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GDP and theStandard of

Living

Chapter

5ANSWERS TO CHECKPOINTS

CHECKPOINT 5.! GDP" In#o$e" and E%&endit're1. Classify the following items as a final good or an intermediate good and

expenditure on final goods as consumption expenditure or investment:

The fertilizer bought by a Florida tomato grower.

The fertilizer is an intermediate good because it will be used to growtomatoes.

The ringtone you bought today.

The ringtone is a final good because you are the final user. It is part ofconsumption expenditure.

ew computers bought by !epsiCo.

The computers are a final good. Because they are purchased by Pepsi, theyare investment.

The aircraft bought by "outhwest #irlines.

The aircraft bought by Southwest irlines is a final good. Because they arepurchased by Southwest irlines, they are investment.

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() Part 2 . MONITORING THE MACROECONOMY

$. Figure 5.1 shows the flows of expenditure and

income on %ig Foot &sland. &n $''() W was *+'

million, V was *$' million, U was *15 million,X

was *$5 million, andZ was zero. Calculate total

income) and net taxes.

Total income e!uals total expenditure and total

expenditure e!uals the sum of consumptionexpenditure, investment, government expenditureon goods and services, and net exports of goodsand services. In "igure #.$, consumptionexpenditure e!uals flow W and is %&' million(investment is Xand is %)# million( governmentexpenditure on goods and services is flow Uandis %$# million( and, net exports of goods andservices is flowZand is %'. So total expendituree!uals %$'' million. Total income e!uals totalexpenditure, so total income e!uals %$'' million.To calculate net taxes, subtract from households*total income their consumption expenditure andtheir saving. Total income e!uals totalexpenditure, so total income e!uals %$'' million. +onsumption expenditure is%&' million and saving, which is flow V, is %)' million, so net taxes e!uals %)'million.

CHECKPOINT 5.*! +ea,'ring -.S. GDPThe table shows some of the items in the

-.". ational &ncome and !roduct

#ccounts in $''5. -se the table to answer

xercises 1) $) and /.

1. -se the income approach to calculate net domestic product at factor cost and

the statistical discrepancy.

sing the income approach, net domestic product at factor cost - ages /

Interest, rent, and profit - %&.' trillion / %).0 trillion - %1.0 trillion.The statistical discrepancy e!uals the 23P expenditure total minus the 23Pincome total. 23P calculated using the expenditure approach is %$$.' trillion. To

Ite$

A$o'nttri//ion,

of do//ar,0

Wages 6.0Government expen!t"re 2.0Interest# rent# an pro$!t 2.%Cons"mpt!on

expen!t"re

&.%

Investment '.6Net exports 0In!re(t taxes )esss"*s!!es

0.&

Reta!ne pro$!ts '.6Trans$er pa+ments '.,Persona) !n(ome taxes '.'GNP '0.-epre(!at!on '.,

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C/apter - . GP an t/e tanar o$ 1!v!ng (1

calculate 23P using the income approach, we add net domestic product at factorcost, indirect taxes less subsidies, and depreciation. So 23P using the incomeapproach e!uals %1.0 trillion / %'.4 trillion / %$.5 trillion - %$'.0 trillion. So the

statistical discrepancy e!uals %$$.' trillion %$'.0 trillion - %&'' billion.

$. Calculate the differences between 0!) 0!) and -.". national income.

26P e!uals 23P plus net factor income from abroad, so the difference between

the two is net factor income from abroad. 6et factor income from abroad - 26P23P, so using the data in the problem, net factor income from abroad - %$$.'

trillion %$'.# trillion - %#'' billion.

.S. national income - 26P depreciation statistical discrepancy - %$'.#

trillion %$.5 trillion %&'' billion - %4.& trillion.

/. Calculate disposable personal income. 2hat percentage of total income is

disposable personal income and what percentage of disposable personal

income is consumption expenditure3

3isposable personal income - national income retained profits plus transfer

payments personal income taxes - %4.& trillion %$.& trillion / %$.5 trillion

%$.$ trillion - %&.) trillion.

s a percentage of .S. national income, disposable personal income is 7%&.)

trillion 8 %4.& trillion9 $'' - 1$.& percent. s a percentage of disposablepersonal income, consumption is 7%4.0 trillion 8 %&.) trillion9 $'' - $$:

percent.

