National Income Accounting

Ms. Ross

Spring 2006

Three Macroeconomic Goals Economic Growth – target of 3-4% per year Full Employment – target unemployment rate

of ~5 - 6% Price Stability – We tend to be comfortable

with an inflation rate (CPI) of 1-3%

Gross Domestic Product (GDP) The market value of all final goods and

services produced in a country in a year.

Final goods and services have been purchased for final use. They are not for resale or further manufacture.

Real GDP Nominal GDP is output measured in current

dollars. Real GDP is GDP adjusted for inflation. Real GDP is a much better measure for

comparing output over time.

Four Categories of Goods and Services(Expenditure Approach)

Consumption (C) : Spending by households on goods and services. Includes spending on things such as cars, food, and visits to the dentist. Makes up roughly 70% of GDP spending.

Investment (I) : Spending by businesses on machinery, factories, tools, and construction of new buildings.

Categories of GDP (cont’d) Government (G) : Spending by all levels of

government on goods and services. Includes spending on the military, schools and highways.

Net Exports (X-M) : Spending by people abroad on U.S. goods and services (exports, or X) minus spending by people in the U.S. on foreign goods and services (imports or M).

Examples:

Events Affecting Spending on C, I, G and (X-M) Due to a tax cut, consumers decide to buy

more new cars. Worried about an increasing budget deficit,

the government decides to buy fewer military planes.

Increasing prices in the United States, encourage Americans to buy more foreign goods.

G + I + C + (X-M) Due to a tax increase, consumers decrease

purchases on vacation travel. Due to increased incomes, Europeans buy

more U.S. goods and services. A foreign government imposes a tariff that

discourages its citizens from buying goods from the U.S.

G + I + C + (X-M) Businesses are optimistic about the future and

increase construction of new factories within the United States.

Many more Americans decide to buy Japanese cars rather than American cars.

Households worry about future unemployment and decide to spend less income.

G + I + C + (X-M) Because interest rates increased, businesses

cut back on spending for new machinery. Consumers feel good about the future and

take out loans and buy more durable goods such as washing machines.

Decreases in interest rates encourage businesses to take out loans to construct more buildings.

G + I + C + (X-M) To fight unemployment, the government

decides to hire more people to work in the national parks.

Tax cuts to businesses give businesses incentive to buy more computers.

To stimulate the economy and provide jobs, the government builds more bridges in California.

Inflation A rise in the average price level of all the

goods and services produced in an economy. Can be caused by pressure from the demand

side of the market (demand-pull inflation) Can be caused by pressure from the supply

side of the market (cost-push inflation)

Consumer Price Index (CPI) A price index that measures the cost of a fixed

market basket of consumer goods and services and compares the cost of this basket in one time period with its cost in some base period.

Changes in CPI is the most frequently cited measure of the inflation rate.

CPI can be used to determine the difference between nominal and real income.