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If the government levies a tax on the producers of a certain product: 1. Consumers will take on most of that burden (in the form of higher prices) only if demand for that product is relatively elastic. 2. Producers will be unable to pass any of that tax on to the consumer unless the consumer has a perfectly inelastic demand for that product. 3. Producers will have to increase supply to compensate for the greater cost of production caused by the tax. 4. Producers will be able to pass some of the tax on to the consumers in the form or higher prices and how MUCH they can pass on depends on the elasticity of demand.

The Laffer Curve shows: 1. A positive relationship between tax rates 2. 3. 4. and tax revenues A negative relationship between tax rates and tax revenues That a decrease in tax rates always leads to a decrease in tax revenues. That a decrease in tax rates sometimes leads to an increase in tax revenues.

Ch. 7 – Taking the Nation’s Economic Pulse • Major points of Ch. 7 – What is GDP? – How do we calculate GDP? – Real v. Nominal GDP – Drawbacks of using GDP as a measure of our country’s output

Why do we try to measure out country’s output anyway? • Because income growth comes directly out of production or output growth. One directional only…output causes income, not vice versa. So, what do we already know about GDP? PRS

GDP measures the amount of assets a country has during a specific time period. 1. True 2. False

GDP measures the amount of goods and services sold within a specific time period. 1. True 2. False

GDP measures the amount of goods and services produced by the citizens of a specific country. 1. True 2. False

Chapter 7 – Taking the Nation’s economic pulse – What is GDP? • GDP – – Market value of all final goods and services produced in a country during a specific time period.

Chapter 7 – Taking the Nation’s economic pulse – What is GDP? • GDP – where it’s produced – Market value of all final goods and services produced in a country during a specific time period.

Chapter 7 – Taking the Nation’s economic pulse – What is GDP? • GDP – where it’s produced – Market value of all final goods and services produced in a country during a specific time period. • GNP – • Market value of all final goods and services produced by citizens of a country (either produced domestically or in another country. )

Chapter 7 – Taking the Nation’s economic pulse – What is GDP? • GDP – where it’s produced – Market value of all final goods and services produced in a country during a specific time period. • GNP – who produces it • Market value of all final goods and services produced by citizens of a country (either produced domestically or in another country. )

NOMINAL GDP, in millions, 2005 www. nationmaster. com/encyclopedia/G ross-Domestic-Product#_note-0

2005

How do we calculate GDP? • Two ways: – Expenditures Approach – market value of all final goods and services produced in the US in a given accounting period. Y = C + I + G + (X-M)

Y = C + I + G + (X-M) • C = consumption expenditures (what people buy—except it does not count new home sales—those are part of Inv. )

Y = C + I + G + (X-M) • C = consumption expenditures (what people buy) • I = business expenditures (what businesses buy) ex. Oscar Mayer buys Weiner-mobile (includes new home sales)

Y = C + I + G + (X-M) • C = consumption expenditures (what people buy) • I = business expenditures (what businesses buy) ex. Oscar Mayer buys Weiner-mobile • G = Government Spending

Y = C + I + G + (X-M) • C = consumption expenditures (what people buy) • I = business expenditures (what businesses buy) ex. Oscar Mayer buys Weiner-mobile • G = Government Spending • X - M = Net Exports (+ means we export more, - means we import more)

Second way we calculate GDP • Two ways: – Expenditures Approach – market value of all final goods and services produced in the US in a given accounting period. Y = C + I + G + (X-M) – Income Approach – add up all the income generated in the production of all goods and services Y = R + W + i + T + SA (stat. adj. )

PRS

Businesses produced \$10 million in 2005 but sold only \$9 million. Is the \$1 million increase in inventory counted as part of 2005 GDP? 1. No because if these inventories were sold in 2006, they would be counted twice. 2. No, because inventories are intermediate goods. 3. Yes, because these inventories are part of the output of the economy in 2005. 4. Yes, but only if they are sold in 2006.

