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Questions for Review
1. GDP measures the total income earned from the production of the new final goods and
services in the economy, and it measures the total expenditures on the new final goods
2. The consumer price index measures the overall level of prices in the economy. It tells
us the price of a fixed basket of goods relative to the price of the same basket in the
base year.
3. The Bureau of Labor Statistics classifies each person into one of the following three cat-
egories: employed, unemployed, or not in the labor force. The unemployment rate,
4. Every month, the Bureau of Labor Statistics (BLS) undertakes two surveys to measure
employment. First, the BLS surveys about 60,000 households and thereby obtains an
Problems and Applications
1. A large number of economic statistics are released regularly. These include the follow-
ing:
Gross Domestic Product—the market value of all final goods and services produced in a
year.
The Unemployment Rate—the percentage of the civilian labor force who do not have a
CHAPTER 2The Data of Macroeconomics
forming at its long-run average level. Looking at the economic statistics released in
early 2009, the unemployment rate was rising and had reached 8 percent, the inflation
rate was near zero, and GDP growth in the last quarter of 2008 was –6.3 percent. This
of course indicated the economy was still in the midst of a major recession.
2. Value added by each person is the value of the good produced minus the amount the
person paid for the materials needed to make the good. Therefore, the value added by
3. When a woman marries her butler, GDP falls by the amount of the butler’s salary. This
happens because measured total income, and therefore measured GDP, falls by the
amount of the butler’s loss in salary. If GDP truly measured the value of all goods and
4. a. The airplane sold to the Air Force counts as government purchases because the
Air Force is part of the government.
b. The airplane sold to American Airlines counts as investment because it is a capi-
5. Data on parts (a) to (g) can be downloaded from the Bureau of Economic Analysis
(www.bea.doc.gov—follow the links to Gross Dometic Product). Most of the data
(not necessarily the earliest year) can also be found in the
Economic Report of the
President
. By dividing each component (a) to (g) by nominal GDP and multiplying
by 100, we obtain the following percentages:
1950 1980 2005
a. Personal consumption expenditures 65.5% 63.0% 70.0%
b. Gross private domestic investment 18.4% 17.2% 16.9%
c. Government consumption purchases 15.9% 20.3% 18.9%
(a) Personal consumption expenditures have been around two-thirds of GDP, although the
share increased markedly between 1980 and 2005.
(b) The share of GDP going to gross private domestic investment fell slightly from 1950 to
2005.
6Answers to Textbook Questions and Problems
(c) The share going to government consumption purchases rose sharply from 1950 to 1980
but has receded somewhat since then.
(g) Imports have grown rapidly relative to GDP.
6. a. i. Nominal GDP is the total value of goods and services measured at current
prices. Therefore,
Nominal GDP2000 = (
P
×
Q
) + (
P
×
Q
)
= ($50,000 ×100) + ($10 ×500,000)
= $5,000,000 + $5,000,000
= $10,000,000.
Real GDP for 2000 is calculated by multiplying the quantities in 2000 by the
prices in 2000. Since the base year is 2000, real GDP2000 equals nominal
GDP2000, which is $10,000,000. Hence, real GDP stayed the same between
2000 and 2010.
iii. The implicit price deflator for GDP compares the current prices of all goods
and services produced to the prices of the same goods and services in a base
year. It is calculated as follows:
This calculation reveals that prices of the goods produced in the year 2010
increased by 52 percent compared to the prices that the goods in the economy
sold for in 2000. (Because 2000 is the base year, the value for the implicit
price deflator for the year 2000 is 1.0 because nominal and real GDP are the
same for the base year.)
iv. The consumer price index (CPI) measures the level of prices in the economy.
The CPI is called a fixed-weight index because it uses a fixed basket of goods
Chapter 2The Data of Macroeconomics 7
2000
cars 2000
cars
2000
bread 2000
bread
CPI2010 =
This calculation shows that the price of goods purchased in 2010 increased by 60
percent compared to the prices these goods would have sold for in 2000. The CPI
for 2000, the base year, equals 1.0.
b. The implicit price deflator is a Paasche index because it is computed with a chang-
ing basket of goods; the CPI is a Laspeyres index because it is computed with a
fixed basket of goods. From (6.a.iii), the implicit price deflator for the year 2010 is
1.52, which indicates that prices rose by 52 percent from what they were in the
year 2000. From (6.a.iv.), the CPI for the year 2010 is 1.6, which indicates that
prices rose by 60 percent from what they were in the year 2000.
2000. The implicit price deflator weights the price of goods by the quantities pur-
chased in the year 2010. The quantity of bread consumed was higher in 2000 than
in 2010, so the CPI places a higher weight on bread. Since the price of bread
increased relatively more than the price of cars, the CPI shows a larger increase
7. a. The consumer price index uses the consumption bundle in year 1 to figure out how
much weight to put on the price of a given good:
= 2.
According to the CPI, prices have doubled.
8Answers to Textbook Questions and Problems
()( )
(
PQ PQ
PQ
cars cars bread bread
cars c
2010 2000 2010 2000
2000
+
aars bread bread
2000 2000 2000
)( )+PQ
×
×
×
×
b. Nominal spending is the total value of output produced in each year. In year 1 and
year 2, Abby buys 10 apples for $1 each, so her nominal spending remains con-
stant at $10. For example,
c. Real spending is the total value of output produced in each year valued at the
prices prevailing in year 1. In year 1, the base year, her real spending equals her
nominal spending of $10. In year 2, she consumes 10 green apples that are each
valued at their year 1 price of $2, so her real spending is $20. That is,
Real Spending2= (
P
×
Q
) +(
P
×
Q
)
Thus, the implicit price deflator suggests that prices have fallen by half. The rea-
son for this is that the deflator estimates how much Abby values her apples using
prices prevailing in year 1. From this perspective green apples appear very valu-
able. In year 2, when Abby consumes 10 green apples, it appears that her con-
sumption has increased because the deflator values green apples more highly than
red apples. The only way she could still be spending $10 on a higher consumption
bundle is if the price of the good she was consuming fell.
e. If Abby thinks of red apples and green apples as perfect substitutes, then the cost
of living in this economy has not changed—in either year it costs $10 to consume
10 apples. According to the CPI, however, the cost of living has doubled. This is
8. a. Real GDP falls because Disney does not produce any services while it is closed.
This corresponds to a decrease in economic well-being because the income of work-
ers and shareholders of Disney falls (the income side of the national accounts),
and people’s consumption of Disney falls (the expenditure side of the national
accounts).
Chapter 2The Data of Macroeconomics 9
1
red 2
red 1
green 2
green
c. Real GDP falls because with fewer workers on the job, firms produce less. This
accurately reflects a fall in economic well-being.
f. Real GDP rises because the high-school students go from an activity in which they
are not producing market goods and services to one in which they are. Economic
well-being, however, may decrease. In ideal national accounts, attending school
would show up as investment because it presumably increases the future produc-
tivity of the worker. Actual national accounts do not measure this type of invest-
ment. Note also that future GDP may be lower than it would be if the students
stayed in school, since the future work force will be less educated.
g. Measured real GDP falls because fathers spend less time producing market goods
and services. The actual production of goods and services need not have fallen,
however. Measured production (what the fathers are paid to do) falls, but unmea-
sured production of child-rearing services rises.
9. As Senator Robert Kennedy pointed out, GDP is an imperfect measure of economic per-
formance or well-being. In addition to the left-out items that Kennedy cited, GDP also
ignores the imputed rent on durable goods such as cars, refrigerators, and lawnmowers;
many services and products produced as part of household activity, such as cooking and
10 Answers to Textbook Questions and Problems
