Chapter 2 The Data of Macroeconomics

Refresh your memory How to learn macroeconomics? Reality economic data Method economic models Implication economic policies Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 2/35

Outline: what are we going to do today? I. Measure the performance of economy: GDP II. Measure the cost of living: CPI, GDP deflator III. Measure the unemployment: unemployment rate Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 3/35

Observe the reality Ice-breaking question: how to observe the macro economy? If you are the only economist in China, how will you observe the economy? Wealthy or not? Costly or not? Able to make money or not? Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 4/35

I. Measuring the economy (wealthy or not?) What to measure? Income are we able to calculate all the incomes? Business income, labor income, financial income, etc. Where does the income come from? Selling the output goods and services created by human beings Are we able to sum all the output together? What is the difficulty? How to mitigate the difficulty? Question: we are actually calculating how much people spend, but not how much they make. Income = expenditure? The circular flow Expenditure = Income = Output (Y) Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 5/35

GDP GDP: gross domestic product to measure the dollar value of economic activity in a given period of time GDP and GDP per capita of China How to calculate GDP? Three methods: output, income and expenditure The feasibility of these three methods The principle of calculation: the market value of all final goods and services produced within an economy in a given period of time Economy is very complex, can we measure it accurately? Estimation Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 6/35

An simple example Let s assume we have an economy producing 20 Xbox and 30 PlayStation in 2017. The market price of Xbox is $300, PS is $200. What is the GDP of this economy in 2017? Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 7/35

How about used goods? In 2017, Tom sells his Xbox to Mary for $100. Do we include this $100 in 2017 GDP? No, since Tom does not produce anything new. The transaction is actually a kind of capital transfer. Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 8/35

How about inventories? Microsoft produces 20 Xbox in 2017. They sell 15, and keep 5 as inventory. How do we calculate GDP? It depends. If the 5 Xbox are defectives. $300 15 If MS keeps the 5 Xbox as inventory. $300 20 (the 5 treated as investment) If MS sells the 5 Xbox in 2018. $300 20 in 2017. What about 2018? Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 9/35

How about intermediate goods? Intel sells a chip to MS for $100. MS uses this chip to produce an Xbox and sells it for $300. How does it contribute to GDP? $100 + $300? What is the problem calculating this way? The value of chip is counted twice. To calculate the value of final goods and services, we can calculate the value added. Value added of Intel: $100 Value added of MS: $300 - $100 = $200 Total value added: $100 + $200 = $300 Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 10/35

How about housing service? For renters: housing rent is a part of GDP For owners: imputed housing rent is counted Other imputed value includes public services: police, fireman,... Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 11/35

What are not included in GDP? Imputed rents for self-owned properties (excluding housing) Home product Illegal (underground) economic activities Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 12/35

Real GDP and Nominal GDP We want to compare GDP between 2010 and 2016. Is GDP a good measure? Market prices change with time. How to solve this problem? We need a reference when we compare! Fix the price choose a base year, and calculate GDP in each year using the base year prices. Example: 2009 2010 2016 Xbox $200 $250 $300 PS $100 $150 $200 Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 13/35

Real GDP and Nominal GDP We want to compare GDP between 2010 and 2016. Is GDP a good measure? Market prices change with time. How to solve this problem? We need a reference when we compare! Fix the price choose a base year, and calculate GDP in each year using the base year prices. Example: Question: can we choose 1990 as base year? Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 14/35

GDP deflator NNNNNNNNNNNNNN GGGGGG GGGGGG dddddddddddddddd = RRRRRRRR GGGGGG It measures the change in aggregate price level. Rearrange the equation: NNNNNNNNNNNNNN GGGGGG RRRRRRRR GGGGGG = GGGGGG dddddddddddddddd Literally, the GDP deflator is used to deflate nominal GDP to get real GDP. Nominal GDP: measures the value Real GDP: measures the quantity Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 15/35

Components of GDP How do we spend our money? Clothes, food, dwelling, transportation,... Erect new buildings, purchasing new machines,... Construct subways, host Olympic games,... (G) We also buy/sell goods and services from/to foreign countries. National income accounts identity: Consumption (C) Investment (I) Government Spending Net Exports (NX) YY CC + II + GG + NNNN Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 16/35

