Solution Manual for Macroeconomics, 7th Edition, R.

Glenn Hubbard, Anthony Patrick O’Brien

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Solution Manual for Macroeconomics, 7th Edition, R. Glenn Hubbard, Anthony Patrick O’B

CHAPTER 8 | GDP: Measuring Total

Production and Income
Brief Chapter Summary and Learning Objectives
8.1 Gross Domestic Product Measures Total Production (pages 255–262)
Explain how total production is measured.

 Gross domestic product (GDP) measures total production. GDP is calculated using
market values and includes only values of final goods and services.

8.2 Does GDP Measure What We Want It to Measure? (pages 262–265)

Discuss whether GDP is a good measure of well-being.

 Shortcomings of GDP as a measure of well-being include the following: It does not

include the value of leisure; it is not adjusted for pollution or other negative effects of
production; and it is not adjusted for social problems.

8.3 Real GDP versus Nominal GDP (pages 265–269)

Discuss the difference between real GDP and nominal GDP.

 Real GDP holds prices constant, which makes it a better measure than nominal GDP of
changes in the production of goods and services over time.

8.4 Other Measures of Total Production and Total Income (pages 269–271)
Describe other measures of total production and total income.

 Other measures of total production and total income include gross national product
(GNP), national income, personal income, and disposable personal income.

Key Terms
Business cycle, p. 254. Alternating periods of Final good or service, p. 255. A good or service
economic expansion and economic recession. purchased by a final user.

Consumption, p. 258. Spending by households GDP deflator, p. 267. A measure of the price
on goods and services, not including spending level, calculated by dividing nominal GDP by
on new houses. real GDP and multiplying by 100.

Economic growth, p. 254. The ability of an Government purchases, p. 259. Spending by

economy to produce increasing quantities of federal, state, and local governments on goods
goods and services. and services.

Expansion, p. 254. The period of a business Gross domestic product (GDP), p. 255. The
cycle during which total production and total market value of all final goods and services
employment are increasing. produced in a country during a period of time,
typically one year.

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 CHAPTER 8 | GDP: Measuring Total Production and Income 175

Inflation rate, p. 254. The percentage increase Price level, p. 267. A measure of the average
in the price level from one year to the next. prices of goods and services in the economy.

Intermediate good or service, p. 255. A good
or service that is an input into another good or
service, such as a tire on a truck.
Investment, p. 258. Spending by firms on new
factories, office buildings, machinery, and
additions to inventories, plus spending by
households and firms on new houses.
Macroeconomics, p. 254. The study of the
economy as a whole, including topics such as
inflation, unemployment, and economic growth.
Microeconomics, p. 254. The study of how
households and firms make choices, how they
interact in markets, and how the government
attempts to influence their choices.
Real GDP, p. 265. The value of final goods and
services evaluated at base-year prices.
Recession, p. 254. The period of a business
cycle during which total production and total
employment are deceasing.
Transfer payments, p. 258. Payments by the
government to households for which the
government does not receive a new good or
service in return.
Underground economy, p. 263. Buying and
selling of goods and services that is concealed
from the government to avoid taxes or
regulations or because the goods and services
are illegal.

Net exports, p. 259. Exports minus imports. Value added, p. 262. The market value a firm
adds to a product.
Nominal GDP, p. 265. The value of final goods
and services evaluated at current-year prices.

Chapter Outline
The Ford Motor Company Meets Macroeconomics
Sales of the Ford Motor Company’s cars and trucks plummeted beginning in 2008 as the U.S. economy
suffered its worst downturn since the 1930s. Overall, the automobile industry saw sales of new vehicles
tumble from 16.1 million in 2007 to 10.4 million in 2009. In 2016, the economy was several years into its
recovery and Ford’s sales had risen by one-third from 2009. In early 2017, the economy grew slowly and
Ford’s sales declined. Ford and the automobile industry experienced the effects of the business cycle.
Production and employment increase during expansions and decrease during recessions. During the slow
recovery from the 2007 to 2009 recession, only 56 percent of students who graduated from college in
2010 had found a job a year later. By the time the class of 2016–2017 graduated, the job market was
much stronger.

Teaching Tips
The end of the chapter in the main text includes a special category of exercises titled Real-Time Data
Exercises. These exercises help students become familiar with a key data source, learn how to locate data,
and develop skills in interpreting data. Those exercises marked with a red circle allow students and
instructors to use the very latest data from the Web site of the Federal Reserve Bank of St. Louis (FRED).
Many RTDA exercises require more elaborate calculations than other problems and the use of Excel
spreadsheets.

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176 CHAPTER 8 | GDP: Measuring Total Production and Income

Gross Domestic Product Measures Total Production (pages 255–262)

8.1 Learning Objective: Explain how total production is measured.

Microeconomics is the study of how households and firms make choices, how they interact in markets,
and how the government attempts to influence their choices. Macroeconomics is the study of the
economy as a whole, including topics such as inflation, unemployment, and economic growth. The
business cycle refers to alternating periods of economic expansion and economic recession. An
expansion is the period of a business cycle during which total production and total employment are
increasing. A recession is the period of a business cycle during which total production and total
employment are decreasing. Economic growth refers to the ability of an economy to produce increasing
quantities of goods and services. The inflation rate is the percentage increase in the price level from one
year to the next.

A. Measuring Total Production: Gross Domestic Product

Economists use gross domestic product to measure total production. Gross domestic product (GDP)
is the market value of all final goods and services produced in a country during a period of time,
typically one year. In the United States, the Bureau of Economic Analysis (BEA) compiles data used
to compute GDP.

