GDP: Measuring Total Production and Income

Transcription

1 Chapter GDP: Measuring Total Production and Income Gross Domestic Product Measures Total Production 1. In 2007, American Airlines experienced an increase in the demand for its services and this fueled rising profits. These events were caused by an economic recession. an economic expansion. improved quality of service. an aggressive marketing campaign. B Page Ref: 633/213 Measuring Total Production Factual LO1: Explain how total production is measured Chapter Opener: Increases in GDP Help Revive American Airlines 2. During a business cycle expansion, total production and total employment. 59

2 increases; increases decreases; increases decreases; decreases increases; decreases A Diff: 1 Page Ref: 634/214 Business Cycle Factual LO1: Explain how total production is measured 3. Macroeconomics, as opposed to microeconomics, includes the study of what determines the level of output of a specific firm. employment in a specific industry. 60

3 output of a specific industry. employment in the economy. D Diff: 1 Page Ref: 634/214 Macroeconomics vs. Microeconomics Factual LO1: Explain how total production is measured 4. Macroeconomics, as opposed to microeconomics, includes the study of what determines the average prices of goods and services in the economy. quantity of Dell employees. price charged for laptop computers by Dell. wages paid to employees by Dell. 61

4 A Diff: 1 Page Ref: 634/214 Macroeconomics vs. Microeconomics Factual LO1: Explain how total production is measured 5. Macroeconomics seeks to understand economic growth, business cycles, and inflation. product demand, product cost, and profit maximization. industry sales, marketing strategies and corporate growth. public choices, private choices, and consumer maximization. A Diff: 1 Page Ref: 634/214 Macroeconomics vs. Microeconomics 62

5 Factual LO1: Explain how total production is measured 6. Which of the following headlines would be more closely related to what macroeconomists study than what microeconomists study? Airlines raise ticket prices in response to rising fuel costs. The United Auto Workers sign a contract raising wages and benefits 7% over the next 3 years. Avocado prices rise due to a late frost in California. Real GDP grows by 2.3% in the second quarter. D Diff: 1 Page Ref: 635/215 Macroeconomics vs. Microeconomics LO1: Explain how total production is measured 63

6 7. In calculating gross domestic product, the Bureau of Economic Analysis uses the sum of the market value of final goods and services produced. This means that the BEA values goods and services at their market prices, multiplies them by the quantity produced, and then adds them up. values goods at their market prices, multiplies them by the quantity produced, and then adds them up. simply counts the total number of goods produced in the market place and then adds them up. simply counts the total number of goods and services produced in the marketplace and then adds them up. A Diff: 1 Page Ref: 635/215 Measuring Total Production Factual 64

7 LO1: Explain how total production is measured 8. Suppose you purchased in 2006 a house built in Which of the following would be included in gross domestic product for 2006? the value of the house in 2006 minus depreciation the value of the house in 2006 the value of the services of the real estate agent the value of the house in 2000 C Page Ref: 635/215 Measuring Total Production LO1: Explain how total production is measured 9. 65

8 Gross Domestic Product is calculated by summing up the total quantity of goods and services in the economy. the total market value of goods and services in the economy. the total market value of final goods and services produced in the economy during a period of time. the total quantity of goods and services produced in the economy during a period of time. C Page Ref: 635/215 Measuring Total Production Definition LO1: Explain how total production is measured 10. Which of the following goods is directly counted in GDP? the lettuce that Subway purchases for its sandwiches 66

9 a 12 inch Subway sandwich purchased by a student the bread that Subway purchases for its sandwiches the plastic bags that Subway purchases to wrap its sandwiches B Page Ref: 635/215 Final vs. intermediate good LO1: Explain how total production is measured 11. Which of the following transactions represents the purchase of a final good? The purchase of coffee beans by Starbucks. Your father buys a new John Deere riding lawn mower. Apple computer buys computer processors from Intel. Delta buys a new European-made jetliner. 67

10 B Page Ref: 635/215 Final vs. intermediate good LO1: Explain how total production is measured 12. Which of the following is not directly counted in GDP? consumer goods government purchases investment expenditures intermediate goods D Diff: 1 Page Ref: 635/215 Final vs. intermediate good 68

11 Factual LO1: Explain how total production is measured 13. Value added equals the market price of the firm's product minus the price of intermediate goods. wages and salaries. depreciation on plant and equipment. the price of all factors of production. 69

12 A Diff: 1 Page Ref: 635/215 Measuring GDP by the Value Added Method Definition LO1: Explain how total production is measured Analytic Skills 14. Which of the following would be directly counted in GDP in 2007? kitchen cabinets built in 1887, extracted from the 1887 home, and installed in a farm house built in 1950 kitchen cabinets built in 1887, extracted from the 1887 home, and installed in a brand new country-style home. kitchen cabinets purchased from Home Depot in 2007 to be installed in a house built in 1997 of the above C Page Ref: 635/215 Measuring Total Production 70

13 LO1: Explain how total production is measured

14 Table 7-1 Product Sweat Shirts Dental Examinations Coffee Drinks Coffee Beans Quantity 50 Price $ ,000 2, Refer to Table 7-1. Suppose that a simple economy produces only four goods and services: sweat shirts, dental examinations, coffee drinks, and coffee beans. Assume all of the coffee beans are used in the production of the coffee drinks. Using the information in the above table, nominal GDP for this simple economy equals $6,500. 3,090 units. $7,500. $4,500. A Page Ref: 636/216 Measuring Total Production Analytical LO1: Explain how total production is measured Analytic Skills Solved Problem: Calculating GDP

