Chapter 9

Gross Domestic Product

McGraw-Hill/Irwin
Companies, All Rights Reserved

2009 The McGraw-Hill

Learning Objectives
When you have finished this chapter, you will know
the answers to these questions:
1.
2.
3.
4.
5.
6.
7.
8.

What is GDP?
How is GDP measured?
What are the national income accounts?
What is the difference between nominal GDP and real
GDP?
How does our GDP compare to those of other nations?
How is per capita GDP calculated?
What are the shortcomings of GDP as a measure of
national economic well-being?
What is the Gross Progress Index?

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

9-2

What Is GDP?
GDP is the nations expenditures on all FINAL
goods and services produced during the year at
market prices.
An alternate definition of GDP is
the value of all goods and services produced within a nations
boundaries during the year.

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

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Hypothetical C + I + G + Xn

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

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Components of GDP 2007

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

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Percent Components of GDP 2007

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

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Questions for Thought and Reflection

Under which category of expenditures are new
houses counted under? Does this classification
make sense?
What is the largest category of expenditures in the
United States? Is this a good or bad thing?

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

9-7

How GDP Is Measured?

Income (wages, salary, rent, interest, profits)

Expenditures by Consumers, Investors,

Government, and Net Exports
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9-8

The Flow of Income Approach

(Most Complex)
Consumption + Investment + Government Spending
+ Net Exports = GDP (Gross Domestic Product)

GDP Depreciation = NDP (Net Domestic Product)

Wages and Salaries + Rent + Interest + Profits + Indirect

Taxes + Depreciation = GDP

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

9-9

The Flow of Income Approach

Why is NDP better than GDP?
Country
GDP
- Depreciation
NDP

Sweden

Canada

200

200

50

30

150

170

Canada is better off because it had a higher NDP! Sweden had a lower
NDP because it had to devote more of its resources to replacing worn out
and obsolete equipment. These resources could not go toward additional
plant and equipment nor could they even be used for more consumer
goods.

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

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The Flow of Income Approach

GDP (Gross Domestic Product)
Depreciation = NDP (Net Domestic
Product)

NDP Indirect business taxes

and subsidies = DI (Domestic
Income)

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

Indirect business
taxes and
subsidies are
mainly general
sales taxes on
specific items
such as gasoline,
liquor and
cigarettes, and
subsidies (such
as government
payments to
farmers).
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Distribution of Domestic Income (2005)

Wages, salaries & fringes .71.6%
Net Interest 8.2%
Proprietors Income .. 9.1%
Corporate Profits .. 9.4%
Rent .. 1.7%

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

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Personal Income and Disposable Personal

Income
GDP (Gross Domestic Product) Depreciation =
NDP (Net Domestic Product)

NDP Indirect business taxes and subsidies = DI

(Domestic Income)

DI (Domestic Income) Earnings not received +

Receipts not earned = PI (Personal Income)
Personal Taxes = Disposable Personal Income

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

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Features of Disposable Income

DI (Domestic Income) Earnings not received +
Receipts not earned = PI (Personal Income)
Personal Taxes = Disposable Personal Income
Receipts not earned are mainly Social Security
benefits and other government transfer payments,
and interest income.
Personal taxes are chiefly personal income taxes.
Disposable Personal Income is ours to dispose of,
to spend and save as we see fit.
Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

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Questions for Thought and Reflection

What makes up the majority of receipts not earned?
What are the advantages to the flow of income
approach?

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

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Two Things to Avoid When Compiling GDP

Multiple counting
Only expenditures on final productswhat consumers,
businesses, and government units buy for their own use
belong in GDP.
Intermediate goods are not counted.
Used goods are not counted.

Transfer payments and Financial Transactions

Transfer payments are not payments for currently produced
goods and services.
When they are spent for final goods and services they will go
into GDP as consumer spending.
Financial transactions do not go into GDP.

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

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The Value-added Approach to Measuring

GDP

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

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Deflating the GDP to Get Real GDP

Nominal GDP/GDP Deflator x 100 = Real GDP
What is the Real GDP if nominal GDP is 15,000 dollars
and the GDP deflator is 125?
15,000/125 x 100 =12,000

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

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GDP in Billions of Dollars 19302007

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GDP by Nation in Trillions of Dollars

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Nominal and Real GDP 1997-2007

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Calculating Percentage Changes

%Change = New Number Original Number/Original
Number
What is the percentage change from 1979 to 1980 if
1980 GDP is 2784.2 and 1970 GDP is 2557.5?
2784 2557.5/2557.5=226.7/2557.5= .089 or 8.9%

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

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Per Capita GDP

Per Capita GDP = GDP/Population
To compare per capita GDP in one year with that of
another year we have to correct for inflation. In other
words, we really need to revise our formula.
Per Capita Real GDP = Real GDP/Population
$12,000,000,000,000/300,000,000=$40,000

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

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Per Capita Real GDP 1776-2007

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GDP Per Capita Nations

International comparisons for per capita GDP over the short run
(less than 10 years) are quite valid. Over the long run (20 years
or longer) this comparison is like comparing apples and
oranges.
Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

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Questions for Thought and Reflection

Why do we only count value added as contributing
to GDP?
How do you calculate percentage change in GDP
from one year to the next? Give an example.
Name some of the wealthiest countries per capita
and some of the wealthiest countries in terms of
absolute size of GDP. Explain the difference.

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

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Shortcomings of GDP as a Measure of

National Economic Well-being
Production that is excluded
Household production
Illegal production
The underground economy

Treatment of leisure time

While the average workweek has declined, many more
mothers with young children work.
1960: 79% of all families with children had one stay-athome parent. Now this has fallen to just 28%.

Human cost and benefits

GDP gives us a ballpark idea of how much we
produce, not necessarily how well off we are.

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

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What Goes into GDP

When a large part of our production goes toward
national defense, police protection, pollution control
devices, repair and replacement of poorly made
cars and appliances, and cleanups of oil spills, a
large GDP is not a good indicator of how were
doing.
In general, the problem with using GDP as a
measure of national economic well-being is that
GDP is just one number, and no single number can
possibly provide us with all of the information we
need.

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

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The Last Word on GDP

GDP includes some things that really shouldnt be
counted.
GDP has excluded some things that should be
counted.
Nevertheless, if we can accept GDP while
acknowledging all of its limitations, it serves us
well.

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

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Current Issue: GDP or GPI

The Gross Progress Index (GPI) using GDP as a
starting point

It adds in positive things like housework, volunteer work,

environmental contributions, such as clean air, water,
moderate climate, etc.
It subtracts negative things like crime, natural resource
depletion, loss of leisure time, family breakdown, etc.
Many of these things (positive & negative) are hard to
quantify.

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

9-30

Current Issue: GDP or GPI

The per capita GPI for 2005 was less than one
quarter of per capita GDP for 2005 which was
$41,597.
Real per capita GPI has not grown over the last four
decades.

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

9-31

Questions for Thought and Reflection

What are the shortcomings of the GDP method of
calculating a nations well-being? Do other methods
exists to calculate well-being? Why arent they used?

Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

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