Economists measure total production in an economy by taking the value, in dollar terms, of all goods and
services produced. GDP includes only final goods and services. A final good or service is a good or
service purchased by a final user. An intermediate good or service is a good or service that is an input
into another good or service, such as a tire on a truck. If we included the value of intermediate goods and
services in GDP, we would be double counting. GDP includes only production that takes place during the
indicated time period. GDP does not include the value of used goods.

B. Production, Income, and the Circular-Flow Diagram

When we add up the value of total production in the economy by calculating GDP, we are simultaneously
measuring the value of total income. The circular-flow diagram illustrates the interaction of firms
and households in markets. Firms sell goods and services to domestic households, foreign firms and
households, and the government. Firms use factors of production to produce goods and services.
Households supply the factors of production to firms in exchange for income. Transfer payments are
payments by the government to households for which the government does not receive a new good or
service in return. The circular-flow diagram allows us to trace the ways households use their income. The
circular-flow diagram shows that we can measure GDP either by calculating the total value of
expenditures on final goods or services or by calculating the value of total income. We get the same dollar
amount of GDP with either approach.

C. Components of GDP
The BEA divides its statistics on GDP into four major categories of expenditures. Economists use these
categories to understand why GDP fluctuates and to forecast future GDP. Personal consumption
expenditures, or consumption, is spending by households on goods and services, not including spending
on new houses. Consumption expenditures are divided into expenditures on services, nondurable goods,
and durable goods. Gross private domestic investment, or investment, is spending by firms on new
factories, office buildings, machinery, and additions to inventories, plus spending by households and
firms on new houses. Government consumption and gross investment, or government purchases, are
spending by federal, state, and local governments on goods and services. Net exports of goods and
services or net exports are equal to exports minus imports.

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 CHAPTER 8 | GDP: Measuring Total Production and Income 177

D. An Equation for GDP and Some Actual Values

A simple equation sums up the components of GDP:
Y  C  I  G  NX
The equation tells us that GDP (Y) equals consumption (C) plus investment (I) plus government purchases
(G) plus net exports (NX).

E. Measuring GDP Using the Value-Added Method

An alternative way of calculating GDP is the value-added method. Value added is the market value a
firm adds to a product. It is equal to the difference between the price for which the firm sells a good and
the price it paid other firms for intermediate goods.

Extra
Apply the Adding More Lady Gaga to GDP
Concept
The Bureau of Economic Analysis (BEA) is constantly doing research to improve its measurement of
GDP. Prior to 2013, the BEA considered R&D by firms or the government to be an intermediate good,
just as tires or batteries are considered intermediate goods in automobile manufacturing. But spending on
R&D is similar to investment spending. For example, when Ford buys new machine tools—which are
included in investment spending—it does so to help manufacture automobiles now and in the future.
Similarly, when Ford spends on R&D to improve the battery in its Ford Focus electric car, it does so to
help improve the car now and in the future. The BEA now counts spending on R&D as investment. In
other words, the BEA shifted from not counting spending on R&D as part of GDP to counting it.
Just as firms and the government devote resources to R&D, movie and television studios, book authors, and
musicians devote time and resources to producing new movies, television programs, books, and recordings.
In past years, the BEA counted spending by firms and individuals on developing entertainment products as
part of the cost of producing those products, in the same way that it counted the cost of labor and materials.
So the cost of developing entertainment products was not included in GDP. But in 2013, the BEA changed
its procedures to include those costs as part of investment and began including these investment costs in
GDP. For example, prior to 2013, sales of Lady Gaga’s and Taylor Swift’s songs on iTunes and on CDs, as
well as ticket sales for their concerts, were included in GDP, but the costs of writing and recording the songs
were not included. Now both types of spending are included in GDP.
By broadening the definition of investment spending, the BEA increased measured GDP in 2013 by about
3 percent. The BEA adjusted its historical data on GDP back to 1929, so while the levels of GDP
increased, the changes in GDP from one year to the next were not greatly affected. The BEA makes
changes to its calculations of GDP after consulting with government statistical agencies in other
countries. The objective is to allow economists, firms, and policymakers to more accurately compare
GDP in different countries. The broadening of the definition of investment was meant to increase the
importance of intellectual property (IP), such as software, movies, and books, in GDP. A study by the
U.S. Patent and Trademark Office estimated that in the United States, IP-intensive industries, including
pharmaceuticals, computers and software, telecommunications, book publishing, and radio and television
broadcasting, account for about 40 million jobs and more than one-third of GDP.
As the economy changes over time, the BEA evaluates whether to adjust the way it measures GDP.
Sources: David Kestenbaum, “Lady Gaga Writing a New Song Is Like a Factory Investing in a New Machine,” www.npr.org,
April 25, 2013; Osagie Imasogie and Thaddeus J. Kobylarz, “Yes, Lady Gaga’s Songs Contribute to GDP,” Wall Street Journal,
May 27, 2013; U.S. Bureau of Economic Analysis, “Preview of the 2013 Comprehensive Revision of the National Income and
Product Accounts,” Survey of Current Business, Vol. 93, No. 3, March 2013; and U.S. Department of Commerce, Intellectual
Property and the U.S. Economy: Industries in Focus, March 2012.

