Measuring the EconomyMeasuring the Economy

Business Cycle and Economic Indicators

Gross Domestic ProductGross Domestic Product

The total dollar value of all the goods and services produced within a country during one calendar year.

Gross Domestic Product Gross Domestic Product FormulaFormula

GDP=C+G+I+(x-m)

C = Consumption

G = Government Spending

I = Investment (business spending)

X = Exports

M = Imports

What’s included in GDP?What’s included in GDP?

Final goods and services produced in a country in a year

What’s excluded from GDP?What’s excluded from GDP?

1. Double counting /intermediate goods Parts necessary to produce the final product

2. Public Transfer Paymentsa. Social Securityb. Welfare Paymentsc. Veteran’s Pensions

3. Private transfer paymentsgifts of moneyscholarships

What’s excluded from GDP?What’s excluded from GDP?

4. Security Transactions– Buying/selling stocks/bonds

Brokers services are included

5. Second hand sales

6. Underground Economy (7% in U.S.)

- illegal gambling, illegal drugs, illegal immigrants, prostitution, under the table cash payments

Adjusting GDP for Price Adjusting GDP for Price IncreasesIncreases

Nominal GDP- in current dollarsReal GDP – in constant dollars;

adjusted for inflationGDP per capita – amount of g&s

produced per person; compares one country to another

What is Real GDP per capita?

Business CycleBusiness Cycle

3 types of fluctuations in economic activities

– Seasonal : changes take place at different times of the year. Examples are produce sales and retail sales

– Secular: Changes that take place because of non-economic changes that impact on the economy. Examples are technology, weather, political events

– Cyclical: Changes in business activity over periods of up to 5 years.

Business CycleBusiness Cycle

Causes of changes in Causes of changes in Business CycleBusiness Cycle

The money supply & credit: The amount of money in circulation and available

Business investmentsPublic expectations & changes in demand:

momentum and psychological factorsExternal Factors: Changes in the world’s

economic and political climate. Weather and natural disasters can affect communities

Business Cycle PhasesBusiness Cycle Phases

Peak: period of general prosperity

Contraction: a slowdown marked by declining GDP for 2 quarters

Trough: a prolonged low point of the business cycle.

Expansion: Economic growth

Business Cycle PhasesBusiness Cycle Phases

ExpansionExpansion Employment, income, output begins to rise Prices begin to rise Profits up, consumer spending increasing, More

credit available Optimism

Peak

• Prices rise faster than costs; worry about inflation• Employment is up & Incomes are up• Consumers are spending• Stock Prices are up

ContractionContraction Costs are rising faster than prices Slowing of investment in new plants Bank credit is harder to get & Interest rates are up Inventories higher than sales Recession – 2 quarters of negative GDPRecession – 2 quarters of negative GDP

– Average Recession last 11 months.– 10 since WWII

Trough Prices fall (or stabilize) Employment, output, income going down Credit contracts Pessimism prevails

THIS IS A BIASED SLIDETHIS IS A BIASED SLIDE

Predicting the Business CyclePredicting the Business Cycle Leading indicators: Anticipate the direction in

which the economy is headed– Housing starts and Producer Price Index

Coincidental indicators: Provide information about the current economy– Personal income, GDP, Retail sales

Lagging indicators: Identifies changes that occur after the economy changes. They are used to predict the duration of the phase.– Unemployment rate, business capital investment