The document discusses gross domestic product (GDP) and how it is used to measure the overall health and output of an economy. GDP measures the total market value of all final goods and services produced within a country in a given period of time. It provides a measure of both production, or output, as well as income. When GDP increases, both national output and income are higher. GDP data can also be used to compare living standards across countries and measure economic growth over time by adjusting for inflation.

1. GDP

2. GDP A.K.A OUTPUT
• Economists measure the total output of an economy as a gauge of its overall
health.
• An economy that produces a large amount of valuable output is a healthy
economy. If output falls for a certain period, there’s something wrong in the
economy.
• The same is true for individuals. If you have a fever for a few days, your
output goes down— you study less, you don’t go to the gym, and you might
call in sick for work.
• We care about measuring our nation’s economic output because it gives us a
good sense of the overall health of the economy, much like a thermometer
that measures your body temperature can give you a general indication of
your overall health.

3. PRODUCTION EQUALS INCOME
• Nations and individuals that produce large amounts of highly valued output are relatively
wealthy. Nations and individuals that don’t produce much highly valued output are relatively
poor.
• This is no coincidence.
• National output and national income are very closely linked— so closely, in fact, that they’re
essentially interchangeable.

4. PRODUCTION EQUALS INCOME EX:
• Let’s say you open a coffee shop in your college town.
• You buy or rent the supplies and equipment you need to produce coffee— everything from
coffee beans and espresso machines to electricity.
• You hire the workers you need to keep the business running.
• Using these resources, you produce output such as cappuccinos, espressos, and draft coffee. On
the first day, you sell 600 different coffee drinks at an average price of $4 each, for a total of
$2,400.
• This dollar figure is a measure of your firm’s production, or output on that day, and it’s also a
measure of the income you received.
• You use the income to pay for your resources and to pay yourself.
• If you sell even more coffee products on the second day, the income generated increases. If you
sell less, the income goes down. The same holds true for nations.

5. GDP
• Gross domestic product (GDP) is the market value of all final goods and services
produced within a nation during a specific time period.
• GDP is the primary measure used to gauge a nation’s output. But it also measures a
nation’s income.
• Keyword: income and output

6. COFFEE SHOP ANALOGY
• Thus GDP is the sum of the value of all the output from coffee shops, doctor’s offices,
software firms, fast- food restaurants, and all the other firms that produce goods and
services within a nation’s borders.
• The sale of this output becomes income to the firms’ owners and the resource
suppliers.
• This dual function of GDP is part of the reason we focus on GDP as a barometer of
the economy.
• When GDP goes up, national output and income are both higher.
• When GDP falls, the economy is producing less than before, and total national
income is falling.

7. TWO ADDITIONAL USES OF GDP DATA
• GDP can be used as a measure of other things, not just output.
• Let’s take a look at the uses we have for this piece of data.

8. A: MEASURING LIVING STANDARDS
IMAGINE TWO VERY DIFFERENT NATIONS
• Nation 1:
• people work long hours in physically taxing labor,
yet their pay enables them to purchase only life’s
barest necessities—
• Meager amounts of food, clothing, and shelter.
• In this nation, very few individuals can afford a
high school education or health care from a
trained physician.
• Nation 2:
• virtually no one starves, people tend to work in a
nice environment, almost everyone graduates
from high school, and many receive college
degrees.
The first nation experiences life similar to that in the United States two
centuries ago; the second describes life in the United States today.
Everyone would agree that living standards are higher in the United States
today because most people can afford more of what they generally desire:
goods, services, and leisure.

9. GDP AS A COMPARATIVE MEASUREMENT TOOL
• We can see these differences in living standards in GDP data.
• Indeed, GDP in the modern United States is much higher than it was in nineteenth-
century America, meaning that:
• (1) output and income today exceed that of 200 years ago, and
• (2) living standards are also higher. While not perfect, GDP offers us a way of
measuring living standards across both time and place.

10. GDP IN A COMPARATIVE CONTEXT
• Let’s look at the nations with highest GDP in the world.
• Table 10.2 lists the world’s largest economies by GDP in 2013.
• Column 3 shows GDP for the top 15 economies, giving a picture of these nations’
overall output and income.
• Total world GDP in 2013 was nearly $75 trillion, which means that the United
States alone produced over 22% of all final goods and services in the world.
• The Chinese economy continues to increase its GDP rapidly and has moved up the
list considerably over the last 20 years, but it is now stuck at number two.
• Despite the huge gains, China’s GDP is still only 55% that of the United States.