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178 CHAPTER 8 | GDP: Measuring Total Production and Income

Extra
Apply the Will U.S. Consumers Be Spending Less?
Concept
In 2014, consumption was 68.5 percent of GDP in the United States. Consumption is a larger fraction of
GDP in the United States than in most other high-income countries or in rapidly growing countries such
as China and India. As shown in the following figure, over time, consumption in the United States has
increased as a fraction of GDP. Through the mid-1980s, consumption was less than 65 percent of GDP.
By the early 2000s, consumption had increased to about 70 percent of GDP.
Consumption 72%
as a
percentage 70
of GDP

68

66

64

62

60

58

56

0
1951 1961 1971 1981 1991 2001

U.S. households financed this increased consumption partly by reducing saving and partly by increasing
borrowing. While households were saving about 10 percent of their income in the mid-1980s, saving
dropped to about 1 percent by 2005. Low saving rates were partly due to an increase in household wealth
resulting from rising housing prices and rising stock prices. In many parts of the country, housing prices
increased rapidly between 2001 and 2006. Stock prices, as measured by the Dow Jones Industrial Average
and the S&P 500, reached record highs in October 2007. Some households felt less need to save out of their
current incomes because their homes and their investments in the stock market were increasing in value.
During the early 2000s, many households borrowed against the increased value of their homes by taking
out home equity loans, which many banks were increasingly willing to grant. Banks and other financial
firms also loosened the requirements for issuing credit cards, so some households with flawed credit
histories were able to borrow against their credit cards to finance their spending. The ratio of loans and
other household debt to household income, which had been about 65 percent in the mid-1980s, rose to a
record 133 percent in 2007 before declining to 102 percent in mid-2011. Housing prices began to decline
in 2006, and that decline accelerated with the start of the recession in December 2007. Stock prices also
declined sharply. The combination of falling housing and stock prices wiped out trillions of dollars in
household wealth. Banks and other financial institutions also tightened lending standards, making it more
difficult for many households to borrow money. In the face of declining wealth and with reduced access
to loans, household saving rates began to increase, rising above 6 percent by 2009. As the economy
recovered from the recession, the saving rate declined to about 5 percent in 2016.
Increased household saving can be good news for the economy in the long run because it provides more
funds that firms can borrow to finance investment, which can lead to more rapid rates of economic
growth. But in the short run, many firms—particularly firms such as Ford that sell consumer durables—
worried that the slow recovery from the 2007 to 2009 recession was due in part to the determination of
U.S. households to cut back on spending and increase saving.
Sources: U.S. Bureau of Economic Analysis; Organization for Economic Cooperation and Development; and United Nations.

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 CHAPTER 8 | GDP: Measuring Total Production and Income 179

Question
An article on USAToday.com observed: “Consumer spending, once the driving force of the U.S.
economy, is likely to remain stagnant for years as households struggle to cut debt and build up savings,
economists say.” Why does cutting debt and building up savings affect consumer spending? If consumer
spending remains stagnant, what will be the likely effect on the economy?

Source: Karina Frayter, “Economists: Consumers Won’t Save the Economy,” USAToday.com, October 2, 2011.

Answer
Cutting debt and building up savings require, for a given amount of income, a decrease in consumer
spending. If consumer spending remains stagnant, the economy will most likely grow slowly in the short run.

Does GDP Measure What We Want It to Measure? (pages 262–265)

8.2 Learning Objective: Discuss whether GDP is a good measure of well-being.
Economists use GDP to measure total production in the economy. Most economists believe that GDP does a
good—but not flawless—job of measuring production. GDP provides only a rough measure of well-being.

A. Shortcomings in GDP as a Measure of Total Production

When the BEA calculates GDP, it does not include two types of production: production in the home and
production in the underground economy. Household production refers to goods and services people produce
for themselves. The underground economy refers to buying and selling of goods and services that is
concealed from the government to avoid taxes or regulations or because the goods and services are illegal.

B. Shortcomings of GDP as a Measure of Well-Being

The main purpose of GDP is to measure a country’s total production. Although increases in GDP often
lead to increases in the well-being of the population, GDP is not a perfect measure of well-being. The
value of leisure is not included in GDP, and GDP is not adjusted for pollution or other negative effects of
production. GDP is not adjusted for changes in crime and other social problems, and GDP may not
provide good information about the goods and services consumed by the typical person.

Extra Solved Problem 8.2

Measuring Economic Welfare
Although GDP is widely used as a measure of the value of a country’s production and income, most
economists agree that it is an inadequate measure of the progress countries make in raising the standard of
living of their citizens. In 2010, British Prime Minister David Cameron announced the United Kingdom’s
plans to construct a measure of well-being that would account for such factors as citizens’ satisfaction
with their lives. France also announced an effort to construct an alternative to GDP as a measure of well-
being. But measuring “well-being” is more difficult than measuring the market value of output. “There is
more to life than GDP, but it will be hard to come up with a single measure to replace it…” commented
Paul Allin, the director of the United Kingdom’s Measuring National Well-Being Project. Economists
have long struggled to find an alternative to GDP as a welfare index. Among the earliest attempts was the
“Measure of Economic Welfare (MEW),” by William Nordhaus and James Tobin in 1972. The MEW
differs from GDP primarily in three ways. First, MEW subtracts estimates of the effect of “bads,” such
as pollution, from GDP. Second, MEW excludes certain services, such as police protection, because
increases in these services may reflect more crime and civil disorder, which would mean lower welfare.
Third, it adds an estimate of some activities, such as housework and leisure, that result in greater
welfare but are not included in GDP.

