Ch7. National Income and Macroeconomics — GDP, Price Level & Business Cycles

National Income Concepts

GDP (Gross Domestic Product)

GDP: the market value of all final goods and
  services produced within a country's borders
  during a given period (usually one year)

Key Terms:
  "Given period": flow concept, not a stock
  "Within borders": includes output by
    foreign residents; excludes output of
    US residents abroad
  "Final goods": intermediate goods excluded
    (avoids double-counting)
  "Market value": price × quantity
  Source: US Bureau of Economic Analysis (BEA)

GNP (Gross National Product):
  Based on nationality, not location
  GNP = GDP + Net factor income from abroad
  Includes output of US residents abroad;
    excludes output of foreign residents in the US

The Three Approaches to GDP

Expenditure Approach (most common):
  GDP = C + I + G + (X − M)
  C = Personal consumption expenditures
  I = Gross private domestic investment
      (equipment + structures + inventory change)
  G = Government consumption & investment
  (X − M) = Net exports

Income Approach:
  GDP = wages + interest + rent + profit
        + depreciation + net indirect taxes

Production Approach:
  Sum of value added at each stage of production

Nominal vs. Real GDP

Nominal GDP: measured at current-year prices
Real GDP: measured at base-year prices
  (inflation stripped out)

GDP Deflator:
  = (Nominal GDP / Real GDP) × 100
  Broadest measure of the overall price level

Price Indexes:
  ① GDP Deflator: covers all domestically
    produced goods (BEA)
  ② CPI (Consumer Price Index): a fixed basket
    of consumer goods and services (BLS)
  ③ PPI (Producer Price Index): prices at
    the wholesale/producer stage (BLS)

Real Economic Growth Rate:
  = (Real GDP₁ − Real GDP₀) / Real GDP₀ × 100

Derived National Income Aggregates

GNP  = GDP + Net factor income from abroad
NNP  = GNP − Depreciation (capital consumption)
NI   = NNP − Net indirect taxes
PI   = NI − Retained earnings − Social insurance
       + Transfer payments
DI   = PI − Personal income taxes
  (Disposable Income = what households actually spend/save)

Business Cycle

Four Phases (NBER definitions):
  ① Expansion: GDP rising, employment rising,
    inflation tends to accelerate
  ② Peak: the high-water mark of the cycle
  ③ Contraction / Recession: GDP declining
    Two consecutive quarters of negative real
    GDP growth = technical recession
  ④ Trough: the low point before recovery begins

Leading, Coincident, and Lagging Indicators:
  Leading (move before the cycle):
    Stock prices (S&P 500), building permits,
    yield curve spread (10y − 2y Treasury),
    consumer confidence index
  Coincident (move with the cycle):
    Industrial production, nonfarm payrolls,
    real personal income
  Lagging (move after the cycle):
    Unemployment rate, CPI, prime rate

GDP = C + I + G + (X − M) ★★★★★ : Expenditure approach. Personal consumption + gross investment + government spending + net exports. Note: imports are subtracted. Memory hook: GDP = Consumers + Investment + Government + Net exports

Nominal, Real, and the GDP Deflator ★★★★★ : GDP Deflator = (Nominal / Real) × 100. Divide nominal GDP by the deflator (and multiply by 100) to get real GDP. Memory hook: deflator = nominal ÷ real × 100

Leading Indicator Examples ★★★★☆ : Stock prices, building permits, yield curve spread, consumer confidence — all move before the economy turns. Memory hook: leading = stocks and permits signal the turn

Practice Questions

Q. Nominal GDP = $25 trillion; GDP Deflator = 125. What is real GDP?

Real GDP = Nominal GDP / Deflator × 100 = $25 trillion / 125 × 100 =$ 20 trillion.

Q. Give examples of what IS and what IS NOT included in GDP.

Included: final sales of goods and services by businesses; government salaries paid to federal employees; new residential construction. Not included: used-car sales (already counted when new); stock and bond transactions (financial asset transfers, not production); the underground economy; unpaid household work (cooking, childcare).