4. The two tables show some data for an economy. &f the

base year is $'') calculate the economy6s nominal

0! and real 0! in $''+.

6ominal 23P e!uals 7&' apples %'.#' per apple9 / 71' oranges %'.)# per

orange9 - %#'. ;eal 23P in )''& is calculated using the )''& !uantities and the

)''1 prices. ;eal 23P e!uals 7&' apples %$.'' per apple9 / 71' oranges

%).'' per orange9 - %))'.

GDP data for *22)

Ite$ 3'antit4 Pri#e

App)es 60 0.-0Oranges 30 0.2-

GDP data for *22(

Ite$ 3'antit4 Pri#e

App)es '60 '.00

Oranges 220 2.00

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(( Part 2 . MONITORING THE MACROECONOMY

CHECKPOINT 5.! The -,e and Li$itation, of Rea/ GDP1. The -nited ations 7uman evelopment 8eport gives the following data for

real 0! per person in $''$: China) *4)5', 8ussia) *)$/', Canada) *$9)4',

-nited "tates) */5)(5'. ife expectancy at birth is (9./ in Canada) ((.' in the

-nited "tates) ('.5 in China) and ++.( in 8ussia. Freedom 7ouse rates political

freedom as follows: Canada and the -nited "tates) 1.1 ;1.' is the most free

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C/apter - . GP an t/e tanar o$ 1!v!ng (6

ANSWERS TO CHAPTER CHECKPOINT

Pro7/e$,1. The figure shows the flows of income and

expenditure in an economy. &n $''() U was *$

trillion) Vwas *1.5 trillion) Wwas *( trillion)

X was *1.5 trillion) andZ was zero. Calculate

total income) net taxes) and 0!.

Total income 7which is flow Q9 e!uals totalexpenditure, the sum of consumptionexpenditure, investment, governmentexpenditure on goods and services, and netexports of goods and services. "low U isgovernment expenditure on goods and services,G( flow Wis consumption expenditure, C( flowXis investment,I( and flowZis net exports ofgoods and services, NX. Total expendituree!uals %4 trillion / %$.# trillion / %) trillion /%', which is %$'.# trillion, so total income also

e!uals %$'.# trillion.6et taxes e!ual total income minusconsumption expenditure and saving. Totalincome is %$'.# trillion. +onsumptionexpenditure is %4 trillion. Saving is the flowinto the financial marept on ;you guessed itnce again, all these data were fortunately saved from the fire, so netdomestic product at factor cost - %),''' / %#'' - %),#''.

The statistical discrepancy e!uals 23P from the expenditure approach, %5,'''from problem ), minus 23P from the income approach, %),:''. So the statisticaldiscrepancy is %$''.

26P e!uals 23P plus net factor income from abroad. "rom problem ), 23P is%5,'''. 6et factor income from abroad is %#'. So 26P e!uals %5,''' / %#' -%5,'#'.

#n economy produces only fun and food. The table shows the @uantities of fun and

food produced and the prices of fun and food in $''( and $''. The base year is

$''(. -se this information to answer !roblems 4 and 5.

4. Calculate nominal 0! in $''( and $''.

6ominal 23P in )''4 is e!ual to 70' units of fun %)9 / 7&' units of food %59

- %)&'. 6ominal 23P in )''1 is e!ual to 700 units of fun %59 / 74) units of

food %)9 - %)4&.

5. Calculate the percentage increase in production in $''.

The percentage increase in production is e!ual to the percentage increase in real23P. In the base year, real 23P e!uals nominal 23P, so real 23P in )''4 is

%)&'. sing prices from )''4, 23P in )''4 is %)&' and 23P in )''1 is %5'0.

sing )''4 prices, real 23P grew ?7%5'0 %)&'9@%)&'A x $'', or $&.: percent.