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180 CHAPTER 8 | GDP: Measuring Total Production and Income

One critic of GDP wrote that the recession of 2007–2009 “. . . offers an excellent opportunity to get rid of
[an economic concept] that has long outlived its usefulness: gross domestic product. . . . It ought to join
buggy whips and VCRs on the dust-heap of history.”
Sources: Market Whitehouse, “Nations Seek Success Beyond GDP,” Wall Street Journal, January 10, 2011. William Nordhaus
and James Tobin, “Is Growth Obsolete?” Economic Growth, Fiftieth Anniversary Colloquium, Vol. 5. New York: National
Bureau of Economic Research, 1972; and Eric Zencey, New York Times, August 10, 2009.

a. Do economists overstate the value of GDP as a measure of economic welfare?

b. Should GDP be replaced as a measure of growth in the overall economy?

Solving the Problem

Step 1: Review the chapter material.
This problem concerns whether gross domestic product is a good measure of well-being, so
you may want to review the section “Does GDP Measure What We Want It to Measure?”
which begins on page 646 in the textbook.

Step 2: Answer (a) by discussing whether economists overstate the value of GDP as a
measure of economic welfare.
GDP was designed as a measure of production and income, not welfare. Although GDP is an
imperfect measure of production—for example, it does not measure household production—it
is very valuable as an indicator of the short-run and long-run performance of the overall
economy. Economists typically do not overstate the value of GDP as a measure of economic
welfare because they do not use GDP as a measure of welfare.

Step 3: Answer (b) by discussing whether GDP should be replaced as a measure of

growth in the overall economy.
Despite its shortcomings as a measure of welfare, most economists agree that GDP is the best
measure of growth of the overall economy. Over time, economists at the BEA have made
changes to improve the way GDP is calculated in order to make it a more accurate measure of
the value of total production and income.

Extra
Apply the Did World War II Bring Prosperity?
Concept

The Great Depression of the 1930s was the worst economic downturn in U.S. history. GDP declined by
more than 25 percent between 1929 and 1933 and did not reach its 1929 level again until 1938. The
unemployment rate remained at 10 percent or more through 1940. Then, in 1941, the United States
entered World War II. The following graph shows that GDP rose dramatically during the war years of
1941 to 1945. (The graph shows values for real GDP, which corrects measures of GDP for changes in the
price level.) The unemployment rate also fell to very low levels—below 2 percent.

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 CHAPTER 8 | GDP: Measuring Total Production and Income 181

Traditionally, historians have argued that World War II brought prosperity back to the U.S. economy. But
did it? Economist Robert Higgs argued that if we look at the well-being of a typical person, the World
War II years were anything but prosperous. Higgs pointed out that increased production of tanks, ships,
planes, and munitions accounted for most of the increase in GDP during those years. Between 1943 and
1945, more than 40 percent of the labor force was either in the military or producing war goods. As a
result, between 1939 and 1944, production of clothing, radios, books, and other consumption goods per
person increased only about 2 percent, leaving the quantity of consumption goods available to the typical
person in 1944 still below what it had been in 1929. With the end of the war, true prosperity did return to
the U.S. economy, and by 1946, production of consumption goods per person had risen by more than
25 percent from what it had been in 1929.
World War II was a period of extraordinary sacrifice and achievement by the “greatest generation.” But
statistics on GDP may give a misleading indication of whether it was also a period of prosperity.
Sources: Robert Higgs, “Wartime Prosperity? A Reassessment of the U.S. Economy in the 1940s,” Journal of Economic History,
Vol. 52, No. 1, March 1992; Robert Higgs, “From Central Planning to the Market: The American Transition, 1945–1947,”
Journal of Economic History, Vol. 59, No. 3, September 1999; and data from the U.S. Bureau of Economic Analysis.

Real GDP versus Nominal GDP (pages 265–269)

8.3 Learning Objective: Discuss the difference between real GDP and nominal GDP.

A. Calculating Real GDP

The BEA separates price changes from quantity changes by calculating a measure of production called
real GDP. Nominal GDP is the value of final goods and services evaluated at current-year prices. Real
GDP is the value of final goods and services evaluated at base-year prices. Real GDP is calculated by
designating a particular year as the base year and then using the prices of goods and services in the base
year to calculate the value of goods and services in all other years.

B. Comparing Real GDP and Nominal GDP

Real GDP holds prices constant, which makes it a better measure than nominal GDP of changes in the
production of goods and services from one year to the next. Because, on average, prices rise from one
year to the next, real GDP is greater than nominal GDP in years before the base year and less than
nominal GDP for years after the base year. In the base year, real and nominal GDP are the same.

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182 CHAPTER 8 | GDP: Measuring Total Production and Income

C. The GDP Deflator

Economists and policymakers are interested not just in the level of production but also in the price level.
The price level is a measure of the average prices of goods and services in the economy. The GDP
deflator is a measure of the price level, calculated by dividing nominal GDP by real GDP and
multiplying by 100.

Extra
Apply the The BEA’s 2013 Benchmark Revisions
Concept

Every four or five years the BEA announces benchmark revisions used to adjust national income and
product accounts (NIPA) that go back to 1929. In addition to changing the formula it uses to account for
spending for “artistic originals”—such as theatrical movies, original songs, and long-running television
programs (this is described in “Adding More Lady Gaga to GDP”)—the BEA changed the base year it
uses to compute real GDP and the GDP deflator. The previous benchmark revision, announced in 2009,
changed the base year from 2000 to 2005. The 2013 revision, the 14th revision conducted by the BEA,
changed the base year to 2009. This change, by itself, does not affect annual percentage changes in
nominal or real GDP or the GDP deflator. However, changes in concepts, such as that made regarding the
treatment of spending in artistic originals, as well as the incorporation of more source data do affect
estimates of GDP in some years.

