# Chapter 10 gross domestic product and economic growth chapter in a Nutshell

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## Chapter in a Nutshell

1. Economists have developed a single statistic to measure the output of an economy. This statistic is known as gross domestic product, or GDP. GDP is the market value of all final goods and services produced within a country in a given year.

2. The GDP of an economy can be calculated by adding the expenditures on goods and services produced during the current year. When derived by the expenditure approach, there are four components of GDP: (1) personal consumption expenditures, (2) gross private domestic investment, (3) government purchases of goods and services, and (4) net exports to foreigners. For the United States, personal consumption expenditures have been the largest component of GDP, typically accounting for two-thirds or more of GDP.

3. Although GDP is our best single measure of the value of the output produced by an economy, it is not a perfect measure of economic well being. For example, GDP ignores transactions that do not take place in organized markets. GDP also ignores the underground economy as well as changes in the environment that arise through the production of output. Furthermore, GDP does not account for leisure nor does it show how much output is available per person. Finally, GDP does not reflect the quality and kinds of goods that compose a nation=s output.

4. Nominal GDP, or current-dollar GDP, is expressed in terms of the prices existing in the year in which goods and services were produced. Real GDP, or constant-dollar GDP, is nominal GDP adjusted to eliminate changes in prices. It measures actual (real) production and shows how actual production, rather than prices of what is produced, has changed. Real GDP is superior to nominal GDP for assessing rates of economic growth.

5. An economy realizes economic growth when it increases its full production level of output over time. The rate of economic growth is the percentage change in the level of economic activity from one year to the next. Typically, analysts look at the rate of growth in an economy=s real GDP.

6. The keys to long-run economic growth are the incentives that induce individuals to work and firms to invest in production technology, within the limits imposed by demographics and the rate of technological advances. Among the major determinants of economic growth are natural resources, physical capital, human capital, and economic efficiency. Government may enact policies that foster economic growth, such as: (1) boosting productivity by increasing domestic saving, (2) stimulating research and development, (3) working to reduce trade barriers, and (4) improving the efficiency of regulation. Governments may also target and subsidize specific industries that might be especially important for technological progress. Such a policy is known as industrial policy.

7. Although economic growth may provide benefits for a nation, it can also entail costs. Critics maintain that additional economic growth can promote more pollution, more crowded cities, excessive emphasis on materialism, and psychological problems that result in suicide and drug usage. Economic growth may also result in a depletion of scarce resources, eventually resulting in a decline in the nation=s standard of living. However, proponents argue that economic growth does not cause these problems, but rather fosters higher real income, less poverty, and greater economic security.

8. For decades, the economies of East Asia have been characterized by relatively high rates of economic growth. High rates of investment and increasing endowments of capital due to universal education have underlain such growth. Moreover, East Asia has relied on industrial policies to support selected industries such as steel, shipbuilding, coal, power, and fertilizer. The East Asian economies have followed a “flying geese” pattern of economic growth in which countries gradually move up in technological development by following in the pattern of countries ahead of them in the development process.

### Chapter Objectives

After reading this chapter, you should be able to:

1. Discuss the nature of gross domestic product and how it is calculated.

2. Distinguish between nominal gross domestic product and real gross domestic product.

3. Describe the factors that underlie a nation=s rate of economic growth in the long run.

4. Identify the possible reasons for the slowdown in U.S. productivity

5. Discuss the possible policies that government might enact to speed up economic growth.

6. Analyze the economic growth policies of East Asia.

## Knowledge Check Key Concept Quiz

 gross domestic product (GDP) expenditure approach gross private domestic investment net exports nominal GDP real GDP price index GDP deflator rate of economic growth industrial policy trademarks flying geese pattern of economic growth _____ a. market value of all final goods and services produced within a country in a given year _____ b. consists of all private-sector investment _____ c. measured as exports – imports _____ d. constant-dollar GDP _____ e. the broadest price index _____ f. exclusive rights to a distinguishing name or symbol _____ g. a pattern of development used to describe East Asia _____ h. a method of measuring the GDP of an economy _____ i. current-dollar GDP _____ j. is used to adjust GDP to reflect changes in actual output _____ k. the percentage change in the level of economic activity from one year to the next _____ l. involves targeting and subsidizing specific industries