11. TABLE 10.2

12. GDP AS MEASUREMENT CONT.
#CAUTION
• Although total GDP is important, it’s not the best indicator of living standards for a
typical person.
• Table 10.2 reveals that India and Canada had nearly the same amount of overall
GDP in 2013.
• Yet the population of India was about 35 times the population of Canada.
• When we want to gauge living standards for an average person, we compute per
capita GDP, or GDP per person (column 4 of Table 10.2). That is, we divide the
country’s total GDP by its population.

13. GDP PER CAPITA
• the country’s total GDP divided by its population.
• When using this measure, the average Canadian appears to be much better off than
the average Indian.
• GDP per person shows that there was almost $51,000 worth of GDP for every person
in Canada in 2013, while there was less than $1,500 worth of GDP for every person
in India in 2013.
• This observation raises an important point about macroeconomic data:
• the data you report can tell a very different story about an economy’s health.

14. MEASURING ECONOMIC GROWTH
• We also use GDP data to measure economic growth.
• You can think of economic growth as changes in living standards over time.
• When economies grow, living standards rise. This result is evident in GDP data.
• Figure 10.2 shows the change in per capita real GDP in the United States from 1960
to 2014. The overall positive slope of the curve indicates that living standards rose
over the last 54 years in the United States, even though growth wasn’t positive in
every year.
• The data shows that income for the average person in 2014 was nearly three times
what it was in 1960. So the typical person can now afford about three times as much
education, food, vacations, air conditioning, houses, and cars as the average person
in 1960.

15. FIG. 10.2

16. REAL GDP
• in this section we’ve added the word “real” to our discussion of GDP.
• Figure 10.2 plots real per capita GDP.
• Because we’re now looking at data over time, we have to adjust the GDP data for
changes in prices that occur over time.
• Real GDP is GDP adjusted for changes in prices.
• This is a very important distinction. Anytime we evaluate GDP figures over time,
we must use real GDP.
• Otherwise, we aren’t comparing data on an equal footing. (the worth of the dollar
today is not the same say it was 20 years ago)

17. UNDERSTANDING REAL GDP
• Let’s look at some data for the United States.
• Table 10.3 shows two sets of GDP figures.
•
• Column 1 shows GDP from a particular year and reflects nominal data— that is,
data not adjusted for price changes.
• Column 2 shows GDP adjusted for changes in price (what we call being adjusted for
inflation).

18. TABLE 10.3

19. EVALUATION OF TABLE 10.3
• Notice the difference. Both columns are growing through time, but the nonadjusted
data begins at a much lower level because it specifies the GDP of that particular
year as reported in that year.
• In contrast, all the data in column 2 are adjusted to remove the impact of price
changes.
• Two issues are apparent in the non- adjusted column: output is rising and prices are
rising, which skews our evaluation of the economy when we want to compare one
year to another.
• As prices increase over time, the non- adjusted GDP increases more quickly because
it rises as output increases and as prices increase.
• If we don’t adjust GDP for these price changes, we can’t tell whether output is
increasing or if what appears to be an increase in output is just an increase in
prices.

20. EXERCISE P.295

21. ECONOMIC GROWTH
• Economic growth is measured as the percentage change in real per capita GDP from
one period to another.
• Notice that this measure starts with GDP data but then adjusts for both population
growth and price increases.
• Given this definition, you should view Figure 10.2 as a picture of economic growth in
the United States.

22. FIGURE 10.2

23. ECONOMIC GROWTH CONT.
• Despite what you see in the U.S. real GDP data, you shouldn’t presume that economic
growth is automatic or even typical.
• Figure 10.3 shows the experience of six other nations with six distinct experiences.
• The per capita real GDP in Chile, Mexico, and Turkey rose significantly over the period,
more than doubling since 1960. India’s remained very low for many years and then
recently began to grow.
• Sadly, the data for Nicaragua and Kenya indicate that citizens in these nations are
hardly any better off now than they were in 1960.

24. INFLATION
• The prices of goods and services almost always rise over time.
• Inflation is the growth in the overall level of prices in an economy.
• There are two ways to view inflation.
1. inflation occurs when there is a sustained increase in the general price level. At the
macroeconomic level, we are concerned with all goods and services produced. As a result,
we can no longer simply focus on the price of one good. Rather, we need to consider the
prices of all things bought and sold.
• The fact that the price of gasoline goes up doesn’t mean there is inflation. It could be
that the price of video games falls to offset the rise in gas prices.
• Inflation happens only when prices as a whole increase. If inflation is occurring, the
price of gas, video games, cereal, cellphone plans, and almost everything else would be
increasing.