The first table below compares BEA estimates of nominal GDP for the United States made prior to the
2013 revisions (pre-2013) with nominal GDP values published following the 2013 benchmark revisions
(2013) for the years 2000 to 2005. The table shows slight differences in nominal GDP measurements (in
billions of dollars) as well as differences in the annual percentage changes (p) in these data. The second
table compares values for real GDP and the GDP deflator for the same years using 2005 and 2009 as base
years. The BEA also announced changes in the annual growth rate in real GDP: to 3.3 percent between
1929 to 2012, 0.1 percentage point greater than the previously published estimate, and to 1.8 percent for
2002 to 2012, 0.2 percentage point higher than the previous estimate.

Pre-2013 2013
Year Nominal GDP (p) Nominal GDP (p)
2000 $9,951.5 — $10,289.7 —
2001 10,286.2 3.4% 10,625.3 3.3%
2002 10,642.3 3.5 10,980.2 3.3
2003 11,142.1 4.7 11,512.2 4.8
2004 11,867.8 6.5 12,277.0 6.6
2005 12,638.4 6.5 13,095.4 6.7

Real GDP GDP Deflator Real GDP GDP Deflator

Year (2005 = 100) (p) (2005 = 100) (p) (2009 = 100) (p) (2009 = 100) (p)
2000 $11,226.0 — 88.6 — $12,565.2 — 81.9 —
2001 11,347.2 1.1% 90.6 2.3% 12,684.4 0.9% 83.8 2.3%
2002 11,553.0 1.8 92.1 1.6 12,909.7 1.8 85.1 1.5
2003 11,840.7 2.5 94.1 2.2 13,270.0 2.8 86.8 2.0
2004 12,263.8 3.6 96.8 2.8 13,774.0 3.8 89.1 2.7
2005 12,638.4 3.1 100.0 3.3 14,235.6 3.4 92.0 3.2
Sources: Stephanie H. McCulla, Alyssa E. Holdren and Shelly Smith, “Improved Estimates of the National Income and Product
Accounts,” Survey of Current Business, September 2013; and Brenda Cronin, “GDP to Get Bigger, Not Necessarily Faster,” Wall
Street Journal, April 26, 2013.

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 CHAPTER 8 | GDP: Measuring Total Production and Income 183

Other Measures of Total Production and Total Income (pages 269–271)

8.4 Learning Objective: Describe other measures of total production and total income.

National income accounting refers to the methods the BEA uses to track total production and total income in
the economy. In addition to computing GDP, the BEA computes the following four measures of production
and income: gross national product, national income, personal income, and disposable personal income.

A. Gross National Product

Gross National Product (GNP) is the value of final goods and services produced by residents of the
United States, even if the production takes place outside the United States. GNP includes foreign
production by U.S. firms but excludes U.S. production by foreign firms. For the United States, GNP is
almost the same as GDP.

B. National Income
In producing goods and services, some machinery, buildings, and equipment wear out and have to be
replaced. Depreciation is referred to as the consumption of fixed capital. If we subtract this value from
GDP, we are left with national income.

C. Personal Income
Personal income is income received by households. To calculate personal income, we subtract the
earnings that corporations retain rather than pay to shareholders in the form of dividends and we add in
the payments received by households from the government in the form of transfer payments or interest on
government bonds.

D. Disposable Personal Income

Disposable personal income is equal to personal income minus personal tax payments, such as the federal
personal income tax. Disposable personal income is the best measure of the income households have
available to spend.

E. The Division of Income

We can measure GDP in terms of total expenditure or as the total income received by households. GDP
calculated as the sum of income payments to households is sometimes referred to gross domestic income.
The largest component of gross domestic income is wages, which are about three times as large as profits.

Extra Solved Problem 8.4

GDP and National Income: Accounting for Changes in the Stock of Capital
Suppose you are hired to measure the population in your home town. You could go door-to-door and
determine how many people live in each household. But let’s assume that your mayor had the following
data: (a) the town’s population the last time the census was taken; (b) the number of people who were
born since the last census was taken; and (c) the number of people who moved into town since the last
census was taken. Would adding these three numbers give you the current population? Clearly, the
answer is no because these numbers do not account for decreases in population since the last census was
taken due to deaths and out-migration (people who moved away from your town).

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184 CHAPTER 8 | GDP: Measuring Total Production and Income

Included in GDP is the value of gross private domestic investment (or simply “investment”). This is an
overestimate of the change in the nation’s stock of capital because some investment spending represents
replacement of capital (buildings, machines, etc.) that has worn out. Using gross private domestic
investment as a measure of the increase in the nation’s stock of capital is similar to computing a population
census without accounting for people who died and moved elsewhere. Net private domestic investment
subtracts from gross investment estimates of the “deaths”—or depreciation—of the nation’s capital stock.
The following example illustrates the difference between gross private domestic investment and net private
domestic investment for the 1st quarter (I) of 2017. Data are measured in billions of dollars at annual rates.
2017
I
Gross private domestic investment $3,249.2
Minus: consumption of fixed capital $2,083.3
Net private domestic investment $1,165.9
Source: https://fred.stlouisfed.org/

National income, which equals GDP minus the consumption of fixed capital, is a better measure of the
market value of final goods and services produced in a given time period than GDP because GDP does
not account for the consumption of fixed capital.
Why don’t economists use national income rather than GDP as the primary measure of total production
and income in the economy?