15 Product Shoes DVD's Tomatoes Ketchup Quantity , Table 7-2 Price $ Refer to Table 7-2. Suppose that a simple economy produces only four goods and services: shoes, DVDs, tomatoes, and catsup. Assume one half of the tomatoes are used in making the catsup and the other half of the tomatoes are purchased by households. Using the information in the above table, nominal GDP for this simple economy equals $8,000. $7,000. 2,440 units. $6,000. B Page Ref: 636/216 Measuring Total Production Analytical LO1: Explain how total production is measured Analytic Skills Solved Problem: Calculating GDP 17. In the circular flow model, the value of total income for an economy the value of total production. 73

16 may be greater than or less than is less than equals is greater than C Diff: 1 Page Ref: 636-7/216-7 Production, Income, and the Circular Flow Factual LO1: Explain how total production is measured 18. In the circular flow model, the value of total production for an economy the value of total expenditures on final goods and services. equals is greater than may be greater than or less than 74

17 is less than A Diff: 1 Page Ref: 636-7/216-7 Production, Income, and the Circular Flow Factual LO1: Explain how total production is measured 19. The real GDP of the U.S. in 2006 was approximately $13 trillion. This means that total spending in 2006 was around $13 trillion. total income in 2006 was around $13 trillion. the value of output in 2006 was around $13 trillion. all of the above are true. D 75

18 Page Ref: / Production, Income, and the Circular Flow LO1: Explain how total production is measured 20. Which of the following is not an example of a transfer payment? unemployment insurance payments social security payments to retirees health insurance payments to an army private social security payments to disabled persons 76

19 C Diff: 1 Page Ref: 638/218 Measuring Total Production Factual LO1: Explain how total production is measured 21. The purchase of a new automobile is included in consumption expenditures on services. consumption expenditures on durable goods. consumption expenditures on nondurable goods investment expenditures. B Diff: 1 Page Ref: 638/218 77

20 Components of GDP Factual LO1: Explain how total production is measured 22. Which of the following is not a durable good? furniture clothing refrigerator automobile A Diff: 1 Page Ref: 638/218 Components of GDP LO1: Explain how total production is measured 78

21 23. The factors of production include capital. investment. wages. transfers. A Diff: 1 Page Ref: 638/218 79

22 Production, Income, and the Circular Flow Definition LO1: Explain how total production is measured 24. Investment, as defined by economists, would include the purchase of a government bond. share of stock in ExxonMobil. computer by an accounting firm. corporate bond. C Diff: 1 Page Ref: 638/218 Components of GDP LO1: Explain how total production is measured 80

23 25. An example of business fixed investment spending is $200 million of unsold cars at a car dealership. a purchase of a bond by General Electric Corporation. a purchase of a home by a household. a purchase of a computer by an accounting firm. D Diff: 1 Page Ref: 638-9/218-9 Components of GDP LO1: Explain how total production is measured 81

24 26. To calculate GDP by the expenditure method one must add consumption spending, investment spending, government spending and net exports. consumption spending, investment spending, government spending and exports. labor, natural resources, entrepreneurship, and capital. wages, rents, interest, and profits. A Diff: 1 Page Ref: / Measuring Total Production Definition LO1: Explain how total production is measured

25 Investment, as defined by economists, would not include which of the following? General Motors adds 1000 new cars to inventories. builds another assembly plant in the U.S. buys U.S. government bonds. buys a new robotic machine (from a plant in Ohio) to assemble cars. C Diff: 1 Page Ref: 638-9/218-9 Components of GDP LO1: Explain how total production is measured Don't Let This Happen to YOU!: Remember What Economists Mean by Investment 28. The purchase of a new house is included in investment expenditures. consumption expenditures. 83

26 government purchases. net exports. A Diff: 1 Page Ref: 639/219 Components of GDP Factual LO1: Explain how total production is measured 29. The purchase by a Chinese household of a CD produced in the United States is included in U.S. consumption expenditures. government purchases. 84

27 net exports. investment expenditures. C Diff: 1 Page Ref: 640/220 Components of GDP LO1: Explain how total production is measured 30. The purchase by a foreign government of an airplane produced in the United States is included in U.S. government purchases. investment expenditures. net exports. consumption expenditures. 85

28 C Diff: 1 Page Ref: 640/220 Components of GDP LO1: Explain how total production is measured 31. In 2007, Kendall Ford, an automobile dealership, spends $20,000 on a new car lift for its repair shop, $2,000 on a new copy machine for its sales division, and $500,000 on Ford Motor company stock. Unsold cars and trucks were valued at $900,000 on January 1, 2007 and unsold cars and trucks were valued at $600,000 on December 31, What is Kendall Ford s total investment spending in 2007? $322,000 $522,000 $922,000 $22,000 A Diff: 3 Page Ref: 640-2/

29 Components of GDP Analytical LO1: Explain how total production is measured Analytic Skills Don't Let This Happen to YOU!: Remember What Economists Mean by Investment 32. In 2006, which component of GDP had a negative value? government spending investment net exports consumption C Diff: 1 Page Ref: 640/220 Components of GDP 87

30 Factual LO1: Explain how total production is measured 33. What is the largest component of spending in the U.S? investment spending government spending consumption spending net investment spending C Diff: 1 Page Ref: 640/220 Components of GDP Factual LO1: Explain how total production is measured 88

31 34. Table 7-3 Consumption expenditures Investment expenditures Government purchases Exports Imports Wages $ Refer to Table 7-3. Consider the data above (in billions of dollars) for an economy: Gross domestic product (in billions of dollars) for this economy equals $1,200. $1,400. $2,200. $1,600. A Page Ref: 640-1/220-1 Components of GDP Analytical LO1: Explain how total production is measured 89