What does GDP include? 1. Market value (\$\$) of final goods & services Not intermediate goods (to avoid double counting). VA Bread (final good) Farmer’s wheat \$. 40 Miller’s Flour \$. 48 \$. 88 Baker’s Bread \$. 80 \$1. 68 Grocer’s Bread \$. 32 \$2. 00 (market value) \$4. 96 (dbl counting)

Chap. 7—Core Macroeconomics 2. Only goods & services produced during the accounting period (not second hand sales) ex. Not used cars and antiques (were counted the year they were produced ex. but DOES count salesman’s commission (current production)

Chap. 7—Core Macroeconomics 2. Only goods & services produced during the accounting period (not second hand sales) ex. Not used cars and antiques (were counted the year they were produced ex. but DOES count salesman’s commission (current production) 3. Does NOT count financial transactions and transfer payments. ex. Sale of stock does NOT count—nothing was produced…only transfer of ownership ex. Welfare payments do not count—Just transfer of Y

Which of these goods DO count in GDP? a. Value of home production (housewife or househusband output)

Which of these goods DO count in GDP? a. Value of home production (housewife or househusband output) b. Value of Maid Service

Which of these goods DO count in GDP? a. Value of home production (housewife or househusband output) b. Value of Maid Service c. Sale of Rembrandt Painting

Which of these goods DO count in GDP? a. Value of home production (housewife or househusband output) b. Value of Maid Service c. Sale of Rembrandt Painting d. Do-it-yourself projects

Which of these goods DO count in GDP? a. Value of home production (housewife or househusband output) b. c. d. e. Value of Maid Service Sale of Rembrandt Painting Do-it-yourself projects Est. of farmer’s own use of goods

Which of these goods DO count in GDP? a. Value of home production (housewife or househusband output) b. c. d. e. f. Value of Maid Service Sale of Rembrandt Painting Do-it-yourself projects Est. of farmer’s own use of goods Unemployment compensation payments

Which of these goods DO count in GDP? a. Value of home production (housewife or househusband output) b. c. d. e. f. g. Value of Maid Service Sale of Rembrandt Painting Do-it-yourself projects Est. of farmer’s own use of goods Unemployment compensation payments Clean-up bill from an economic BAD (oil spill)

Problems with using GDP as a measure of our country’s Output 1. Does not count non-market production (woman marries her housekeeper, GDP decreases…you paint your house, no increase to GDP…you hire someone to paint it, GDP increases)

Problems with using GDP as a measure of our country’s Output 1. Does not count non-market production (woman marries her housekeeper, GDP decreases…you paint your house, no increase to GDP…you hire someone to paint it, GDP increases) 2. Does not count underground economy (illegal activities & barter or cash payments)

Problems with using GDP as a measure of our country’s Output 1. Does not count non-market production (woman marries her housekeeper, GDP decreases…you paint your house, no increase to GDP…you hire someone to paint it, GDP increases) 2. Does not count underground economy (illegal activities & barter or cash payments) 3. Does not reflect leisure time activities (human cost) o/p of \$100 B. w/ave. work wk of 50 hrs. v. o/p of \$100 B. w/ave. work wk of 35 hrs. Human Cost? Jobs today may be less stressful but that’s not accounted for in GDP.

Problems with using GDP as a measure of our country’s Output 4. Does not account for product quality

Problems with using GDP as a measure of our country’s Output 4. Does not account for product quality 5. Does not subtract out for Economic BADS i. e. Pollution Ex. o/p of \$500 B. but generates \$100 B. of pollution v. o/p of \$450 B. with no pollution

Problems with using GDP as a measure of our country’s Output 4. Does not account for product quality 5. Does not subtract out for Economic BADS i. e. Pollution Ex. o/p of \$500 B. but generates \$100 B. of pollution v. o/p of \$450 B. with no pollution 6. Does not account for introduction of new goods. Therefore, it’s hard to use GDP as a comparison with lots of years in between.

Which of the following would always be included in GDP? 1. 2. 3. 4. Sale of a Picasso painting Cash payments made to your child’s guitar teacher Estimate of a farmer’s own use of goods produced (total bushels produced – total bushels sold) Social Security payments paid by government as a part of C + I + G (gov’t spending)

In terms of causation, output causes income, NOT vice versa. 1. True, we must have output before we have an 2. 3. income to spend. Output creates income. False, we must have income to spend before producers will produce anything. This is not Field of Dreams. Sometimes, true, sometimes false, depending on where we are in the production process.