25. INFLATION CONT.
• The second way to think about inflation is to focus on purchasing power, or how
much your money can buy.
• If the dollars in your pocket can buy a lot, purchasing power is high. Your
purchasing power increases when prices are lower.
• Purchasing power falls when prices rise.
• Thus, when inflation rises, your purchasing power falls.
• Inflation affects consumers negatively because their incomes don’t change as often
as prices do.
• While prices can rise or fall every day, you aren’t likely to get a raise that often to
keep up with price changes. Example:

26. INFLATION EX:
• Imagine that you go to sleep with $10 in your wallet. When you wake up, you find you now have
$20.
• You stop at a donut shop to celebrate your sudden riches and notice that a donut now costs $1.50
instead of 75 cents.
• Curious . . . that’s double the price it was yesterday! A cup of coffee also seems to be more
expensive. Instead of $1.00 it now costs $2.00. In fact, everywhere you go, you find that prices have
exactly doubled, matching the doubling of the money in your wallet.
• What we have here is a case of inflation. Prices have all risen. However, since the money you have
to spend has also gone up, you haven’t lost any purchasing power. If the money you have to spend
were to instantly change to match the increase in prices, inflation wouldn’t be much of a problem.
• However, now consider what happens when you stop to buy donuts and coffee, but you still have
only $10 in your wallet and prices everywhere have doubled. The purchasing power of your money
has fallen (in fact, it has been cut in half) because you cannot buy as much at the higher prices.

27. CAUSES OF INFLATION
• Inflation poses a problem. If purchasing power declines as prices rise, individuals
have a more difficult time satisfying their needs and wants with their current
income.
• Since inflation presents this serious macroeconomic cost, you might assume that
there’s significant debate about the causes of inflation.
• But the answer is much simpler. Economist Milton Friedman famously said;
• “Inflation is always and everywhere a monetary phenomenon, in the sense that it
cannot occur without a more rapid increase in the quantity of money than in
output.”
• What he meant is that inflation is consistently caused by increases in a nation’s
money supply relative to the quantity of real goods and services in the economy.
• So money supply is the cause for inflation!

28. FIG. 10.4

29. CAUSES OF INFLATION CONT.
• Figure 10.4 shows average inflation rates and money- Supply growth rates across
157 nations for the years 1991–2011. For practically all nations, the relationship
appears to be almost one-to-one.
• The blue line is a hypothetical one-to-one line. This line represents the hypothetical
situation in which a nation’s average inflation rate is exactly equal to the average
growth rate of the money supply.
• It is difficult to distinguish all 160 nations, because almost all of the data points
(149 out of 160) are right on this one-to-line, with inflation rates of less than 100%.

30. • The United States, for example, has an average annual inflation rate of 5.7% and a
money-supply growth rate of 5.5%.
• In contrast, the few nations with even higher average inflation rates are easy to pick
out.
• For example, in this sample the average inflation rates in Brazil were 323% per year
(this is not a typo!), and that inflation stemmed from monetary growth rates of
about 331%.

31. INFLATION CONT.
• The intuition is straightforward: when the money supply in an economy grows
relative to the quantity of goods and services, then it takes more money to buy any
particular good or service.
• Money then becomes less valuable relative to goods and services— and this
relationship constitutes inflation.
• Example in class
• The principle holds true regardless of the type of money used. For example, when
Spanish conquistadors brought gold back to Europe from Latin America in the
sixteenth century, the supply of money (gold) in Europe increased, and the result
was inflation.

32. EMPLOYMENT GROWTH & INFLATION
• How do employment, growth, and inflation interact in terms of economic stability?
• We want people to be employed. If there aren’t enough jobs to go around, we aren’t
using our resources very well and our economy is less productive than it could be.
• When we aren’t productive, economic growth will slow down. GDP per person may
even stagnate, and quality of life will decrease.
• A government policy to help growth also usually helps employment, and policies to
promote employment often stimulate growth.
• The problem is inflation. We want inflation to be low so that prices aren’t rising too
quickly and so that purchasing power stays strong. However, when economies grow
too quickly, they can experience inflation.
• When employment increases, people have more money. They want to spend it, but if
there aren’t enough things to spend money on, prices get bid up. The result is
inflation and a decrease in purchasing power.

33. CONCLUSION
• Employment, economic growth, and inflation are the key macroeconomic measures
that most economists and policymakers watch.
• We want people to be working and the economy to be expanding. Keeping prices
under control (that is, managing inflation) helps to maintain the purchasing power
of money. However, when dealing with the macroeconomy, there’s one simple fact
that stymies the goal of macroeconomic stabilization: with so many things going on,
it is impossible to fully coordinate the economy.
• While there are other components of the macroeconomy to consider, for now we will
keep our attention on the three major macro variables of unemployment, growth,
and inflation.

