Bernanke -- Problems -- Chapter 6 -- Measuring Economic Activity

1. George, Al and GDP in clamshells.

   Good	Output	Price	Market Value
   Fish	300	1	300 clamshells
   Boars	5	10	50 clamshells
   Bananas	200	5	1000 clamshells

   Adding up the market values this far, we get 1350 clamshells .

   What should we do with digging bait? Services are part of GDP, but these are intermediate services; adding them would be like adding wages to GDP (certainly wages are important, but they are paid out of receipts from selling GDP).

   What should we do with the 5 banana trees that Al sold to George for 30 clamshells each? They are not intermediate goods in the sense the term is used in for national income accounts, but they are "second-hand" goods -- they already existed, and were not "produced" in the current year. Their sale is a transfer of an asset that does not add anything to GDP.

2. Impact of federal government spending on GDP.

   • a. Salaries to government workers are part of GDP; they represent direct government purchase of services.

   • b. Payments to Social Security recipients are transfer payments, and transfer payments are not part of "Government consumption or investment" in the NIPA accounts. They will be counted as part of the government budget , but they will be spent by individuals and will then become part of "Personal consumption expenditure".

   • c. Purchase of aircraft parts is counted as government consumption in the NIPA accounts.

   • d. Interest paid on government bonds is NOT counted as part of GDP; the argument is that the interest is not usually for a loan purchasing capital equipment, and therefore is not connected to production; whereas net business interest typically is for a loan used to purchase capital equipment and is counted as part of GDP since it is related to production.

   • e. Payment of $1 billion to Saudi Arabia for crude oil to add to reserves counts as government consumption and would add to GDP, but will also be subtracted off as imports -- the net effect is that GDP is unchanged.

3. Value added and GDP.
   The process of production is as follows:

   • Intelligence Inc. produces $20,000 worth of computer chips;
     Macrosoft produces $ 5000 worth of software, for a total value added of $25,000.

   • Bell Computers produces $80,000 worth of computers;
     since they purchased $25,000 worth of inputs from Intelligence Inc. and Bell,
     their value added is $55,000.

   • PC Charlie sells the computers for $100,000. Since he bought them from Bell, his value added (in the form of advice to customers or simply making them more conviently available) is $ 20,000.
   If we add up the value added at each of the above stages, we obtain:
   $ 25,000 + $ 50,000 + $20,000 = $100,000
   which is (as it should be) the value of the final sale.

4. Cars and your mother-in-law

   • a. Buying a new car from a US producer is personal consumption expenditure and adds to GDP.

   • b. Buying a new car from a Swedish producer is personal consumption expenditure and imports. While PCE adds to GDP, the same value is subtracted off when classed as imports, so that GDP is unchanged.

   • c. If the car rental business buys a car from Ford, it counts as investment (GPDI) and adds to GDP.

   • d. If the car rental business buys a car from Saab, it counts as investment (GPDI) and as imports, and GDP is unchanged.

   • e. If the government buys a car from Chrysler for the ambassador to Sweden, it counts as government expenditure and adds to GDP. (Note that simply leaving the country does not make a good an export).

5. Calculating GDP
   Problem: Given the following data, compute GDP:
   • Consumption expenditures = $ 600
   • Exports = $ 75
   • Govt. purchases of goods and services = $ 200
   • Construction of new homes = $ 100
   • Sales of existing homes = $ 200
   • Imports = $ 50
   • Beginning of year inventory = $ 100
   • End of year inventory = $ 125
   • Business fixed investment (plant and equipment) = $ 100
   • Government payments to retirees = $ 100
   • Household purchases of durable goods = $ 150

   ---

   Note that some items will not count towards GDP:
   

   • Sales of existing homes and apartments are excluded

   • Government payments to retirees are transfers, not direct government expenditure.
   • Only change in inventories counts, so that we must subtract "beginning of year inventory" from "end of year inventory" to find the contribution to GDP. Here, the value is 125 - 100 = + 25.

   • Only Net Exports counts toward GDP, so we must subtract imports from exports; here, the value is 75 - 50 = + 25.

   The other item that is best computed before turning to the GDP formula is investment:

   GPDI = residental fixed + non-residental fixed + change in inventories

   so in this case

   GPDI = 100 + 100 + 25 = 225

   Now we can compute GDP easily, using the following notation

   • PCE = Personal Consumption Expenditure
   • GPDI = Gross Private Domestic Investment
   • NX = Net Exports
   • GOVT = Government Expenditures
   GDP = PCE + GPDI + NX + GOVT
   GDP = 600 + 225 + 25 + 200 = 1050

6. Calculating Nominal and Real GDP
   Nominal GDP is found by simply multiplying prices and quantities and adding them up. The problem with nominal GDP as a measure of welfare is that, due to inflation, prices do not stay constant.