32 35. Table 7-4 Consumption expenditures Investment expenditures Government purchases Government transfer payments Exports Imports $ Refer to Table 7-4. Consider the data above (in billions of dollars) for an economy: Gross domestic product (in billions of dollars) for this economy equals $1,700. $1,400. $2,100. $2,200. A Page Ref: 640-1/220-1 Components of GDP Analytical LO1: Explain how total production is measured Analytic Skills 90

33 36. Which of the following is not true about the composition of GDP in 2006? Business fixed investment is the largest component of investment. The majority of consumer spending is on durable goods. Purchases made by state and local governments are greater than purchases made by the federal government. Imports are greater than exports. B Page Ref: 641/221 Components of GDP Factual LO1: Explain how total production is measured 91

34 37. The sum of the value added of every firm involved in producing all final goods and services gross domestic product. equals is less than is greater than is sometimes greater than and other times less than A Diff: 1 Page Ref: 641-2/221-2 Measuring GDP by the Value Added Method Factual LO1: Explain how total production is measured Table 7-5 Stage of Production 1 Seller Steel Mill Buyer Auto Manufacturer 92 Price (Dollars) $10,000

35 2 3 Auto Manufacturer Auto Dealer Auto Dealer Consumer Consider the table above showing three stages of production of an automobile. 38. Refer to Table 7-5. The value added by the automobile dealer equals $7,000. $18,000. $25,000. $15,000. A Page Ref: 641-2/221-2 Measuring GDP by the Value Added Method Analytical LO1: Explain how total production is measured 93 18,000 25,000

36 39. Refer to Table 7-5. The value of each automobile in gross domestic product equals $25,000. $15,000. $18,000. $7,000. A Page Ref: 641-2/221-2 Measuring GDP by the Value Added Method Analytical LO1: Explain how total production is measured 94

37 Analytic Skills Scenario 7-1 CANOES-R-US makes canoes. It buys the shell of the canoe from another firm for $300 and uses its labor and intermediate goods to make the canoe. It sells the finished canoe to a retail canoe store for $800. The retail canoe store then sells the canoe to a consumer for $1, Refer to Scenario 7-1. The value added of CANOES-R-US for each canoe equals $400. $800. $500. $1,200. C Page Ref: 641-2/221-2 Measuring GDP by the Value Added Method Analytical LO1: Explain how total production is measured Analytic Skills 95

38 41. Refer to Scenario 7-1. The value of each canoe in gross domestic product equals $400. $800. $1,200. $500. C Page Ref: 641-2/221-2 Measuring GDP by the Value Added Method Analytical LO1: Explain how total production is measured Analytic Skills

39 In the circular flow of income, the value of all the income in the economy is greater than the value of goods and services produced in the economy. True False Diff: 1 Type: TF Page Ref: 636-7/216-7 Production, Income, and the Circular Flow LO1: Explain how total production is measured Analytic Skills 43. Residential investment includes spending by firms on office buildings. True False Diff: 1 Type: TF Page Ref: 639/219 Measuring Total Production LO1: Explain how total production is measured 97

40 44. High-income countries such as the United States spend a greater amount on services as compared to goods. True False Diff: 1 Type: TF Page Ref: 641/221 Components of GDP LO1: Explain how total production is measured 45. Why do we not count the value of intermediate goods and services in gross domestic product? Does the value of intermediate goods and services show up in gross domestic product? If so, how? We would double count if we counted directly the value of intermediate goods and services, because their value shows up in the value of the final goods and services in which they are a part. Type: SA Page Ref: 635/215 98

41 Measuring Total Production LO1: Explain how total production is measured 46. People complain that inflation increases the cost of the goods and services and therefore reduces their purchasing power. If inflation and income grow at the same rate, is this complaint valid? Explain carefully. If inflation and income grow at the same rate, real income will be constant as inflation increases both total expenditures and total income by the same amount. All of the money that a business receives on the sale of its product must be paid out as income to the owners of the factors of production. If the prices of final goods and services increase (inflation), then there is more money for the businesses to pay out as income. Therefore, on average the buying power of income will remain constant. The complaint is not valid. Diff: 3 Type: SA Page Ref: 636-7/216-7 Measuring Total Production Analytical 99

42 LO1: Explain how total production is measured 47. Table 7-6 Product ipods T-shirt Bottled Water Oranges Quantity , Price $ Refer to Table 7-6. Suppose that a simple economy produces only four goods and services: ipods, tee-shirts, bottled water, and oranges. Calculate nominal GDP for this simple economy. Nominal GDP equals (20 x $250) + (100 x $20) + (2,000 x $1) + (600 x $0.50) = $9,300. Type: SA Page Ref: 636/216 Measuring Total Production Analytical LO1: Explain how total production is measured Analytic Skills Solved Problem: Calculating GDP 100

43 48. Table 7-7 Product ipods T-shirt Bottled Water Oranges Quantity 50 Price $ Refer to Table 7-7. Suppose that a simple economy produces only four goods and services: sweaters, CDs, sugar, and soft drinks. Assume one half of the sugar is used in making the soft drinks and the other half of the sugar is purchased by households. Calculate nominal GDP for this simple economy. Nominal GDP equals (50 x $40) + (150 x $15) + ((600 x.5) x $1)) + (800 x 0.75) = $5,150. Diff: 3 Type: SA Page Ref: 636/216 Measuring Total Production Analytical LO1: Explain how total production is measured Analytic Skills Solved Problem: Calculating GDP 49. If the value added of a firm is positive, will the firm necessarily have positive profits? No. Value added equals the price of the firm's product minus the cost of intermediate goods. The intermediate goods are converted to the firm's profits by the application of such resources as labor, capital, and entrepreneurship. Profit is the difference between the total sales revenue and the opportunity cost of all the resources used to make the product. Diff: 3 101