### Multiple Choice Questions

a.Gross domestic product (GDP)

b.is a measure of the value of final goods and services

c.uses market prices

d.measures the value of domestic output

e.all of the above

1. GDP includes

1. government purchases of goods and services and transfer payments

2. only government transfer payments

3. government purchases of goods and services but not transfer payments

4. none of the above

1. Net exports equals

1. exports – depreciation of exports

2. exports + imports

3. exports – imports

4. exports + net investment

1. A decrease in business inventories during the year

1. is counted as negative investment

2. is not considered as being part of investment

3. leads to a decline in the growth rate

4. implies that the economy is in a recession

1. When net exports are positive,

1. exports exceed imports

2. imports exceed exports

3. the economy must enjoy high rates of growth

4. the stock market reaches new peaks

1. Changes in nominal GDP may be caused by

1. a change in prices only

2. a change in output only

3. a change in output and prices

4. all of the above

1. Real GDP is

1. a more accurate measure of national output than nominal GDP

2. measured in base-year prices

3. constant-dollar GDP

4. all of the above

1. The GDP deflator

1. is a price index

2. includes only consumer goods and services

3. is used to measure the output of the underground economy

4. all of the above

1. Economic growth

1. is a long-run objective of the United States

2. can be described by using a production possibilities model

3. may be best described as a rise in full production output per person over time

4. all of the above

1. All of the following are determinants of economic growth except

1. natural resources

2. physical and human capital

3. the amount of financial capital of a nation

4. economic efficiency

1. All of the following may be policy prescriptions for enhancing growth, except

1. improving the skills of the work force

2. stimulating research and development

3. protecting domestic markets by creating new trade barriers

4. improving regulatory efficiency

1. Joseph Schumpeter

1. coined the term “creative destruction”

2. considered monopoly profits as healthy

4. all of the above

1. Technology may impact prices in all of these ways, except

1. reduction of direct costs

2. electronic commerce

3. reduction in risk to investors

4. declining long-run average costs

1. For the United States, which is the largest component of expenditures in GDP accounts?

1. government purchases of goods and services

f.gross private domestic investment

g.personal consumption expenditures

1. Proponents of _____ maintain that government should enact policies that encourage the development of emerging, Asunrise@ industries such as high-technology

1. macroeconomic policy

i.microeconomic policy

j.industrial policy

k.supply-side policy

1. In the calculation of GDP, which of the following is included as a personal consumption expenditure?

1. the purchase of a used automobile

l.the purchase of a new computer required for an accountants job

m.the purchase of a new house by a college professor

n.the purchase of a new CD player by a college student

1. All of the following are examples of investment in the expenditures approach to calculating GDP except

1. Ford builds an auto assembly plant

o.Ford buys new robots to produce autos

p.Ford adds 1,000 new autos to inventories

q.Ford purchases \$2 million of U.S. government securities

1. GDP tends to underestimate the value of the total output of the economy because of the existence of

1. the production of final goods

r.the underground economy

s.unemployment compensation benefits

t.industrial pollution

1. If U.S. exports equal \$800 billion and U.S. imports equal \$900 billion, the United States

1. has a surplus in its net exports equal to \$1,700 billion

2. has a surplus in its net exports equal to \$100 billion

3. has a deficit in its net exports equal to \$1,700 billion

4. has a deficit in its net exports equal to \$100 billion

1. According to the expenditures approach, the largest component on GDP is

1. gross private domestic investment

2. personal consumption expenditures

3. government purchases of goods and services

4. net exports of goods and services

1. Assume that GDP equals \$9,000 billion, gross private domestic investment equals \$1,200 billion, personal consumption expenditures equals \$5,400 billion, and government purchases of goods and services equals \$2,000 billion. We can say

1. exports exceed imports by \$400 billion

2. exports exceed imports by \$800 billion

3. imports exceed exports by \$400 billion

4. imports exceed exports by \$800 billion

1. In 2000, the nominal GDP of the United States equaled \$9,824.6 billion and the GDP deflator equaled 106.9 The real GDP of the United States in 2000 equaled

1. \$10,286.2 billion

2. \$9,936.7 billion

3. \$9,431.9 billion

4. \$9,190.4 billion

1. The real GDP of the United States equaled \$8,159.5 in 1996 and \$8,508.9 in 1998. Over this period, real GDP grew about

1. 2.3 percent

2. 3.1 percent

3. 4.3 percent

4. 5.2 percent

24. Suppose that you knew that real GDP grows at a constant rate of 4.2 percent a year. It would take about ________for the real GDP to double

1. 12 years

2. 15 years

3. 17 years

4. 20 years

### True-False Questions

1. T F GDP is not a single measure, but a combination of several measures of a nation’s well-being.

2. T F Economists typically measure the change in a country’s nominal GDP over time.

3. T F Nominal GDP is measured using current-year prices.

4. T F Real GDP is a better measure of an economy’s output than nominal GDP.

5. T F Increasing domestic saving and reducing consumption tend to reduce economic growth.

6. T F When an economy experiences growth in nominal GDP, one can be certain that the production possibility frontier has shifted outward.

