Chapter 13 - Measuring the Economy

1. 13.2--How Do Economists Measure the Size of an Economy?

1.1. How Economists Calculate GDP: Economists typically calculate GDP by measuring expenditures on goods and services produced in a country. They divide the economy into four sectors: households, businesses, government, and foreign trade. Each sector’s spending makes up one of the four components of GDP: household consumption (C), business investment (I), government purchases (G), and the net of exports minus imports (NX). In calculating the impact of trade on GDP, economists focus on net exports—the value of all exports minus all imports.

1.2. Limitations of GDP as an Indicator of Economic Health: Gross domestic product is a useful tool for measuring economic growth. But as a measure of the overall health of an economy, GDP has several limitations. Some of the things that GDP do are it leaves out unpaid household and volunteer work, ignores informal and illegal exchanges, counts some negatives as positives, ignores negative externalities, places no value on leisure time, and says nothing about income distribution.

1.3. How GDP Growth Makes People Better Off: As a country’s per capita GDP increases, so too do other indicators of well-being, literacy and education, health and life expectancy, and standard of living.

1.4. Adjusting for Inflation: Nominal vs. Real GDP: Economists use GDP figures to determine not only how big an economy is, but whether it is growing or shrinking and at what rate. Simply calculating GDP by adding the spending on its four components yields what economists call nominal GDP. Nominal GDP measures the output of an economy valued at today’s prices, or in current dollars. Current dollars reflects the purchasing power of the dollars in the year they are spent. Using current dollars does not take the effect of inflation into account.

2. 13.3--What Does the Unemployment Rate Tell Us About an Economy's Health?

2.1. How the Government Measures Unemployment: Every month, the BLS reports the total number of people who were unemployed for the previous month.

2.2. Four Types of Unemployment: Frictional unemployment, structural unemployment, seasonal unemployment, and cyclical unemployment. When a person has left one job and is looking for another, is what economists call frictional unemployment. Structural unemployment comes about mainly when advances in technology reduce the demand for certain skills. Seasonal unemployment occurs when businesses shut down or slow down for part of the year, often because of weather. Every economy goes through prosperous times and hard times. Such cycles of growth and decline are the cause of cyclical unemployment. This type of unemployment occurs during periods of decline.

2.3. Problems with the Unemployment Rate as an Indicator of Economic Health: The first problem is that at any one time, a number of unemployed people have given up looking for work. The second problem is that the official unemployment rate does not recognize involuntary part-time workers. Involuntary part-time workers: people who settle for part-time employment because they are unable to find full-time work. A third problem with the unemployment rate involves people working in informal or underground economies. Underground economy: a sector of the economy based on illegal activities, such as drug dealing and unlawful gambling.

2.4. The Economic Costs of High Unemployment: The main economic cost of high unemployment is lost potential output. Unemployed workers also pay a serious economic cost. High unemployment is also costly for society at large.

3. 13.4--What Does the Inflation Rate Reveal About an Economy's Health?

3.1. Tracking Inflation with the Consumer Price Index: The BLS tracks inflation by gathering information on Americans’ cost of living. Economists at the BLS track changes in the cost of living using what is known as the consumer price index. A price index measures the average change in price of a type of good over time. The consumer price index (CPI) is a price index for a “market basket” of consumer goods and services.

3.2. The Economic Costs of Inflation: Loss of purchasing power, higher interest rates, and loss of economic efficiency.

3.3. Adjusting for Inflation: Nominal vs. Real Cost of Living: The cost in current dollars of all the basic goods and services that people need is the nominal cost of living. The real cost of living is the nominal cost of basic goods and services, adjusted for inflation.

3.4. Creeping Inflation, Hyperinflation, and Deflation: In the United States we have come to expect a certain amount of gradual inflation, or creeping inflation, every year. Occasionally inflation goes into overdrive. The result is hyperinflation. Deflation occurs when prices go down over time.

4. 13.5--How Does the Business Cycle Relate About an Economy's Health?

4.1. Economic Indicators and the Business Cycle: Business cycles are irregular in both length and severity. This makes peaks and troughs difficult to predict. Nonetheless, economists attempt to do just that, using a variety of economic indicators. Measures that consistently rise or fall several months before an expansion or a contraction begins are called leading economic indicators. Coincident economic indicators are measures that consistently rise or fall along with expansions or contractions. Measures that consistently rise or fall several months after an expansion or a contraction are known as lagging economic indicators.

4.2. The Four Phases of the Business Cycle: The business cycle consists of four phases. These phases include a period of growth and a period of decline, as well as the turning points that mark the shift from one period to the next. A period of economic growth is known as an expansion. The point at which an expansion ends marks the peak of the business cycle. Following the peak comes the contraction phase of the business cycle. The lowest point of a contraction is called the trough.

4.3. From Boom to Bust to Boom Again: Business cycles are popularly known as periods of boom and bust. A boom is the expansion phase of the cycle. The bust, or contract-ion phase of the business cycle, is also called a downturn, a downswing, or a recession. On rare occasions, a recession will last a long time and cause serious damage to the economy. Economists refer to this kind of severe contraction as a depression.

4.4. Business Cycle: The four phases is what sets up the business cycle. It goes from contraction, trough, expansion, peak, contraction, trough, expansion, peak, and so on. It's a never ending cycle.