44 Type: SA Page Ref: 641-2/221-2 Measuring GDP by the Value Added Method LO1: Explain how total production is measured Analytic Skills 50. How can a firm have a negative valued added, as supposedly some state-owned businesses did in the former Soviet Union? What has to be true for value added to be negative? A negative value added means that the cost of the intermediate goods exceeds the price of the final product 102

45 produced using the intermediate goods. For value added to be negative, a firm would use its primary factors of production, such as labor and capital equipment, to produce a product from the intermediate goods that is less valuable than the intermediate goods themselves. Diff: 3 Type: SA Page Ref: 641-2/221-2 Measuring GDP by the Value Added Method LO1: Explain how total production is measured Analytic Skills 7.2 Does GDP Measure What We Want It to Measure? 1. The Philippines and Vietnam have roughly the same size population. Suppose the GDP of the Philippines is $1,000 billion and the GDP of Vietnam is $10,000 billion. You should conclude it is not possible to make a good comparison of the economic well being of a typical individual in the 2 countries without additional information. a typical person in Vietnam is less than 10 times as well off as the typical person in the Philippines. a typical person in Vietnam is 10 times as well off as the typical person in the Philippines. a typical person in Vietnam is more than 10 times as well off as the typical person in the Philippines. A 103

46 Page Ref: 633/213 Shortcomings in GDP as a Measure of Total Production LO2: Discuss whether GDP is a good measure of well-being Economics in YOUR Life!: What's the Best Country for You to Work In? 2. Gross domestic product understates the total production of final goods and services because of the omission of intermediate goods. inflation. 104

47 exports. nonmarket household production. D Diff: 1 Page Ref: 642/222 Shortcomings in GDP as a Measure of Total Production LO2: Discuss whether GDP is a good measure of well-being 3. Gross domestic product understates the total production of final goods and services because of the omission of exports. intermediate goods. the underground economy. inflation. C Diff: 1 105

48 Page Ref: 642/222 Shortcomings in GDP as a Measure of Total Production LO2: Discuss whether GDP is a good measure of well-being 4. The size of the underground economy would tend to decrease if the government of a country made over-the-counter drugs illegal. decreased government regulations on businesses. increased income tax rates. increased business taxes. B Page Ref: 642-3/222-3 The underground economy 106

49 LO2: Discuss whether GDP is a good measure of well-being 5. The size of the underground economy would tend to increase if the government of a country increased income tax rates. legalized prostitution. decreased government regulations on businesses. legalized drugs. A Page Ref: 642/

50 The underground economy LO2: Discuss whether GDP is a good measure of well-being 6. Suppose Bob works for Mary as a proofreader. Mary and Bob fall deeply in love, marry and have eight children. Bob stops working for Mary in order to care for the children. What will be the effect on GDP? GDP will not change. GDP will increase. GDP will decrease. GDP may increase or may decrease depending on inflation. C Page Ref: 642-3/222-3 Shortcomings in GDP as a Measure of Total Production LO2: Discuss whether GDP is a good measure of well-being 108

51 7. Which of the following statements about the underground economy is true? The underground economy in developing countries amounts to less than 10% of measured GDP. Omitting underground economy production from measured GDP causes errors in GDP growth estimates in the long run. Income that is earned but not reported as income for tax purposes is included in the calculation of GDP. Most transactions that occur in the underground economy are included in the calculation of GDP. B Page Ref: 643/223 The underground economy LO2: Discuss whether GDP is a good measure of well-being

52 The informal sector can be a significant drag on the economies of developing countries because the firms in the informal sector employ illegal immigrants from other countries. sell their goods and services to citizens in other countries. tend to be smaller and have less capital than firms acting legally. produce goods and services no one wants. C Diff: 1 Page Ref: 643/223 The underground economy Factual LO2: Discuss whether GDP is a good measure of well-being Making the Connection: How the Underground Economy Hurts Developing Countries 9. Legalizing all forms of illegal activities reduces GDP and the size of the underground economy. increases GDP and increases the size of the underground economy. 110

53 increases GDP and reduces the size of the underground economy. reduces GDP and increases the size of the underground economy. C Page Ref: 644/224 The underground economy LO2: Discuss whether GDP is a good measure of well-being 10. Which of the following statements is true? GDP accounting rules do not adjust for production that pollutes the economy. Household production is counted in GDP as it amounts to real production. A decrease in the crime rate increases GDP as people will spend more on security. GDP growth distributes income equally to people in the economy. 111

54 A Page Ref: 644/224 Shortcomings in GDP as a Measure of Total Production Factual LO2: Discuss whether GDP is a good measure of well-being 11. Which of the following is likely to increase measured GDP? Tax rates increase and more people attempt to underreport their income for tax purposes. A greater number of women decide to stay at home and provide day care for their children under age 5. Marijuana becomes legal to grow and sell. 112