(PMA) American owned Burger King, opens a new store in China. How will net revenue earned by this restaurant affect GDP and GNP of the US? 1. GDP will not change 2. GDP will decrease 3. GDP will increase 4. GNP will not change 5. GNP will decrease 6. GNP will increase

Which of the following would increase GDP of the US? 1. A Californian buys a case of wine from a 2. 3. 4. winery in France. A Frenchman buys a case of wine from a winery in California. A Californian spends \$3, 000 on a vacation in the French Alps. A French investor purchases 100 share of a computer company located in Silicon Valley, CA.

(PMA) Which of the following DO count in GDP? 1. 2. 3. 4. 5. Work done at home by residents Do – it – yourself projects Welfare payments Sales from a German car manufacturing plant located in Tennessee. None of the above count in GDP.

An automobile manufacturing plant opens in Indiana and it’s owner, all of the workers and all raw materials are from Japan. How would your purchase of an automobile from this plant change domestic GDP and GNP (in the US)? 1. It would increase GNP and GDP 2. I would increase GNP and leave GDP 3. 4. unchanged It would increase GDP and leavea GNP unchanged It would leave both GDP and GNP unchanged.

The difference between real and nominal GDP is: 1. Real GDP has the inflation taken out (has been corrected for inflation) 2. Nominal GDP indicates the value of the item in the year it is produced and thus has some inflation in it. 3. Both of the above statements are correct. 4. None of the above are correct.

Problems with using GDP as a measure of our country’s Output 4. Does not account for product quality 5. Does not subtract out for Economic BADS i. e. Pollution Ex. o/p of \$500 B. but generates \$100 B. of pollution v. o/p of \$450 B. with no pollution 6. Does not account for introduction of new goods. Therefore, it’s hard to use GDP as a comparison with lots of years in between. 7. And the NO. 7 problem with using GDP as a measure of our nation’s output is…….

Problems with using GDP as a measure of our country’s Output 4. Does not account for product quality 5. Does not subtract out for Economic BADS i. e. Pollution Ex. o/p of \$500 B. but generates \$100 B. of pollution v. o/p of \$450 B. with no pollution 6. Does not account for introduction of new goods. Therefore, it’s hard to use GDP as a comparison with lots of years in between. 7. And the NO. 7 problem with using GDP as a measure of our nation’s output is……. INFLATION

Index card: • Rank these products purchased from your local convenience store from least expensive to most expensive: – Gallon of ice cream – Gallon of bottled water – Gallon of gasoline

Video – biggest drawback to using GDP as a measure of our nation’s output is inflation. Why do we need to study this? Stossel Video—nominal vs. real

Problems with using GDP as a measure of our country’s output • 7. INFLATION— n Nominal output—value the year it’s produced n Real output—value when measured by other n n Year 1990 2000 year’s standard (other year’s dollars) CPI—market basket of goods GDP Deflator – C + I + G things Nom GDP \$ 800 B. \$1, 000 B. GDPD 100 138 REAL GDP \$800 B.

Problems with using GDP as a measure of our country’s output • 7. INFLATION— n Nominal output—value the year it’s produced n Real output—value when measured by other n n Year 1990 2000 year’s standard (other year’s dollars) CPI—market basket of goods GDP Deflator – C + I + G things Nom GDP \$ 800 B. \$1, 000 B. GDPD 100 138 REAL GDP \$800 B. 1000 X 100 = \$724. 64 B. 138

If the price index for 1978 is 207 (based on 1950 prices) 1. There has been 7 % inflation over those 28 2. 3. 4. years. There has been 107 % inflation over those 28 years. There has been 20. 7 % inflation over those 28 years. We don’t have enough information to tell anything about inflation.

An increase in the CPI indicates that: 1. Real net worth of consumers is increasing 2. Cost of buying a typical bundle of goods is increasing 3. Purchasing Power of money is increasing 4. Real Y of households is increasing

You go to work in 2000 at a salary of \$10, 000 per year. In 2003, you get a \$5000 raise. By 2006, you are earning \$20, 000. How much is real income in 2003 and 2006 in terms of the year you started work? Year 2000 Nom Y \$10, 000 GDPD 100 2003 \$15, 000 135 2006 \$20, 000 150 REAL Y \$10, 000

You go to work in 2000 at a salary of \$10, 000 per year. In 2003, you get a \$5000 raise. By 2006, you are earning \$20, 000. How much is real income in 2003 and 2006 in terms of the year you started work? Year 2000 Nom Y \$10, 000 GDPD 100 2003 \$15, 000 135 2006 \$20, 000 150 REAL Y \$10, 000 \$15, 000 X 100 = \$11, 111 135 \$20, 000 X 100 = \$13, 333 150