GDP data for *221

Ite$ 3'antit4 Pri#e

4"n %0 24oo 60 ,

GDP data for *22(Ite$ 3'antit4 Pri#e

4"n %% ,4oo &2 2

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C/apter - . GP an t/e tanar o$ 1!v!ng 6

8etail "ales 8ose "lightly in #ugust

The Commerce epartment reported Friday that retail sales increased './ percent

in #ugust from Auly) B The government also said that the current account) the

broadest measure of net exports wasD down /.1 percent from *19(.1 billion in the

first three months of the year. B &nventories held by businesses B rose by '.5

percent in Auly) the Commerce epartment said Friday) while sales at all levels of

production were up 1.1 percent.The #ssociated !ress) The New York Times) "eptember 15) $''(

-se this information to answer !roblems +) () and .

+. 2hich component of 0! changed because retail sales increased3 2hich

component of 0! changed because inventories held by businesses rose3

The increase in retail sales means that consumption expenditure on goods andservices increased. The increase in inventories held by businesses means thatinvestment increased.

(. xplain the effect of the fall in net exports on 0!.

Because net exports contributes to 23P, the fall in net exports means that 23Pdecreases.

. oes the statement that Esales at all levels of production were up 1.1 percent

mean that 0! increased by 1.1 percent3 xplain your answer.

The statement sales at all levels of production were up $.$ percentC is obscure. Ifsales of all levels of productionC includes final goods and intermediate goods,then 23P is not up $.$ percentDit is up by less than $.$ percent. If sales reallymeans retail sales at all levels of productionC then it doesn*t include all finalgoods and 23P is up by more than $.$ percent.

E%er#i,e,1. Classify each of the following items as a final good or service or an

intermediate good or service and identify which is a component of

consumption expenditure) investment) or government expenditure on goods

and services:

%an>ing services bought by 2alGHart.

Bans.

+offee beans purchased by Starbuc6s grande mocha frappuccino bought by a student.

The student*s purchase is a final good. It is part of consumption expenditure on

goods and services. ew battle ship bought by the -.". navy.

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6* Part 2 . MONITORING THE MACROECONOMY

The new battle ship purchased by the .S. navy is a final good. It is part ofgovernment expenditure on goods and services.

$. Iou are provided with the following data on the economy of &beria:

0! *1'' billion

et taxes *1 billion

0overnment expenditure on goods and services *$' billion

7ousehold saving *15 billion

Consumption expenditure *+( billion

&nvestment *$1 billion

xports of goods and services */' billion

Calculate &beria6s imports of goods and services.

23P e!uals C +I +G +NX.;earranging,NX- 23P C I G. So Iberia*s net

exports e!ual %$'' billion %&4 billion %)$ billion %)' billion, which is %1

billion. 6et exports e!ual exports imports, so imports e!ual exports minus net

exports. Iberia*s imports e!ual %5' billion 7%1 billion9, which is %51 billion.

/. Figure 5./ shows the flows of income and

expenditure in an economy. &n $''() Q was

*1)''' billion) U was *$5' billion) W was *+5'billion) and Z was *5' billion. Calculate

investment and total income.

"low Q is total income, so total income is%$,''' billion. Total expenditure e!uals thesum of consumption expenditure 7flow W or%' billion9, investment, governmentexpenditure on goods and services 7flow U or%)#' billion9, and net exports of goods andservices 7flow Z or %#' billion9. Totalexpenditure also e!uals total income. So usingthe data in the exercise, %$,''' billion - %'billion / investment / %)#' billion / %#'

billion. This e!uation shows that investmente!uals %#' billion.

4. Figure 5./ shows the flows of income and

expenditure in an economy. &n $'')X was *$

trillion)R was */ trillion)Z was ?*1trillion) Q

was *1' trillion) and U was *4 trillion.

Calculate saving and consumption expenditure.