Solving the Problem

Step 1: Review the chapter material.
This problem is about measuring total production and income, so you may want to review the
section “Other Measures of Total Production and Total Income,” which begins on page 653
of the textbook.
Step 2: Answer the question by explaining why economists don’t use national income rather
than GDP as the primary measure of total production and income in the economy.
There are two reasons why economists use GDP rather than national income to measure total
production and income in the economy. First, measures of the consumption of fixed capital
are estimates of depreciation rather than the actual amounts. It is impossible to accurately
determine how much a building or machine is used up in a year. Second, in any year there
will be a difference between the size of the national income and the size of the GDP, but the
percentage change in national income will be nearly equal to the percentage change in GDP.
Because the change in total production is of greater importance to economists than the level
of total production, switching from GDP to national income would not result in much benefit.

Extra
Apply the “I see more lights—increase GDP”
Concept
The United States and other industrialized nations recognize the importance of accurately calculating
GDP and other measures of total production and income. In the United States, the Bureau of Economic
Analysis publishes “benchmark” estimates of GDP every four or five years. These estimates are based on
an economic survey of more than seven million businesses with paid employees and over 95 percent of
the expenditures that are included in GDP. In the years between the benchmark estimates, annual GDP
estimates are based on annual surveys that cover about 150,000 reporting units; quarterly estimates are
based on monthly surveys of about 35,000 reporting units.

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 CHAPTER 8 | GDP: Measuring Total Production and Income 185

The national income data published for some areas of the world, such as sub-Saharan Africa and other
developing nations, are not measured so carefully. The quality of data from Iraq, Myanmar, Somalia, and
Liberia are so poor that national income and price data do not appear in the Penn World Tables, a
standard source for international macroeconomic data. Three economists from Brown University,
J. Vernon Anderson, Adam Storeygard, and David N. Weil use an unusual framework for supplementing
data for countries that have unreliable measures of their national income and output: using satellite
images of an area’s nighttime lights. Henderson, Storeygard, and Weil suggest combining official data
with changes in a country’s lights as viewed from outer space using U.S. Air Force weather satellite
picture composites. The authors’ observations of ten years of changes in light density were combined with
income data to produce estimates of economic growth. The authors explain that “Consumption of nearly
all goods in the evening requires lights. . . . As income rises, so does light usage per person, in both
consumption and many investment activities.” Henderson stated that “Our hope is that people start using
this when they don’t have actual data on economic growth . . . or when the numbers are pretty bad.”

Sources: J. Vernon Henderson, Adam Storegard and David N. Weil, “Measuring Economic Growth from Outer Space,” American
Economic Review, Vol. 102, No. 2, 2012, pp. 994-1028; Steven Landefeld, Eugene P. Seskin, and Barbara Fraumeni, “Taking the
Pulse of the Economy: Measuring GDP,” Journal of Economic Perspectives, Vol. 22, No. 2, spring 2008, pages 196–197;
and “Economists Measure GDP Growth From Outer Space,” ScienceDaily, September 6, 2009. http://www.sciencedaily.com/
releases/2009/09/090904165302.htm.

Extra Economics in Your Life & Career:

What is the Most Desirable Country to Live In?

Since 1990, the United Nations Development Programme (UNDP) has ranked the world’s “most
desirable places to live.” The rankings are based on a Human Development Index (HDI), which includes
national measures of life expectancy at birth, mean years of schooling, expected years of schooling, and
per capita GDP. In 2015, the five nations that scored the highest HDI values were as follows: (1) Norway,
(2) and (3) Australia and Sweden (tied), (4) Germany, and (5) Denmark. The United States and Canada
were tied at 10.

Question: If you were asked to make your own list of the best places to live, how important would a
country’s per capita real GDP be as a criterion? What other factors would you consider in making your list?

Answer: A list of “best places to live” is subjective. Someone who enjoys skiing and ice skating might
rank a country that had a cold, snowy climate higher than someone who hated cold weather. Since GDP
per capita is a measure of the real income people have to obtain goods and services, it is a good criterion
to use to rank countries, but GDP provides only one measure of well-being. Examining other measures of
the quality of life in each country—for example, political freedom, environmental quality, racial and
gender equality—would help you make your choice. The UNDP rankings are less useful for
differentiating Norway from Australia, for example, than for distinguishing countries that had wider
differences in their HDI values. Chad (186), Niger (187), and the Central African Republic (188) ranked
lowest on the UNDP list for 2015. These counties had low per capita incomes, relatively low life
expectancies, and poor education.

Source: “Human Development Reports. Human Development Data.” http://hdr.undp.org/en/data

Extra AN INSIDE LOOK News Article to Use in Class

Visit www.myeconlab.com for current An Inside Look news articles.

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186 CHAPTER 8 | GDP: Measuring Total Production and Income

Solutions to End-of-Chapter Exercises

Gross Domestic Product Measures Total Production

8.1 Learning Objective: Explain how total production is measured.

Review Questions
1.1 In microeconomics, we focus on a particular market and can measure production by the quantity
of the good or service produced. In macroeconomics, we look at the production of all goods and
services, and measuring production by the quantity of goods and services produced isn’t feasible
because it would involve adding together goods and services measured in different units—
numbers of automobiles, gallons of milk, bushels of wheat, haircuts, and so on. Therefore, in
macroeconomics, economists measure quantity by market value.

