Chapter Review
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1. How is the total output of an economy measured? We want to be able to compare the condition of the economy across different points in time and also against the economies of other countries. If we are producing more goods and services than before, the economy is growing. In order to combine dissimilar items like apples and oranges, economists use the market value of goods and services. The gross domestic product (GDP) is the market value of all final goods and services produced in a year in a country. We use final goods and services to avoid double-counting. 2. Who produces the nation’s goods and services? Economists divide domestic producers into three categories: households, businesses, and the government. Business firms produce the largest part of the U.S. GDP. 3. Who purchases the goods and services produced? The groups that purchase the GDP are households, businesses, government, and the international sector. Household spending is called consumption; business spending is called investment; government spending is spending by the government for goods and services; and spending by the international component is called net exports. In the United States, households are the largest purchasers of goods and services. A shorthand way of expressing the GDP as the sum of expenditures is GDP = C + I + G + X. 4. Who receives the income from the production of goods and services? Income is received by the factors of production, which economists divide into three categories: real property, labor, and capital. The payment to real property is called rent, the payment to labor is called wages, and the payment to capital is called interest. Profits are the sum of corporate profits plus profits from sole proprietorships and partnerships. Two income categories that are not payments to the factors of production are included in the GDP: capital consumption allowance and indirect business taxes. For GDP as output to be equal to GDP as income, we must include all the expenses producers incur in the production of output. 5. What is the difference between nominal and real GDP? Nominal GDP measures output in terms of its current dollar value. A rise in nominal GDP can be from an increase in physical goods and services, a rise in prices, or both. Real GDP measures output in constant prices. Real GDP can only increase if the production of physical goods and services increases. Real GDP is thus a better indicator of economic activity than nominal GDP.6. What is a price index? A price index measures the level of average prices and shows how prices, on average, have changed. |
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