EC140 Study Guide - Final Guide: Environmental Quality, Chapter 27, Capital Accumulation
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Chapter 20: Measuring GDP and Economic Growth
GDP or gross domestic product is the market value of all final goods and services produced in a
country in a given time period.
Market Value: goods and services are valued at their market prices.
o To add apples and oranges, computers and popcorn, we add the market values so we
have a total value of output in dollars.
Final Goods and Services: items or services bought by its final user during a specified time
o A final good contrasts with an intermediate good, which is an item that is produced by
one firm, bought by another firm, and used as a component of a final good or service.
o Excluding the value of intermediate goods and services avoids counting the same value
more than once.
GDP and the Circular Flow of Expenditure and Income
Gross Domestic Product (GDP) measures two things at once:
total income of everyone in the economy.
total expenditure on the economy’s output of goods & services.
For the economy as a whole, income equals expenditure, because every dollar of expenditure
by a buyer is a dollar of income for the seller.
Approaches to Measure GDP
1. The Expenditure Approach: measures GDP as the sum of consumption expenditure (C),
investment (I), government purchases of goods and services (G), and net exports (NX).
Y = C + I + G + NX
CONSUMPTION EXPENDITURES (C): Total spending by households on goods & services.
Buying/Selling of houses are not included in this category
GROSS INVESTMENT EXPENDITURES (I): Total spending on goods that will be used in the
future to produce more goods. Includes spending on:
o capital equipment (e.g., machines, tools)
o structures (factories, office buildings, houses)
o inventories (goods produced but not yet sold)
Note: Gross Investment = Net Investment + Depreciation.
“Investment” does not mean the purchase of financial assets like stocks and bonds.
• Government Purchases (G): All the goods & services purchased by local, provincial, and
o Excludes transfer payments, such as Canada pension Plan benefits or employment
insurance benefits. These payments represent transfers of income, not purchases of
goods & services and do not represent production.
Net Exports (NX)= exports – imports
o Exports represent foreign spending on domestically produced goods & services.
o Imports are the portions of C, I, and G that are spent on goods & services produced
2. The Income Approach: measures GDP by summing the incomes that firms pay households for
the factors of production they hire.
Compensation of employees
The sum of these five income components is net domestic income/Product (NDP) at factor
Two adjustments must be made to get GDP:
1. Indirect taxes minus subsidies (NIBT) are added to NDP
2. Depreciation is added to NDP
GDP= NDP + NIBT + Depreciation
Gross Domestic Product
The blue and red flows are the circular flow of expenditure
The sum of the red flows equals the blue flow.
Measuring Canadian GDP
Nominal GDP and Real GDP
Real GDP is the value of final goods and services produced in
a given year when valued at the prices of a reference base year.
Nominal GDP is the value of goods and services produced during a given year valued at the
prices that prevailed in that same year.
Chained-Dollar Real GDP
Statistics Canada uses a measure of real GDP called chained-dollar real GDP.
Three steps are needed to calculate this measure:
o Value production in the prices of adjacent years
o Find the average of two percentage changes
o Link (chain) to the reference year
The Uses and Limitations of Real GDP
Economists use estimates of real GDP for two main purposes:
1. The Standard of Living Over Time
Real GDP per person is real GDP divided by the population, and tells us the value of goods and
services that the average person can enjoy.
By using real GDP, we remove any influence that rising prices and a rising cost of living might
have had on our comparison.
Long-Term Trend- A handy way of comparing real GDP per person
over time is to express it as a ratio of some reference year.
Two features of our expanding living standard are:
o The growth of potential GDP per person
o Fluctuations of real GDP around potential GDP
The value of real GDP when all the economy’s labour, capital, land,
and entrepreneurial ability are fully employed is called potential
GDP. It grows at a steady pace because the quantities of the factors
of production and their productivity grow at a steady pace; Real
GDP fluctuates around potential GDP.
Lucas wedge is the dollar value of the accumulated gap between
what real GDP per person would have been if the 1960s growth rate
had persisted and what real GDP per person turned out to be.
A business cycle is a periodic but irregular up-and-down movement
of total production and other measures of economic activity.
o Expansion- a period during which real GDP increases—from a
trough to a peak
o Recession- a period during which real GDP decreases—its
growth rate is negative for at least two successive quarters.
o Two turning points: Peak & trough
2. The Standard of Living Across Countries
Two problems arise in using real GDP to compare living standards across countries:
1. The real GDP of one country must be converted into the same currency units as the real
GDP of the other country.
2. The goods and services in both countries must be valued at the same prices.
Using the exchange rate to compare GDP in one country with GDP in another country is
problematic because prices of particular products in one country may be much less or much
more than in the other country.
Limitations of Real GDP
Real GDP measures the value of goods and services that are bought in markets.
Some of the factors that influence the standard of living and that are not part of GDP are
Underground economic activity
Gdp or gross domestic product is the market value of all final goods and services produced in a country in a given time period. Market value: goods and services are valued at their market prices: to add apples and oranges, computers and popcorn, we add the market values so we have a total value of output in dollars. Gdp and the circular flow of expenditure and income. Gross domestic product (gdp) measures two things at once: total income of everyone in the economy. total expenditure on the economy"s output of goods & services. For the economy as a whole, income equals expenditure, because every dollar of expenditure by a buyer is a dollar of income for the seller. Approaches to measure gdp: the expenditure approach: measures gdp as the sum of consumption expenditure (c), investment (i), government purchases of goods and services (g), and net exports (nx). Y = c + i + g + nx.