"low Qis total income, so total income is %$' trillion. Total expenditure e!ualsthe sum of consumption expenditure, investment 7flow X or %) trillion9,government expenditure on goods and services 7flow Uor %0 trillion9, and net

exports of goods and services 7flow Z or %$ trillion9. Total expenditure also

e!uals total income. So using the data in the exercise, %$' trillion - consumption

expenditure / %) trillion / %0 trillion %$ trillion. This e!uation shows that

consumption expenditure e!uals %# trillion.=ouseholds divide their income into consumption expenditure, net taxes, andsaving. s a result, total income e!uals the sum of consumption expenditure, net

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taxes, and saving. Total income is %$' trillion, consumption expenditure is %#trillion, and net taxes 7flowR9 is %5 trillion. =ence saving 7flow V9 is %) trillion.

#n economy produces only fish and berries. The tables show the @uantities

produced and their prices in $''9 and $'1'. The base year is $''9. -se this

information to answer xercises 5 and +.

5. Calculate nominal 0! in $''9 and $'1' and real 0! in $''9 and $'1'.

6ominal 23P in )'': is e!ual to 7#' fish %59 / 74) berries %59 - %5&&.6ominal 23P in )'$' is e!ual to 7#$ fish %09 / 71' berries %&9 - %&10. In the

base year, real 23P e!uals nominal 23P, so real 23P in )'': is %5&&. ;eal

23P in )'$' uses )'$' !uantities and )'': prices and so e!uals 7#$ fish %59 /

71' berries %59 - %5:5.

+. Calculate the percentage increase in production in $'1'.

The percentage increase in production e!uals the percentage increase in real

23P. ;eal 23P grew ?7%5:5 %5&&9@%5&&A x $'', or 4.0 percent.

ewG7ome "ales 7it (GIear ow

espite huge discounts) sales of new homes last month slowed to their slowest pace

in seven years) setting the stage for further price declines well into next year. B &n

addition) the government reported that the nation6s gross domestic product

expanded at an annual rate of /.J in the #prilGtoGAune @uarter) slightly less than

the 4J estimated earlier. #fterGtax corporate profits rose 5.$J to *1.15 trillion. B

Wall Street Journal) "eptember $) $''(

-se this information to answer xercises ( and .

(. 2here in the -.". ational &ncome and !roduct #ccounts and the circular

flow of expenditure and income do new home sales appear3 7ow does a fall in

new home sales affect real 0!3 xplain your answer.

6ew home sales are part of the investment component of expenditure. In thecircular flow, they are part of the expenditures coming from the financial mar

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68 Part 2 . MONITORING THE MACROECONOMY

employees probably grew at less than 5.1 percent, unless interest and rentC grewso slowly to allow compensation of employees to grow more rapidly.

Criti#a/ Thin9ing and We7 A#tivitie,1. %oeing outsources the production of some of the components of its new ((

airliner to Aapan. #t the same time) Toyota outsources the manufacture of cars

to Kentuc>y.

a. xplain how %oeing6s outsourcing decision affects -.". 0!) -.". 0!)

and real 0! per person in the -nited "tates.

2oods and services produced within the nited States are part of .S. 23P.Boeing*s decision to produce part of its new 414 airliner in Gapan means thatthis production is not produced within the nited States and so it is not partof .S. 23P. 2oods and services produced anywhere in the world usingfactors of production supplied by residents of the nited States are part of.S. 26P. Boeing*s decision to produce parts of airliners in Gapan meansthat Boeing will supply .S. owned factors production to Gapan. "orinstance, .S. engineers employed by Boeing and wor

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were done on the boo

should be included in a comprehensive measure3

If the nited 6ations is trying to measure the standard of living, pollution andpolitical freedom should be included. The difficulty comes in determining theirvalues. "or instance, how much is political freedom valuedL 3o we add #' timesthe measure of political freedom to 23P or do we add $'' times politicalfreedom to 23PL nother important factor that could be included is the value ofleisure time. This value is a bit easier to calculate. Meisure time must be at least asvaluable as time spent at wor< 7or else more time would be spent at worctober )''4, the most recently released data werefor the )nd !uarter of )''4. "rom the BJ*s eb site, the nominal data areO+onsumption expenditure 7called personal consumption expendituresC9,%:,&40.' billion( Investment 7called gross private domestic investmentC9,

%),$5:.$ billion( 2overnment expenditures 7called governmentconsumption expenditures and gross investment9, %),&4'.'( and 6et exports,

%4$0.) billion. 7The real data for the same !uarter areO +onsumption

expenditure, %1,)00.5 billion( Investment, %$,154.0 billion( 2overnment

expenditure, %),'$0.1( and 6et exports, %#45.: billion.9

b. Chec> that when you sum the items in part a) the total e@uals 0!.