1.2 Disagree. GDP measures all the final goods and services produced in an economy during a
particular period. It does not measure all the goods and services produced, because it excludes the
production of intermediate goods and services.

1.3 All of the revenue a firm receives from the sale of its output is paid out as income to the owners
of the factors of production.

1.4 GDP = C + I + G + NX. Consumption (C) is spending by households on goods and services, and
investment (I) is spending by firms on new plant, equipment, buildings, and changes in
inventories, and by households and firms on new single-family and multi-unit houses.
Government purchases (G) are made by the federal, state, and local governments for goods and
services, and net exports (NX) equal exports minus imports. Exports are goods and services
produced in the United States that are purchased by foreign firms, households, and governments,
and imports are goods and services produced in foreign countries, but purchased by U.S. firms,
households, and governments.

1.5 A firm’s value added refers to the additional market value a firm gives to a product and is equal
to the difference between price for which the firm sells a good and the price it paid other firms for
intermediate goods.

Problems and Applications

1.6 The value of intermediate goods and services, though not counted directly, is included in the
value of final goods and services, and therefore included in GDP. The value of the computer chip
is not counted separately but is included in the value of the new laptop.

1.7 a. The purchase of flour by a bakery is the purchase of an intermediate good, not a final good,
because the flour is included in the bread, or other final goods, the bakery produces.
b., c., and d. are all purchases of final goods because they are not purchased to become part of
other goods or services.

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 CHAPTER 8 | GDP: Measuring Total Production and Income 187

1.8 Part of the investment component of GDP is changes in inventories—final goods that have been
produced but not purchased in the time period in which they were produced. When the value of
inventories at the end of a time period is greater than the value of inventories at the beginning of
the same time period, changes in inventories is a positive number. When the value of inventories
at the end of a time period is less than the value of inventories at the beginning of the same time
period, changes in inventories is a negative number. If a change in inventories dragged down the
overall growth in GDP, there must have been a decrease in the value of inventories.

1.9 a. Consumption
b. None of the components of GDP will be affected because the car is not new production.
c. None of the components of GDP will be affected because the door handles are intermediate
goods, not final goods.
d. Net exports
e. Investment
f. Government purchases

1.10 The value of the house built in 2008 would not be included in GDP for 2019 because the sale
does not represent new production. The value of the services of the real estate agent who helped
sell or buy the house in 2019 would be included in GDP for 2019 because those services would
be newly provided in 2019.

1.11 Nominal GDP = (100  $60) + (100  $2) + (50  $25) = $7,450. Cotton is an intermediate
good (in this case, it is used in the production of shirts), so it is not included directly in
calculating GDP.

1.12 The statement is incorrect because it confuses investment in the economic sense of purchases of
new machinery, factories, and houses with financial investment in stocks and bonds.

1.13 a. Yes. Government purchases include spending by federal, state, and local governments on
government employee salaries and benefits.
b. No. Social Security payments to retired and disabled people are considered transfer payments
and are not included in government purchases because they do not result in the production of
new goods and services.

1.14 Value added by the artist = ($800  10) − $5,000 = $8,000 – $5,000 = $3,000
Value added by the local art store = ($1,000  10) – ($800  10) = $10,000 – $8,000 = $2,000

Does GDP Measure What We Want It to Measure?

8.2 Learning Objective: Discuss whether GDP is a good measure of well-being.

Review Questions
2.1 GDP measures the value of final goods and services produced in a country during a period of
time and the level of income in the country during that same period. Although production of
goods and services is not the only factor that determines the quality of life of people in a country,
we would normally expect that when a country produces few goods and services, the quality of
life in the country will be less than when it produces more goods and services.

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188 CHAPTER 8 | GDP: Measuring Total Production and Income

2.2 The underground economy is the buying and selling of goods and services that is concealed from
the government to avoid taxes or regulations or because the goods and services are illegal. Some
countries have larger underground economies than other countries due to high taxes and extensive
government regulations.

2.3 GDP does not include household production nor transactions made in the underground economy.
Even if GDP included all production, it would still not be a perfect measure of economic well-
being because it does not consider many things that affect well-being. For example, GDP does
not include the value of leisure and is not adjusted for the negative effects of pollution or crime
and other social problems.

Problems and Applications

2.4 a. This is likely to increase measured GDP because household production is not counted in GDP.
b. This is likely to increase measured GDP if it results in increased government expenditures on
law enforcement and increased private expenditures on security. (However, an increase in the
crime rate might indicate that the level of production in the underground economy is
increasing, which should reduce measured GDP, not increase it.)
c. This is likely to reduce measured GDP as more production move to the underground economy.

2.5 Because the decline in the number of hours of paid work was almost the same as the increase in
the number of hours of work devoted to household production, total production in the economy
probably did not change much when these workers became unemployed, even though measured
GDP might have decreased as a result of the decline in paid work. However, if the household
production performed by unemployed workers replaced work that others had previously been
paid to perform, then the value of total production (the sum of production measured by GDP and
production not measured by GDP) will have declined because the household production the
unemployed are now doing was already being carried out.

2.6 Real GDP per capita for the United States has risen since 1890. A higher income level today
might be due to Americans working more hours or to workers being more productive. The fact
that the typical American today works fewer hours while earning a higher income suggests that
the economic well-being of the average American has increased more than is indicated by
comparing 1890 real GDP per capita with current real GDP per capita. The average person has
more leisure time today than in 1890, and the value of this time is not included in GDP.