55 The do-it-yourself craze becomes increasingly popular and more people decide to improve their own homes. C Page Ref: 644/224 Shortcomings in GDP as a Measure of Total Production LO2: Discuss whether GDP is a good measure of well-being 12. The U.S. work week has declined from 60 hours in 1890 to 40 hours today. The impact of the decline in working hours decreases U.S. GDP and decreases the well-being of a typical working person in the U.S. increases U.S. GDP and increases the well-being of a typical working person in the U.S. decreases U.S. GDP and increases the well-being of a typical working person in the U.S. increases U.S. GDP and decreases the well-being of a typical working person in the U.S. C Page Ref: 644/

56 Shortcomings in GDP as a Measure of Total Production LO2: Discuss whether GDP is a good measure of well-being 13. A sharp increase in the divorce rate increases the number of lawyers hired to determine divorce settlements. This will increase GDP and decrease well being in the economy. decrease GDP and decrease well being in the economy. decrease GDP and increase well being in the economy. increase GDP and increase well being in the economy. A Diff: 1 Page Ref: 644/224 Shortcomings in GDP as a Measure of Total Production 114

57 LO2: Discuss whether GDP is a good measure of well-being 14. Which of the following is not a true statement about the impact of World War II on the U.S. economy? Increased production of tanks, ships, planes, and munitions accounted for most of the increase in GDP. More than 40% of the labor force was in the military or producing war goods. U.S. GDP increased dramatically from 1941 to The war time years were a period of prosperity for U.S. consumers. D Page Ref: 644-5/224-5 Shortcomings in GDP as a Measure of Total Production LO2: Discuss whether GDP is a good measure of well-being Making the Connection: Did World War II Bring Prosperity? 115

58 15. Increases in real GDP would overstate the increase in the well-being of a country over time if, over that time period, the amount of pollution decreased. price level increased. crime rate decreased. average hours worked per week increased. D Page Ref: 644/224 Shortcomings in GDP as a Measure of Total Production LO2: Discuss whether GDP is a good measure of well-being 16. Increases in real GDP would understate the well-being of a country over time if, over that time period, the average hours worked per week decreased. 116

59 divorced rate increased. amount of pollution decreased. crime rate increased. C Page Ref: 644/224 GDP as a measure of well-being LO2: Discuss whether GDP is a good measure of well-being 17. Statistics on real GDP during World War II may give a misleading indication of whether World War II was a period of prosperity because government agencies were shorthanded and did a particularly poor job of collecting data. 117

60 most of the increased production was for military goods, not consumption goods. inflation may have been considerably higher than estimated. government agents purposely inflated the production numbers to maintain American support for the war. B Diff: 1 Page Ref: 644-5/224-5 Shortcomings in GDP as a Measure of Total Production Factual LO2: Discuss whether GDP is a good measure of well-being Making the Connection: Did World War II Bring Prosperity? 18. Developing countries with large informal sectors tend to have firms that invest less in capital equipment. True False Type: TF Page Ref: 643/

61 The underground economy LO2: Discuss whether GDP is a good measure of well-being Making the Connection: How the Underground Economy Hurts Developing Countries 19. If income is unequally distributed in an economy, increases in GDP may not raise well-being in an economy. True False Diff: 1 Type: TF Page Ref: 644/224 GDP as a measure of well-being LO2: Discuss whether GDP is a good measure of well-being 20. Real GDP per capita is calculated by dividing the value of real GDP for a country by the country's adult population. True False 119

62 Diff: 1 Type: TF Page Ref: 644/224 GDP as a measure of well-being LO2: Discuss whether GDP is a good measure of well-being 21. The underground economy the informal sector can be a significant drag on the economies of developing countries. Why are firms in the informal sector often less efficient than firms in the formal sector? Entrepreneurs of the firms in the informal sector limit their investments in capital equipment because they are afraid that the firms will someday be shut down. The workers in the firms, consequently, have less capital equipment to work with. Type: SA Page Ref: 642-3/222-3 Shortcomings in GDP as a Measure of Total Production LO2: Discuss whether GDP is a good measure of well-being 120

63 22. Over the last 50 years, has the ratio of household production to gross domestic product in the United States increased or decreased? Consider the effect of the increased number of women working outside the home, and the effect of advances in technology in household production such as microwaves, coffee makers, power tools, etc. "Household production'" refers to goods and services people produce for themselves. It is not clear whether the ratio of household production to gross domestic product has increased or decreased. More women working outside the home has decreased the ratio of household production to GDP, but the technological advances at home have allowed people to produce more household production in less time. Diff: 3 Type: SA Page Ref: 644/222 Shortcomings in GDP as a Measure of Total Production Analytical LO2: Discuss whether GDP is a good measure of well-being Analytic Skills 7.3 Real GDP versus Nominal GDP 1. Nominal GDP is GDP in a given year valued in the prices of that year. adjusted for inflation. adjusted for anticipated inflation. 121

64 valued in the prices of the base year. A Diff: 1 Page Ref: 646/226 Real GDP versus Nominal GDP Definition LO3: Discuss the difference between real GDP and nominal GDP 2. Real GDP is GDP in a given year adjusted for anticipated inflation. valued in the prices of that year. adjusted for unanticipated inflation. valued in the prices of the base year. D Diff: 1 122

65 Page Ref: 646/226 Real GDP versus Nominal GDP Definition LO3: Discuss the difference between real GDP and nominal GDP Table 7-8 Year Price of Butter Price of Guns (Dollars) Guns Produced (Dollars) Butter Produced 80 $5 40 $4 90 $6 60 $10 Consider the data above for a fictional economy that produces only two products: guns and butter. 3. Refer to Table 7-8. Real GDP for this fictional economy for 2006 using 2000 as the base year equals $560. $880. $1,140. $690. D 123