   To have a firm basis for comparison, we must have a common measure;
   in calculating real GDP we take prices in the base year as the measure of prices.

   In the example, nominal GDP is found simply by multiplying the given prices and quantities for each year:

   Nominal GDP in 2000 = 100 (5) + 300 (20) + 100 (20) = 8500
   Nominal GDP in 2005 = 125 (7) + 250 (20) + 110 (25) = 8625
   Nominal GDP has increased over the period; but it is not clear whether welfare has increased. We can note that there are more hockey pucks and back rubs, but there are fewer cases of root beer. Is the net result an increase or decrease in welfare? This question, since it depends on your preference for root beer versus hockey pucks, is hard to answer for any individual, but we can say that
   real GDP has decreased , since:

   Real GDP in 2000 = 100 (5) + 300 (20) + 100 (20) = 8500
   Real GDP in 2005 = 125 (5) + 250 (20) + 110 (20) = 7825
   

   Note that in the base year, real and nominal GDP are the same;
   in any other year, they differ since we are using base year prices.

7. Real GDP and welfare
   Real GDP as measured will almost certainly go down if anti-pollution devices are required or if pollution taxes are levied. There will be no offsetting addition to GDP from the cleaner air, since air does not have a market value.
   This of course does not mean that the anti-pollution measures are necessarily a bad idea, simply that GDP is an imperfect measure of welfare.

8. Measuring unemployment
   Given an economy in which there are 65 individuals interviewed, we know
   • 10 were under 16 and 10 were retired
   • 25 had full time jobs
   • 5 had part-time jobs
   • 5 were full-time homemakers
   • 5 were full-time students over age 16
   • 2 were disabled and cannot work
   • The remaining people said they would like jobs, but died not have one.

   The unemployment rate is the number unemployed divided by the number in the labor force.
   In this problem, there are 65 people interviewed, but many are not in the labor force: children, the retired, and those not actively looking for jobs.
   Here, this means we must exclude:

   1. 10 children under 16

   2. 10 retired

   3. 5 full-time homemakers

   4. 5 full-time students

   5. 2 disabled

   6. 1 who would "like a job" but is not actively searching

   The labor force in this example is 65 - 33 = 32.
   Of these, 30 have jobs (25 full time, 5 part time) and are counted as employed.
   Two do not have jobs despite an active search and are counted as unemployed. Hence the unemployment rate in this group is 2 / 32 = .0625 or 6.25 percent

9. Measuring unemployment (2)
   Given the following information:

   • Unemployment rate: 5.0 percent

   • Participation rate: 62.5 percent

   • Not in the labor force: 60 million
   Find:

   • The labor force.
     Note that if the participation rate is 62.5 percent, the non-participation rate must be 37.5 percent -- that is, 37.5 percent of the working age population must NOT be in the labor force.
     Since 0.375 times POP = 60 million, POP = 60 / .375 = 160 million.
     Since the participation rate is 62.5 percent, we know that
     Labor force = .625 times 160 million = 100 million.

   • The number of unemployed workers.
     Since 5 percent of the labor force is unemployed, the
     number unemployed = .05 times 100 million = 5 million

   • The number of employed workers.
     Since those in the labor force and not unemployed are employed,
     Number employed = .95 times 100 million = 95 million

   • The working age population
     We found this above, and called it POP. The participation rate is the percentage of the working age population in the labor force.

10. Duration of unemployment
    We are given data on two towns, each with a labor force of 1,200:

    1. Sawyer: 100 unemployed for the entire year.
       The unemployment rate in Sawyer is 100 / 1200 = .0833 = 8.33 percent ; the average duration of unemployment is one year (maybe longer).

    2. Thatcher: Every worker unemployed for 1 month out of 12.
       Assuming that unemployment spells are randomly distributed over the year, in any given month 1/12 of the labor force will be unemployed, or the unemployment rate will be: 1 / 12 = .0833 = 8.33 percent.

    Note that the unemployment rate in the two towns is identical.
    However, in Thatcher, the average duration of unemployment is just one month; no single worker faces permanent unemployment.
    The social cost of unemployment is much higher in Sawyer, where some workers face total unemployment, that in Thatcher, where every worker faces only a relatively brief spell.

    The moral of the problem is that a single unemployment statistic does not tell you everything.