34. CASE STUDY: THE GREAT DEPRESSION IN
TODAY’S CONTEXT
• You all lived through the Great Recession, the major economic downturn of 2007–2009.
• Certainly, many people experienced hardships as a result of the economic downturn.
• However, very few of us were forced to move into shanties on the street as a result of the
downturn.
• But the Great Depression was different. Living through it scarred an entire generation
of Americans. Many American families lost their homes and jobs during the Depression.
The best remaining alternative for many in some parts of the country was
sharecropping, or living on a farm and harvesting the crops on behalf of the owners. For
other families, the best available living arrangement was in shantytowns outside of
major cities. These shantytowns became known as Hoovervilles, named after President
Hoover.
• Although homelessness and unemployment are still issues for some people in the United
States, the extent of the problems is far smaller today— and was far smaller during the
Great Recession— than it was during the Great Depression.

35. GREAT DEPRESSION VS GREAT RECESSION
• We can use a familiar consumer item to illustrate the difference between the two
economic contractions.
• During the Great Recession years of 2007–2009, the number of Starbucks locations
in the United States grew from 10,684 to 11,128.
• Thus, a chain of coffee shops that sell basic drinks for about $4 each actually
expanded during the Great Recession.
• That could never have happened during the Great Depression.
• Now think again about how the Great Recession affected you or someone you know.
How much more extreme might those effects have been during the Great
Depression?
• Insert picture p. 300.

36. REVIEW
• How is macroeconomics different from microeconomics?
• Microeconomics is the study of individuals and firms, but macroeconomics considers
the entire economy.
• Many of the topics in both areas of study are the same; these include income,
employment, and output. But the macro perspective is much broader than the micro
perspective.

37. REVIEW CONT.
• What are the three major topics in macroeconomics?
• Three key topics, or variables, in macroeconomics are:
• employment, economic growth, and inflation.
• Unemployment may be structural, frictional, or cyclical.
• Economists use gross domestic product (GDP) to measure output, but GDP also
helps to measure standard of living and economic growth.
• Inflation is the growth in the overall level of prices in an economy, and it leads to
reduced purchasing power. Inflation is tied to growth in the money supply.

38. KEYWORDS
creative destruction (p. 285)
cyclical unemployment
(p. 290)
economic growth (p. 295)
economic stability (p. 284)
frictional unemployment (p. 287)
gross domestic product (GDP)
(p. 292)
inflation (p. 296)
per capita GDP (p. 292)
purchasing power (p. 296)
real GDP (p. 293)
structural unemployment
(p. 286)
unemployment (p. 284)
unemployment insurance
(p. 288)
unemployment rate (u) (p. 284)

39. QUESTIONS
1. Explain the relationship between output and income for both an individual and an
entire economy.
2. A friend of yours is reading a financial blog and comes to you for some advice about
GDP. She wants to know what “real” GDP is. How would you explain the concept to
her?
3. Until the late 1960s, most economists assumed that less unemployment was always
preferable to more unemployment. Define and explain the two types of unemployment
that are consistent with a dynamic, growing economy.
4. What type of unemployment is affected when online job search engines reduce the
time necessary for job searches? Does this outcome affect the natural rate of
unemployment? If so, how?
5. How do economists use GDP to measure various aspects of the economy?
6. What is the cause of inflation? What does inflation do to the purchasing power of
money?

40. OF THE TOPICS IN THE FOLLOWING LIST,
WHICH ARE MACRO AND WHICH ARE
MICRO?
• A. Caterpillar International expands its line of earth-mover equipment.
• b. The local fruit market closes for the winter and lays off its entire staff.
• c. The inflation rate in Japan falls below zero.
• d. Gross domestic product for the small country of Belize was unexpectedly high.
• e. The closing of one of two Mexican restaurants creates a monopoly for the
remaining store.
• f. Frictional unemployment in Canada edged up last year, but structural
unemployment fell.

41. ANSWER KEY
5.a. Because this example involves the production decisions for a single company, it is
a micro topic.
b. Unemployment is a significant macroeconomic topic. But this example involves a
single business. It is therefore a micro topic.
c. When we’re discussing a national statistic like the inflation rate, we’re talking about
a macro topic. (And yes, an inflation rate below zero is indeed possible. Inflation less
than zero is deflation.)
d. Regardless of the size of the country, when talking about GDP we’re dealing with
macro data.
e. We are dealing with a particular firm in a particular industry (food service): this is a
micro topic. Additionally, a business with monopoly power is a very micro topic.
f. Discussing the types of unemployment prevalent in a country means we’re talking
about a macro topic.