66 Page Ref: 646/226 Real GDP versus Nominal GDP Analytical LO3: Discuss the difference between real GDP and nominal GDP Analytic Skills Solved Problem: Calculating Real GDP 4. Refer to Table 7-8. Nominal GDP for this fictional economy in 2006 equals $880. $690. $1,140. $560. C Page Ref: 646/226 Real GDP versus Nominal GDP Analytical 124

67 LO3: Discuss the difference between real GDP and nominal GDP Analytic Skills 5. Table 7-9 Year Nominal GDP $7,400 $7,813 $8,301 $8,760 Real GDP $7,537 $7,813 $8,165 $8,516 Refer to Table 7-9. Consider the data above on nominal GDP and real GDP (values are in billions of dollars): The base year used in calculating real GDP is A Page Ref: 646-7/226-7 Real GDP versus Nominal GDP LO3: Discuss the difference between real GDP and nominal GDP 125

68 Table 7-10 Year Oranges Produced 1,800 2,000 Price of Oranges Price of Shirts (Dollars) Shirts Produced (Dollars) $ $30 $ $35 Consider the data above for a fictional economy that produces only two products: oranges and shirts. 6. Refer to Table Real GDP for this fictional economy for 1998 using 2000 as the base year equals $5,300. $4,620. $5,100. $5,850. A Page Ref: 646/226 Real GDP versus Nominal GDP Analytical LO3: Discuss the difference between real GDP and nominal GDP 126

69 Analytic Skills 7. Refer to Table Nominal GDP for this fictional economy for 1998 equals $5,850. $5,300. $4,620. $5,100. C Page Ref: 646/226 Real GDP versus Nominal GDP Analytical LO3: Discuss the difference between real GDP and nominal GDP Analytic Skills 8. If the quantity of goods and services produced in the economy decreases 127

70 it may be possible for real GDP to increase. nominal GDP would certainly increase. it may be possible for nominal GDP to increase. real GDP would certainly increase. C Page Ref: 646-7/226-7 Real GDP versus Nominal GDP LO3: Discuss the difference between real GDP and nominal GDP 9. Suppose that nominal GDP in 2005 was less than real GDP in Given this information, we know for certain that real GDP in 2005 was less than real GDP in the base year. real GDP in 2005 was greater than real GDP in the base year. the price level in 2005 was less than the price level in the base year. 128

71 the price level in 2005 was greater than the price level in the base year. C Page Ref: 646-7/226-7 Real GDP versus Nominal GDP LO3: Discuss the difference between real GDP and nominal GDP 10. Which of the following could cause nominal GDP to decrease, but real GDP to increase? The price level rises and the quantity of final goods and services produced falls. 129

72 The price level falls and the quantity of final goods and services produced falls. The price level rises and the quantity of final goods and services produced rises. The price level falls and the quantity of final goods and services produced rises. D Diff: 3 Page Ref: 646-7/226-7 Real GDP versus Nominal GDP Analytical LO3: Discuss the difference between real GDP and nominal GDP Analytic Skills 11. Which of the following could cause nominal GDP to increase, but real GDP to decrease? The price level rises and the quantity of final goods and services produced falls. The price level rises and the quantity of final goods and services produced rises. The price level falls and the quantity of final goods and services produced falls. 130

73 The price level falls and the quantity of final goods and services produced rises. A Diff: 3 Page Ref: 646-7/226-7 Real GDP versus Nominal GDP Analytical LO3: Discuss the difference between real GDP and nominal GDP Analytic Skills 12. If real GDP in 2007 (using 2002 prices) is lower than nominal GDP of 2006, then prices in 2007 are lower than prices in real GDP in 2007 is larger than real GDP in nominal GDP in 2007 equals nominal GDP in prices in 2007 are higher than prices in A Diff: 1 Page Ref: 646-8/

74 Real GDP versus Nominal GDP LO3: Discuss the difference between real GDP and nominal GDP 13. To examine how the total production of an economy has changed over time, it would be better to examine GDP at current prices. the GDP deflator. nominal GDP. real GDP. D Page Ref: 647/227 Real GDP versus Nominal GDP 132

75 LO3: Discuss the difference between real GDP and nominal GDP 14. If prices in the economy rise, then the purchasing power of a dollar stays constant. the purchasing power of a dollar declines the purchasing power of a dollar cannot be determined. the purchasing power of a dollar rises. B Page Ref: 647/227 Real GDP versus Nominal GDP LO3: Discuss the difference between real GDP and nominal GDP

76 Real GDP will increase only if the quantity of final goods and services produced rises. if either the price level rises or the quantity of final goods and services produced rises. only if the price level falls. only if the price level rises. A Diff: 3 Page Ref: 647-8/227-8 Real GDP versus Nominal GDP LO3: Discuss the difference between real GDP and nominal GDP

77 If nominal GDP is $5 trillion and real GDP is $4 trillion, the GDP deflator is B Page Ref: 648/228 GDP deflator Analytical LO3: Discuss the difference between real GDP and nominal GDP Analytic Skills 17. The GDP deflator is the ratio of nominal GDP to real GDP multiplied by 100. ratio of real GDP to nominal GDP multiplied by

78 difference between real GDP and nominal GDP multiplied by 100 difference between nominal GDP and real GDP multiplied by 100 A Diff: 1 Page Ref: 648/228 GDP deflator LO3: Discuss the difference between real GDP and nominal GDP 18. Nominal GDP will increase if either the price level or the quantity of goods and services produced rises. only if the price level rises. only if the quantity of final goods and services produced rises. only if the price level falls. A Diff: 3 136