Components of GDP Consumption (C): durable goods, non-durable goods, services. ($9710B in 2007) Investment (I): business investment, residential investment, inventory investment. ($2130B in 2007) Government Spending/Purchases (G): public goods and services. ($2675B in 2007) Net Exports (NX): exports imports (-$708B in 2007) Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 17/35

Why GDP? Back to our earlier question: how to measure economy? Pros: GDP is a number, which is comparable (intertemporally and worldwide). Cons: GDP is not accurate. The scales of underground economies are various a lot by countries. Costly to get GDP is not an unbiased measure of reality, but it is the most feasible approximation. Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 18/35

Alternative measurement of income GNP: gross national product ( 国民生产总值 ) Why do we need this? Account for all incomes of citizens of a country globally. GNP = GDP + factor payments from abroad factor payments to abroad Factor payments from abroad (3% of GDP) Factor payments to abroad (3% of GDP) Thus, GNP GDP Example: I go to the US to carry bricks Wages, profits, rents, etc. Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 19/35

Alternative measurement of income NNP: net national product NNP = GNP capital depreciation (consumption of fixed capital, 10% of GNP) NNP national income Statistical discrepancy National income Compensation of employers (63.7%) Proprietors income (8.6%) Rental income (0.3%) Corporate profits (13.4%) Net interest (5.4%) Indirect business tax (8.6%) Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 20/35

Alternative measurement of income Personal Income = National Income Indirect Business Taxes Corporate Profits Social Insurance Contributions Net Interest + Dividends + Government Transfers to Individuals + Personal Interest Income Disposable Personal Income = Personal Income Personal Tax and Nontax Payments Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 21/35

II. Measure cost of living (costly or not?) Question: how can we measure the cost of living? Consumer Price Index (CPI): The Bureau of Labor Statistics weights different items by computing the price of a basket of goods and services purchased by a typical consumer. The CPI is the price of this basket of goods and services relative to the price of the same basket in some base year. Example Recall GGGGGG dddddddddddddddd = CCCCCC = ii pp ii qq ii pp ii qq ii ii NNNNNNNNNNNNNN GGGGGG RRRRRRRR GGGGGG = ii pp iiqq ii pp ii qq ii ii Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 22/35

CPI The differences between CPI and GDP deflator: CPI Goods and services purchased by a typical consumer Includes imports Overestimates the change in cost of living GDP deflator All goods and services produced Only includes domestic product Underestimates the change in cost of living Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 23/35

CPI The differences between CPI and GDP deflator: Producer Price Index (PPI) CPI Goods and services purchased by a typical consumer Includes imports Overestimates the change in cost of living GDP deflator All goods and services produced Only includes domestic product Underestimates the change in cost of living Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 26/35

CPI The differences between CPI and GDP deflator: Producer Price Index (PPI) CPI Goods and services purchased by a typical consumer Includes imports Overestimates the change in cost of living GDP deflator All goods and services produced Only includes domestic product Underestimates the change in cost of living Laspeyres index: fixed basket Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 29/35

CPI The differences between CPI and GDP deflator: Producer Price Index (PPI) CPI Goods and services purchased by a typical consumer Includes imports Overestimates the change in cost of living substitutions Laspeyres index: fixed basket GDP deflator All goods and services produced Only includes domestic product Underestimates the change in cost of living - welfare Paasche index: changing basket Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 30/35

CPI vs. GDP deflator Why CPI overstates while GDP deflator understates? Example: Mi phone Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 31/35

III. Measure unemployment (Able to make money or not?) Population (working age people) Labor force Others (Ge You paralysis) Employment Unemployment Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 32/35

Unemployment rate Unemployment 100% = Unemployment rate Labor force Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 33/35

Labor-force participation rate Labor force 100% = Labor-force participation rate Population (working age people) Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 34/35

What did we learn today? GDP GDP deflator CPI Unemployment rate Zhengyu Cai - 2018 Spring Macroeconomics Chapter 2 35/35