods (intermediate goods not included)• Produced within borders, by citizens or foreigners• Time period: typically one year
GDP
• Gross Domestic Product = C + I + G + NX
C ConsumptionI InvestmentG Government SpendingNX Net Exports
Net Exports = Exports - Imports
GDP
• Per capita GDP– Gross Domestic Product per person in a country
• Nominal GDP– Uses prices in the year of the measurement
• Real GDP– Uses prices for a “base” year to enable year to
year comparisons
GDP Values (US, 2001)
Total in Trillions of
Dollars
Percent of Total
Consumption (C) $7.0 69%
Investment (I) $1.6 16%
Government Purchases (G) $1.9 18%
Net Exports (NX) -$0.3 -3%
Total $10.1 100%
Historical GDP
GDP Measured
• Assume a diet of Pizza and Soda
– 2005: 500 pizza slices and 300 sodas• Prices: pizza = $1.00 and soda = $0.50
– 2006: 550 pizza slices and 330 sodas• Prices: pizza = $1.10 and soda = $1.00
GDP Measured
• Nominal GDP’s
– 2005• 500 * $1.00 + 300 * $0.50 = $650
– 2006• 550 * $1.10 + 330 * $1.00 = $935
– Percent change = 44% growth
GDP Measured
• Real GDP’s (Base year = 2005)
– 2005• 500 * $1.00 + 300 * $0.50 = $650
– 2006• 550 * $1.00 + 330 * $0.50 = $715
– Percent change = 10% growth
GDP Measured
• GDP Deflator (measure of inflation) for base year(Inflation: the percent increase in price level)– Calculation
• Nominal GDP / Real GDP * 100
– 2005 (2005 base)• GDP Deflator = ($650 / $650) * 100 = 100
– 2006 (2005 base)• GDP Deflator = ($935 / $715) * 100 = 131
GDP Measured
• Using the deflator
– Calulation• Nominal GDP / GDP Deflator * 100 = Real GDP
– 2006• ($935 /131) * 100= $715
GDP
• Recession: Two quarters of declining real GDP
• Depression: A severe or long recession
GDP• Recession: Negative % change in real GDP for
two consecutive quarters
% Change GDP =
(Current Period GDP – Previous Period GDP) *100--------------------------------------------------------
Previous Previous GDP
GDP rationale
• Real GDP per capita is a measure of income and buying power in an economy. It measures our ability to produce the items we need and desire.
• Recessions as measured by GDP often arrive with stock market drops beforehand and higher unemployment afterwards.
Critiques of GDP
• Household Income and GDP
Critiques of GDP
• Consumer Confidence Index (Conference Board): Is it predictive of actual conditions?– 1. Current business conditions. – 2. Business conditions for the next six months. – 3. Current employment conditions. – 4. Employment conditions for the next six months. – 5. Total family income for the next six months.
• Frogs in water
Critiques of GDP
• Human Development Index
– Life Expectancy– Education (literacy and enrollment)– GDP
http://en.wikipedia.org/wiki/Human_Development_Index
Critiques of GDP
• Human Development Index
Critiques of GDP
• What we spend money on is not always positive (car accident).
• GDP does not include how much time we spend on labor
• Some of production has environmental impacts, for which the costs are not always measured
Summary
• GDP is comparatively easy to measure and consistently used to determine a country’s overall economic health as it has links to many measures of well being. However, GDP may not capture all aspects of well being that are important to a nation’s citizens.