79 Page Ref: 648/228 Real GDP versus Nominal GDP LO3: Discuss the difference between real GDP and nominal GDP 19. The GDP deflator is a measure of the average level of prices of intermediate goods and services in the economy. total production of the economy adjusted for inflation. 137

80 average level of prices of final goods and services in the economy. total production of the economy unadjusted for inflation. C Diff: 1 Page Ref: 648/228 GDP deflator Factual LO3: Discuss the difference between real GDP and nominal GDP 20. If nominal GDP exceeds real GDP for a specific year, then the GDP deflator must be equal to 100. less than 0. greater than 100. less than 100. C 138

81 Page Ref: 648/228 GDP deflator LO3: Discuss the difference between real GDP and nominal GDP 21. The GDP deflator in year 2 is 105, using year 1 as the base year. This means that, on average, the cost of goods and services is 105% higher in year 2 than in year % higher in year 1 than in year 2. 5% higher in year 1 than in year 2. 5% higher in year 2 than in year 1. D Page Ref: 648/228 Real GDP versus Nominal GDP 139

82 Analytical LO3: Discuss the difference between real GDP and nominal GDP Analytic Skills 22. If the GDP deflator is less than 100, then for that year nominal GDP real GDP. is less than is greater than may be greater than or less than equals A 140

83 Page Ref: 648/228 GDP deflator LO3: Discuss the difference between real GDP and nominal GDP 23. Table 7-11 Year Nominal GDP $8,782 $9,274 Real GDP $8,509 $8,859 Refer to Table Consider the data above on nominal GDP and real GDP (values are in billions of dollars): The GDP deflator for 1999 equals A Page Ref: 648/

84 GDP deflator Analytical LO3: Discuss the difference between real GDP and nominal GDP Analytic Skills 24. Table 7-12 Year Nominal GDP $8,318 $8,790 $9,299 Real GDP $8,159 $8,516 $8,

85 Refer to Table Consider the data above on nominal GDP and real GDP (values are in billions of dollars): The GDP deflator for 1998 equals A Page Ref: 648/228 GDP deflator Analytical LO3: Discuss the difference between real GDP and nominal GDP Analytic Skills 25. If prices rise on average in the U.S. economy, the purchasing power of a dollar declines. True False Diff: 1 143

86 Type: TF Page Ref: 647/227 Real GDP versus Nominal GDP LO3: Discuss the difference between real GDP and nominal GDP 26. Using "chain-weighted" prices to calculate real GDP remedies the distortions causes by changed in relative prices over time. True False Diff: 1 Type: TF Page Ref: 647/227 Real GDP versus Nominal GDP LO3: Discuss the difference between real GDP and nominal GDP 144

87 27. In the term "real GDP," what does "GDP" stand for and what does it measure? What does "real" indicate? GDP stands for gross domestic product and measures the value of the total production of final goods and services. "Real" indicates that the goods and services produced are valued using the prices of the base year, not the current year, and therefore are adjusted for inflation. Type: SA Page Ref: 646-7/226-7 Real GDP versus Nominal GDP LO3: Discuss the difference between real GDP and nominal GDP 28. Is nominal GDP measured in terms of quantity or in terms of dollars? If dollars, the value of the dollar from what period? Is real GDP measured in terms of quantity or in terms of dollars? If dollars, the value of the dollar from what period? Both nominal GDP and real GDP are measured in terms of dollars. Nominal GDP is measured using the value of the dollar for that specific year, and real GDP is measured using the value of the dollar for the base year. 145

88 Type: SA Page Ref: 646-7/226-7 Real GDP versus Nominal GDP LO3: Discuss the difference between real GDP and nominal GDP 29. Japan experienced periods of deflation a declining price level during the 1990s. During a deflationary period, which would be higher: nominal GDP or real GDP? Why? Assume that the base year of choice is prior to the deflationary period. Real GDP would be higher, as long as the base year was before the period of deflation. Nominal GDP would be measured using the lower prices that resulted from the deflation. Real GDP would use the higher prices before the deflation, assuming the base year was before the deflation. Diff: 3 Type: SA Page Ref: 646-7/226-7 Real GDP versus Nominal GDP LO3: Discuss the difference between real GDP and nominal GDP 146

89 30. Since real GDP is adjusted for inflation and nominal GDP is not, nominal GDP must always be higher than real GDP. Do you agree or disagree? Why? Disagree. It depends on whether the year being examined is before or after the base year. If after the base year, then nominal GDP will always exceed real GDP if inflation has occurred. If before the base year, then nominal GDP will always be less than real GDP if inflation has occurred. If the year being examined is before the base year and inflation has occurred, then the base year prices will exceed the prices of that year. Diff: 3 Type: SA Page Ref: 646-7/226-7 Real GDP versus Nominal GDP Analytical LO3: Discuss the difference between real GDP and nominal GDP Analytic Skills 31. Table Product Hats French Fries Digital Cameras Quantity 200 2, Price $ Quantity 250 2, Price $

90 Refer to Table Consider the data above for a simple economy: Calculate nominal GDP and real GDP for 2006, using 2000 as the base year. Show your work. Nominal GDP for 2006 equals (250 x $21) + (2,300 x $2) + (50 x $180) = $18,850. Real GDP for 2006 equals (250 x $20) + (2,300 x $1) + (50 x $200) = $17,300. Diff: 3 Type: SA Page Ref: 646/226 Real GDP versus Nominal GDP Analytical LO3: Discuss the difference between real GDP and nominal GDP Analytic Skills Solved Problem: Calculating Real GDP