You go to work in 2000 at a salary of \$10, 000 per year. In 2003, you get a \$5000 raise. By 2006, you are earning \$20, 000. How much is real income in 2003 and 2006 in terms of the year you started work? Year 2000 Nom Y \$10, 000 GDPD 100 2003 \$15, 000 135 2006 \$20, 000 150 REAL Y \$10, 000 \$15, 000 X 100 = \$11, 111 135 \$20, 000 X 100 = \$13, 333 150 What does the CPI tell us?

Real income comparisons: Year Nom Y 1990 \$10, 000 1995 \$15, 000 \$11, 111 2000 \$20, 000 GDPD 100 135 150 \$13, 333 What does the CPI tell us? REAL Y \$10, 000 \$15, 000 * 100 = 135 \$20, 000 *100 = • In this example, how much inflation • has there been from 1990 to 1995? From 1995 to 2000? 150

To find the inflation rate from one year to another: – – Set new base year PI to 100 Find new PI for year desired: Old Price index for year desired X 100 = NEW PI Old Price Index for new base yr. Year 1990 1995 2000 GDPD 100 135 150 New GDPD 100 ____

To find the inflation rate from one year to another: – Set new base year PI to 100 – Find new PI for year desired: Old Price index for year desired Old Price Index for new base yr. X 100 = NEW PI Year 1990 1995 2000 GDPD 100 135 150 New GDPD 100 150 X 100 = 111 135

Class Work 7. 2 • In the following example, please tell me how much inflation there has been from 2000 to 2006. Year CPI New CPI 1990 100 2000 107 ______ 2006 111 ______ NA

Another way to look at inflation: • Compare how long it took to earn something (in hours, minutes, days—work length required) in one year compared to another year.

The left price column shows the price in 1897. The right price column shows how much money we would earn if we worked the same number of hours as we did in 1897 to buy that good. For example, if we worked the same amount of time in 1997 to buy a dozen pencils as we had to to buy them in 1897, we would’ve earned \$12. 47. The true cost of a dozen pencils today are \$. 89 and a box of baking soda is \$2. You can get a nice upright piano today for \$1, 900 or a 1 carat diamond ring for \$2, 500.

1908 \$850 4, 696 hr. 1955 \$3, 030 1, 638 hr. 1997 \$17, 995 1, 365 hr.

1908 \$850 4, 696 hr. 1955 \$3, 030 1, 638 hr. 1997 \$17, 995 1, 365 hr.

1908 \$850 4, 696 hr. 1955 \$3, 030 1, 638 hr. 1997 \$17, 995 1, 365 hr.

1908 \$850 4, 696 hr. 1955 \$3, 030 1, 638 hr. 1997 \$17, 995 1, 365 hr.

1908 \$850 4, 696 hr. 1955 \$3, 030 1, 638 hr. 1997 \$17, 995 1, 365 hr.

Drawbacks to using GDP as a measure of our country’s output: • Sen. Robert Kennedy voiced this criticism: • The gross national product includes air pollution and advertising for cigarettes and ambulances to clear our highways of carnage. It counts special locks for our doors and jails for the people who break them. GNP includes the destruction of the redwoods and the death of Lake Superior. It grows with the production of napalm, and missiles and nuclear warheads. . . it does not allow for the health of our families, the quality of their education, or the joy of their play. It is indifferent to the decency of our factories and the safety of our streets alike. It does not include the beauty of our poetry or the strength of our marriages, or the intelligence of our public debate or the integrity of our public officials. It measures everything, in short, except that which makes life worthwhile.

Chap. 7 – National Y Accounting • With all the problems, why do we use GDP to measure our country’s output? – Best Measure we have – Is good at measuring CHANGES (when not many years in between) – Even Simon Kuznets (inventor of GDP accounting) recognized the problems:

Simon Kuznets: (inventor of GDP accounting method, c. 1930 s) • . . . the welfare of a nation can scarcely be inferred from a measure of national income. If the GDP is up, why is America down? Distinctions must be kept in mind between quantity and quality of growth, between costs and returns, and between the short and long run. Goals for more growth should specify more growth of what and for what.

End of Chapter 7