The sum of these four nominal expenditure categories is %$5,4&:.1 billion,which is '.$ billion different as the reported nominal 23P. The difference isrounding error. 7The sum of the four real expenditure categories is %$$,#)).&billion, a bit different from the reported real 23P of %$$,#)'.$ billion.Though the students will not be aware of it, the larger difference for the realnumbers compared to the nominal numbers is that each of the four realcomponents and real 23P is calculated separately using its own chain of

growth rates. So the real components will not necessarily sum to e!ual real23P.9

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6) Part 2 . MONITORING THE MACROECONOMY

c. 2hich of the components of 0! increased the most3 2hich increased the

least3

Nour students* answers will vary according to when you assign the problem.

d. 2hat was real 0! per person in the -nited "tates3

Nour students* precise answers will vary according to when you assign theproblem. The answer should be, however, near %51,''' or so.

5. Lisit the %ureau of conomic #nalysis 2eb site and obtain the most recentlyreleased real 0! dataM0ross "tate !roductMfor the state in which you live.

Lisit the Census %ureau 2eb site and obtain data on the population of your

state.

a. Calculate 0ross "tate !roduct per person in your state. Compare this

number with the -.". average for the same time period.

Nour students* answers will vary according to your state.

b. 2hich industries in your state contribute most to your state6s production3

Nour students* answers will vary according to your state.

+. Lisit the &nternational Honetary Fund 2orld conomic Nutloo> 2eb site and

obtain data for 19' and the current year for the -nited "tates and Aapan that

enable you to answer the following @uestions.

a. 2hich country had the greater increase in real 0! per person3

Nour students* answers will vary according to when you assign the problem."or an example of an answer, using the data available in )''4, .S. real23P per person in constant dollars in $:1' was %)),&4&.#5 and in )''# was%51,#):.5#. So in the nited States, real 23P per person grew by

?7%51,#):.5# %)),&4&.#59 8 %)),&4&.#5A $'' - &:.: percent. In Gapan,

Gapanese real 23P per person in constant yen in $:1' was Q),#1#,555 and in)''# was Q0,5:),$&'. In Gapan over these years real 23P per person grew by

?7Q0,5:),$&' Q),#1#,5559 8 Q),#1#,555A $'' - &:.: percent. So in

>ctober, )''4, both countries had enKoyed virtually the identical growth rate ofabout 4' percent. 7SourceOhttpO@@www.imf.org@external@pubs@ft@weo@)''4@'$@[email protected]$$'Rsg-ll/countries/)f/dvanced/economies9.

b. 2hat is the 0! of each country as a percentage of world 0!3

Nour students* answers will vary according to when you assign the problem."or example, in >ctober )''4, the .S. 23P was $:.4 percent of world 23Pand the Gapanese 23P was &.5 percent of world 23P.7httpO@@www.imf.org@external@pubs@ft@weo@)''4@'$@[email protected]

c. 2hat do you learn from your answers to parts a and babout the standard

of living in Aapan and the -nited "tates3

Nour students* answers might vary according to when you assign theproblem. In general, however, part 7a9 shows that .S. real 23P per persongrew more rapidly that Gapanese real 23P per person, so the standard ofliving grew more rapidly in the nited States. Part 7b9 shows that the nitedStates is a distinctly larger part of the world economy than is Gapan.

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ADDITIONAL E:ERCISES ;OR ASSIGN+ENT

3'e,tion, CHECKPOINT 5.! GDP" In#o$e" and E%&endit're

$. Identify each of the following as either included or not included in 23P. Fa

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6( Part 2 . MONITORING THE MACROECONOMY

5d. +alculate indirect taxes less subsidies in $::#.

An,

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