7. T F The GDP deflator uses prices of all consumer and investment goods.

8. T F Net exports increase when imports decrease and exports increase.

9. T F Gross domestic investment includes changes in business inventories.

10. T F The GDP reflects the distribution of income in an economy.

11. T F The GDP includes all transactions, even if they do not occur in organized markets.

12. T F The expenditures approach to GDP measurement does not permit the inclusion of changes in inventories.

13. T F Both invention and innovation can lead to economic efficiency.

14. T F The United States may have experienced some productivity slowdown due to declining R&D expenditures in the late 1970s.

15. T F In the U.S., none of the factors have been reversed that caused the productivity growth slowdown of the 1970s and 1980s.

16. T F Economists argue that easing of trade protection may lead to faster growth.

17. T F An open trading system that exposes businesses to greater competition tends to destroy efficient domestic industries.

18. T F Some economists consider industrial policy to be especially important for technological progress.

19 T F According to Joseph Schumpeter, the drive to capture monopoly profits promotes a creative destruction as old goods and livelihoods are replaced by new ones.

20. T F According to the economic growth theory of Adam Smith, the model of monopoly is the main spur to economic efficiency.

21. T F Critics of economic growth maintain that it tends to result in more pollution, more crowded cities, and excessive emphasis on materialism.

22. T F The keys to long-run economic growth are the incentives that induce individuals to work and firms to invest in production technology, within the limits imposed by demographics and the rate of technological advance.

23. T F The U.S. government has claimed that production subsidies give Airbus an unfair competitive advantage against Boeing in the commercial jetliner industry.

24. T F If the U.S. economy grows by 3 percent per year, it will take about 12 years for the economy=s output to double.

### Application Questions

1. Use the table below to answer the following questions

Consumption expenditures \$200 billion

Government purchases \$60 billion

Taxes \$30 billion

Investment \$50 billion

Social Security payments \$20 billion

Imports \$20 billion

Exports \$10 billion

1. How much is GDP?

2. How much are net exports?

3. Social Security payments are government expenses. Should they be included in GDP?

1. Use the table below to answer the following questions.
 Year Nominal GDP (billions of dollars) Real GDP (billions of 1992 dollars) GDP Deflator 1998 3.000 1.500 2000 4.836 3.100

1. What is the nominal GDP in 1998?

2. What is the GDP deflator in 2000?

u.Use the table below to answer the following questions.
 Year Nominal GDP (billions of dollars) Real GDP (billions of 1992 dollars) GDP Deflator 1992 6244.4 6244.4 1993 6553.0 6386.4 102.6 1994 6935.7 6698.7

1. What is the base year?

2. What is the rate of growth in real GDP between 1992 and 1993?

3. Did real GDP grow faster between 1993 and 1994 than between 1992 and 1993?

## Answers to Knowledge Check Questions What happened to the GDP deflator between 1993 and 1994?

 1. a 4. c 7. j 10. l 2. h 5. i 8. e 11. f 3. b 6. d 9. k 12. g

 1. d 6. d 11. c 16. d 21. a 2. c 7. d 12. d 17. d 22. d 3. c 8. a 13. c 18. b 23. c 4. a 9. d 14. c 19. d 24. c 5. a 10. c 15. c 20. b

 1. F 6. F 11. F 16. T 21. T 2. F 7. F 12. F 17. F 22. T 3. T 8. T 13. T 18. T 23. T 4. T 9. T 14. T 19. T 24. F 5. F 10. F 15. F 20. F

1. a. \$300 billion

b. -\$10 billion

c. No. Social Security payments should not be included, since they are transfer payments. These payments do not represent newly produced goods.

2. a. Nominal GDP in 1998 is \$4.500 billion.

1. The GDP deflator in year 2000 is 156.

3. a. The base year is 1992.

b. The rate of growth between 1992 and 1993 is (6386.4 – 6244.4) ÷ 6244.4 = 0.022.

1. The rate of growth between 1993 and 1994 is (6698.7 – 6386.4) ÷ 6386.4 = 0.048.
Yes, the rate of growth more than doubled.

d. The GDP deflator in 1994 is 103.5; therefore, the GDP deflator increased between 1993 and 1994.