UNIT 2

TEXT MEASURING ECONOMIC PERFORMANCE

(1) Why Measure the Economic Performance? To judge how well an economic system is meeting its goals. Measuring national output is indispensable for macroeconomic theory and policy. It is indispensable for tackling a number of economic issues such as the business cycle, the relationship between economic activity and unemployment, inflation and others, not to mention the central macroeconomic issue which is the economic growth of nations.

(2) How do we measure total output? Economic growth represents an increase in the total physical output of final goods and services in an economy and is measured by the market (dollar) value of all final goods and services produced by an economy during a given period of time, usually a year. Why do we measure output in dollar value rather than actual physical units of output? Quite simply, you can't add production of 1,000 cars to the production of 10,000 dolls and say we produced 11,000 goods. But, if we take quantities times market prices, we can say we produced $20 million worth of cars and $100 thousand worth of dolls for total output of $20.1 million. In other words, when the total/aggregate figure is being added up there is no distinction between one kind of product and another. The production of cigarettes and fighter planes and stereos counts the same as the production of housing and educa­tion and hospitals and pollution control. Surely, all these things don't bring "equal na­tional welfare per dollar's worth"! But in the aggregate output accounts they're all equal.

(3) GDP or GNP? A nation's aggregate output is most commonly measured by two very similar concepts, called gross domestic product (or GDP) and gross national product (or GNP).

The measure of economic activity that includes the total market value of final goods and services produced within a country's borders in a year is called gross domestic product. Thus, in economics, GDP is a measure of the amount of the economic production of a particular territory in financial terms during a specific time period. GDP can be measured by adding up all of economy's incomes - wages, interest, rent and profits or expenditures - consumption, investment, government purchases and net exports (exports minus imports).

When the international activities of a country’s residents are added to GDP, a wider measure of a country’s total economic activity is created: gross national product. (Note: While most of the countries use GDP in measuring nation's aggregate output there are two which measure nation’s economy in GNP: the USA and Japan.)

(4) GDP and Economic Welfare. GDP per capita is sometimes seen as an indicator of the standard of living in a country, but there are some problems with this view. GDP is intended to be a measure of particular types of economic activity within a country. Nothing about the definition of GDP suggests that it is necessarily a measure of standard of living. There are several reasons why the GDP figures might be going up while economic wel­fare in the nation is going down. For instance, in an extreme example, a country which exported 100 per cent of its production would still have a high GDP, but a very poor standard of living. Usually it probably wouldn't work out that way. But sometimes it very well might. The point is this: we just don't know. Why not? Because we don't have any way to measure the level of changes in economic welfare in the nation!

(8) “Negative Utility” of Increased Production. Another problem with using GDP as an indicator of the standard of living is this: the "negative utility" which is generated as more output is produced is not accounted for. As more products are produced the quality of life can be impaired in several ways. The GDP shows the value of the products but the social costs don't show up. Air and water pollution, noises, messing up beautiful landscapes, crowding people into towns and cities, destroying the harmony of peaceful neighborhoods and communities, requiring people to commute long distances to work — all these things have very important ef­fects on our quality of life. How many more cigarettes or fighter planes or stereos — or for that matter, houses and schools and hospitals and pollution control devices and cars and boats and steaks and everything else — must we produce to make up for all these social costs? Are we really any better off with the increase of GDP? Most economists would say: "Yes, on balance we probably are (at least most of us are better off. But we probably aren't as much better off as the increase in the GDP figure might lead you to believe."

(9) Less Work and More Leisure. On the other side of the picture consider this: the average work week has decreased by almost one half over the last century. Even if people didn't have any more products they would have a lot more free time. And surely that's worth something in human welfare! These days instead of working more than 70 h a week most people work 40 h or less. But the GDP figure doesn't in any way reflect this.

(10) The welfare implications of GDP: Population and Income Distribution. There are a couple of other things you need to think about when you are on the welfare implications of GDP. First, population size must always be considered. If GDP doubles and population doubles, that's no increase in the output available per person! Second, income distribution is important. If a large share of a nation’s GDP goes to a few people, then even if GDP per capita is high, most of the people still may be living in poverty.