91 Table 7-14 Product MP3s Tacos Coats 2000 Quantity 40 2, Price $ Quantity 45 2, Price $ Quantity 50 2, Price $ Refer to Table Consider the data above for a simple economy: Using 2000 as the base year, calculate nominal GDP, real GDP, and the GDP deflator for Show your work. Nominal GDP for 2006 equals (50 x $250) + (2,300 x $2.40) + (350 x $55) = $37,270. Real GDP for 2006 equals (50 x $250) + (2,300 x $2.00) + (350 x $50) =$34,600. The GDP deflator equals x 100 = Diff: 3 Type: SA Page Ref: 646-8/226-8 Real GDP versus Nominal GDP Analytical LO3: Discuss the difference between real GDP and nominal GDP Analytic Skills Solved Problem: Calculating Real GDP 33. If the GDP deflator is less than 100, which will be higher: nominal GDP or real GDP? Why? Real GDP will be higher. The GDP deflator is the ratio of nominal GDP to real GDP, so if the value is less than 100, nominal GDP must be smaller than real GDP. Type: SA Page Ref: 646-7/

92 GDP deflator LO3: Discuss the difference between real GDP and nominal GDP 34. Business week reports there is a new serious problem in reporting real GDP accurately. This problem is related to increases in offshoring and the difficulties the Bureau of Labor statistics has in tracing the connected decline in import prices of these products. Firms receive huge cost savings by having goods such as furniture manufactured in other countries such as China. These firms close their U.S. factories, import the furniture or other goods from China or elsewhere, and domestic production declines and imports rise. However, the import price index gets miscalculated so that it grossly overstates prices of these imported goods. The BLS has no way of connecting the new, imported table with the table that used to be domestically manufactured. (Source: The Real Cost Of Offshoring U.S. data show that moving jobs overseas hasn't hurt the economy. Here's why those stats are wrong, Michael Mandel, Business Week, June 18, chan=top+news_top+news+index_businessweek+exclusives) 150

93 How would overstating the import price index affect the calculation of real imported consumption goods? How would the miscalculation of real imported consumption goods affect the real consumption expenditure component of GDP and the estimate of real GDP? Overstating the import price index would cause one to underestimate the real value of imported consumption expenditures for a given nominal value of imported consumer expenditures. This is because the index is essentially the price deflator. The price deflator is too large, and since it is in the denominator of our real import consumption calculation, the estimate of the real value of imported consumer goods is therefore underestimated. To calculate real domestic consumption expenditures, the Bureau of Commerce subtracts real imported consumption expenditures from real total consumption expenditures. Real imported consumption expenditures are underestimated, causing real domestic consumption expenditures and real GDP to be overestimated. Diff: 3 Type: SA Page Ref: 646-8/226-8 Real GDP versus Nominal GDP Analytical LO3: Discuss the difference between real GDP and nominal GDP Analytic Skills 7.4 Other Measures of Total Production and Total Income 1. Gross national product, GNP, of the United States is the market value of all final goods and services 151

94 produced by residents of the United States anywhere in the world. consumed within the United States. produced within the United States. consumed by residents of the United States anywhere in the world. A Diff: 1 Page Ref: 649/229 GDP vs. GNP Definition LO4: Become familiar with other measures of total production and total income 2. The output of Mexican citizens who work in Texas would be included in the gross domestic product of Mexico. gross national product of Mexico. net national product of the United States. 152

95 gross national product of the United States. B Page Ref: 649/229 GDP vs. GNP LO4: Become familiar with other measures of total production and total income 3. The output of U.S. citizens who work in Canada would be included in the gross domestic product of Canada. gross domestic product of the United States. gross national product of Canada. gross national product of Canada and the gross national product of the United States. A Page Ref: 649/

96 GDP vs. GNP LO4: Become familiar with other measures of total production and total income 4. If an American firm opens a production facility in India, the total value of the production will be included in the gross national income of India. gross domestic product of the U.S. gross domestic product of India. net domestic product of the U.S. C 154

97 Page Ref: 649/229 GDP vs. GNP LO4: Become familiar with other measures of total production and total income 5. Which of the following is included in both the U.S. GDP and U.S. GNP? the value of all cars produced by Toyota in the U.S. the value of all cars produced by General Motors in the U.S. the value of all cars produced by Nissan in Japan and the U.S. the value of all cars produced by Ford in Mexico B Page Ref: 649/229 GDP vs. GNP 155

98 LO4: Become familiar with other measures of total production and total income 6. A country in which a significant fraction of domestic production takes place in foreign owned factories and facilities is most likely a country where GDP is much larger than GNP. GDP is not comparable to GDP. GDP is equal to GNP. GNP is much larger than GDP. A Page Ref: 649/229 GDP vs. GNP LO4: Become familiar with other measures of total production and total income 156

99 7. The value of what a U.S. owned McDonald's produces in South Korea is included in the U.S. and the South Korean. GNP; GNP GDP; GDP GNP; GDP GDP; GNP C Page Ref: 649/229 GDP vs. GNP LO4: Become familiar with other measures of total production and total income 157

100 8. Net national product equals gross national product minus depreciation. changes in inventories. imports. inventories. A Diff: 1 Page Ref: 649/229 Other Measures of Total Production and Total Income Definition LO4: Become familiar with other measures of total production and total income 9. National income equals net national product 158

101 plus government transfer payments. plus sales taxes. minus sales taxes. minus government transfer payments. C Diff: 1 Page Ref: 649/229 Other Measures of Total Production and Total Income Factual LO4: Become familiar with other measures of total production and total income