(11) Other Measures of Output and Income. GNP and GDP are the most common measures of a nation’s output, but they are not the only measures. Economists rely on a number of others in analyzing the performance of components of an economy. Other measures of output and income include net national product (NNP), national income (NI), personal income (PI), disposal (personal) income (DPI or DI).

Ex. 1. Decide whether the statements are true or false. Defend your point of view.

1. Measuring the economic performance is desirable but not essential.

2. GNP and GDP are the only measurings of a nation’s output.

3. The concepts of “GNP” and “GDP” are equivalent terms.

4. The gross national product measures the total dollar value of the national output.

5. Only final goods and services are included in GDP and GNP.

6. GDP can be calculated by either the expenditure approach or the income approach.

7. GDP is a measure of standard of living in the economy.

8. GDP doesn’t reflect all costs.

Ex. 2. Choose the best answer:

1. Measuring national output is … .

   1. indispensable b) insignificant c) unimportant d) desirable

2. Final goods and services – are those that are sold to … users.

   1. all b) personal c) average d) ultimate

3. Only currently … final goods and services are included in GNP and GDP.

   1. sold b) purchased c) produced d) received

4. The total output is measured by … of all final goods and services produced.

a) the quantity b) the quality c) the market value d) utility

5. Does GDP … economic welfare?

a) measure b) mean c) provide d) calculate

6. GDP is widely used by economists to follow how the economy is … .

a) measured b) compared c) running d) increasing

7. The economic value of GDP as an indicator for the standard of living is

considered to be …

a) great b) limited c) evident d) obvious

Ex. 3. Fill in the gaps with the most suitable word according to the text.

There are two extra words you do not need to use.

1. GDP is the … … value of output of goods and services produced during a period of time within the … territory.

2. GDP is the value of finished goods and services … by an economy over a specific period, normally one year.

3. GDP … … is often seen as an indicator of the standard of living.

4. GDP is a measure of the … at which the economy is running.

5. While more products are produced in the economy the welfare of the nation can be ….

6. The … of GDP doesn’t indicate the increase in the nation’s standard of living.

7. Are we really any … off with the increase of GDP?

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Better, standard, speed, total market, impaired, produced, per capita, domestic, given, increase

Ex. 4. Complete the sentences using the information from the text:

1. Economic performance of a country is measured by … .

2. GDP can be measured by … .

3. GNP is … . (definition)

4. The total output of a country is measured by … .

5. GDP doesn't measure … .

6. The quality of life can be deteriorated / impaired despite … . (compare with the GDP figure)

Ex. 5. Answer the following questions:

1. Why does the economic performance of a country need to be measured?

2. How is the total output of an economy measured?

3. Decode the following abbreviations: GNP, GDP, NNP, NI, PI, DI, DPI.

4. What does gross domestic product stand for?

5. What is called gross national product?

6. In what way does GNP differ from GDP?

7. GDP doesn't measure economic welfare, does it?

8. What is not included in calculating GDP?

9. Costs to the environment are not included in GDP, are they?

10. What is "negative utility"?

11. Is GDP in close interrelation with population and income distribution?

Ex. 6. Read the text and answer the following question:

• How can information on the economy’s performance affect the decisions made by individuals and households? firms?

Information on the performance of the economy can improve decision making for individuals, households and firms.

With regard to individuals and households, suppose a person is considering quitting his/her job to obtain a better one. If the economy is performing well, his chances of success are better than if the economy is performing poorly. Similarly, suppose a graduating college senior is considering attending graduate school to obtain his/her master's degree. If the economy is performing well, good jobs are relatively plentiful, and he/she may wish to postpone his/her graduate education. On the other hand, if it is performing poorly, good jobs are relatively scarce, and he/she may wish to continue his/her education.

With regard to firms, suppose you wish to start your own firm. If the economy is performing well, you have a better chance of succeeding than if it is performing poorly. Similarly, suppose a firm is considering increasing its output and employment. If the economy is performing well, this may be a wise decision. If it is performing poorly, however, increasing output and employ­ment may be unwise.

Ex. 7. Read the following text and answer the following questions:

• What is the difference between GNP and GDP?

• Why do some countries prefer GNP to GDP?

The difference between GNP and GDP is the income from the goods and services produced abroad using the labour and property supplied by that country’s residents less payments to the rest of the world for the goods and services produced in the country using the labour and property supplied by foreign residents (referred to a net factor payments from abroad). Let us look into the matter on a simple example of the United States: the profits of a Toyota plant in Tennessee would be included in GDP, but not GNP; while the profits of a Ford Motor plant in Mexico would be included in GNP, but not GDP.

What's the significance of the usually small difference between GNP and GDP? If all you own is your own labour, then what you are probably most interested in is the growth of output and the related job opportunities within the U.S. That would include the Tennessee Toyota plant, and you may care little about the Ford plant in Mexico. On the other hand, if you are a capitalist and your health and welfare depends on the Dow Jones Industrial Average (the stock market), then you are probably more interested in the output of U.S. firms, no matter where their production plants are located. Because our economic models and government policies are generally limited to domestic operations, GDP is usually the favoured measure of total output.

Some countries are much more sensitive to the differences between GNP and GDP than the U.S.. Countries that have many citizens working abroad may have a much larger GNP than GDP. The reason is that remittances sent home by workers abroad are part of a country's GNP but not its GDP.

Ex. 8. Read the text and answer the following questions:

• What does multiple counting mean?

• What we count in GNP?

If all goods — intermediate and final* — were counted as part of GNP, part of the nation's output would be counted twice. To illustrate, part of the steel industry's output is used in the production of automobiles. If the outputs of both the steel and automobile industries were included in GNP, the part of the steel industry's output that is used in the production of automobiles would be counted twice, first as part of the steel industry's output and second as part of the automobile industry's output. The same thing would happen if the outputs of both the flour and bread industries were included in GNP. To prevent multiple counting of the nation's output, only final goods and services are included in GNP. Besides, GNP excludes many transactions. It excludes purchases of used or secondhand goods because these goods were counted when they were produced. It also excludes financial transactions such as the purchase of stocks or bonds because they involve an exchange of assets, not production, while GNP is a measure of production, not sales. Goods produced during the year are counted as part of GNP regardless of whether they are sold or added to business inventories. Suppose firms produced $100 billion worth of automobiles a given year, but they sold only $90 billion worth. The automobile industry's contribution to GNP this year would be $100 billion, not $90 billion.

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* final goods and services – are those that are purchased (or available to be purchased) for final use. By definition, final goods are not used to produce other goods. In contrast, intermediate goods and services are those purchased for resale or for use in producing other goods and services. Automobiles and bread are final goods because they are typically purchased for final use. Steel and flour are intermediate goods because they are used in the production of other goods.

Ex. 9. a) Read the following text and answer the following questions:

• What is nominal GNP?

• What is real GNP?

• Why do economists have to use the GNP deflator?

b) Translate the text into Russian:

In defining GNP, we measured the dollar value of goods and services using the measuring rod of market prices for oranges, apples, machines, and other commodities. But prices change over time, as inflation generally sends prices upward year after year. The problem of changing prices is one of the problems economists have to solve when they use money as their measuring rod. Clearly, we want a measure of the nation’s output and income that uses an invariant yardstick. How can this be done? Economists use a price index. The price index used to remove inflation (or “deflate” the GNP) is called the GNP deflator which is also the ratio of nominal GNP to real GNP.

Real GNP measures the total quantity of output, while nominal GNP represents the total money value of goods and services produced in a given year (i.e. measures the current-dollar value of output), where the values are in terms of the market prices of each year. Real GNP corrects nominal GNP by valuing output in terms of the prices of a base year, creating a constant-dollar measure of output. Because we define the GNP deflator as the price of GNP, we have:

nominal GNP

Real GNP= -------------------

GNP deflator

Ex. 10*. a) Read the text and answer the following question:

• How can GDP be calculated?