2.7 a. A summary statistic is a single number that characterizes an underlying set of data. GDP is a
summary statistic of how well an economy is doing because it measures how much an
economy produces during a period of time, which equals a country’s total income.
b. GDP provides a summary measure of the performance of an overall economy, but not a perfect
measure. It excludes production in the underground economy and household production, and
does not include the value of leisure or adjust for the negative effects of pollution, crime, and
other social problems.

2.8 a. The informal sector, or underground economy, is the buying and selling of goods and
services that is concealed from the government to avoid taxes or regulations or because the
goods and services bought and sold are illegal.
b. Being smaller makes the firms in the informal sector harder for the government to detect.
Also, the owners of firms in the informal sector are less likely to invest to make their firms
larger because the owners are concerned that the government may someday close the firms
down and confiscate their assets.

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 CHAPTER 8 | GDP: Measuring Total Production and Income 189

2.9 a. Working “off the books” means working in the underground economy where economic
transactions are concealed from the government to avoid taxes or regulations or because the
goods and services sold are illegal. Small, cash-based firms do not leave a record of the
transactions that take place, which makes it difficult for the government to measure their
production.
b. Because transactions in the underground economy are hidden from the government they will
not be included in calculations of GDP.
c. If the government cannot accurately measure GDP, it is difficult for the government to
establish policies to achieve macroeconomic goals. In addition, the government typically does
not collect tax revenue from underground transactions. Collecting less (or no) tax revenue
from underground businesses may lead the government to increase taxes on individuals and
businesses who are not a part of the underground economy, thereby discouraging work,
saving, and investment by these individuals and businesses.

2.10 This is a normative question so responses will vary. German workers receive a mandatory 20 paid
vacation days and 10 paid holidays. Some workers value additional leisure time more than the
income they would earn from additional hours worked, while other workers would rather trade
days off for additional income. The different trade-offs between money income and leisure in the
two countries shown in the table may represent the choices made by the countries’ workers. In
that case, German workers appear to value leisure more than do U.S. workers, although we can’t
be sure whether their well-being is higher as a result. If German workers work fewer hours
because of legal restrictions on how much they can work, they might prefer to work more than
they are allowed to. Measures of income are objective, but normative judgments are required to
determine a country’s “well-being.” Other variables that one could include in a measure of well-
being are measures of health (for example, average life expectancy at birth and infant mortality),
environmental quality, and crime rates. One would also have to decide on the relative importance
of the factors included in a measure of well-being.

Real GDP versus Nominal GDP

8.3 Learning Objective: Discuss the difference between real GDP and nominal GDP.

Review Questions
3.1 Nominal GDP can change because of either quantity changes or price changes. When there is
inflation, nominal GDP overstates the increase in total production. The Bureau of Economic
Analysis separates price changes from quantity changes by calculating real GDP.

3.2 The GDP deflator is a measure of the average prices of the final goods and services included in
GDP and equals nominal GDP divided by real GDP, multiplied by 100.

3.3 a. Nominal GDP is greater than real GDP.

b. Nominal GDP equals real GDP.
c. Nominal GDP is less than real GDP.

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190 CHAPTER 8 | GDP: Measuring Total Production and Income

Problems and Applications

3.4 a. Real GDP for 2018  (100  $50)  (100  $2)  (50  $30)  $6,700

Real GDP for 2019  (100  $50)  (120  $2)  (65  $30)  $7,190

$7,190  $6,700
b.  100  7.3%
$6,700

3.5 a. Disagree. Nominal GDP is less than real GDP if the current price level, which is used in
calculating nominal GDP, is less than the base period price level, which is used in calculating
real GDP. A fall in the price level during the year is neither necessary nor sufficient to cause
nominal GDP to be less than real GDP.
b. Disagree. If prices increase more than the quantity of production decreases, nominal GDP can
increase when real GDP declines.
c. Agree. If a recession is so severe that both the quantity of production and the price level
decline, both real and nominal GDP will decline.
d. Disagree. Nominal GDP could decline because either the GDP deflator declined or total
production (real GDP) declined. In fact, between 2008 and 2009, nominal and real GDP both
declined, while the GDP deflator increased.

3.6 The only way for nominal GDP to be lower than previously expected at the same time as the
value of real GDP remains the same is if the value of the GDP deflator is lower than expected. To
see this point, look at the formula for the GDP deflator:
Nominal GDP
GDP deflator   100. With nominal GDP lower and real GDP the same, the GDP
Real GDP
deflator must be lower. A lower GDP deflator means a lower inflation rate. Therefore, Oliver
must be expecting lower oil prices to reduce the inflation rate in Canada.

3.7 a.

(1) (2) (3) (4) (5) (6) (7) (8)

GDP Percentage GDP

Deflator Real GDP change Deflator Real GDP Percentage
Nominal (base year (base year in real (base year (base year change in
Year GDP = 2016) = 2016) GDP = 2018) = 2018) Real GDP
2012 $980.00 90 $1,088.89 ------ 81.8 $1,198.04 -----
2013 1,020.00 92 1,108.70 1.8% 83.6 1,220.10 1.8%
2014 1,050.00 100 1,050.00 5.3% 90.9 1,155.12 5.3%
2015 1,200.00 105 1,142.86 8.8% 95.5 1,256.55 8.8%
2016 1,400.00 110 1,272.73 11.4% 100.0 1,400.00 11.4%

b. The calculations for the annual percentage change in real GDP are not affected by the change
in the base year.
c. A change in the base year used to calculate the GDP deflator would result in the same values
for the annual percentage changes in real GDP.

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 CHAPTER 8 | GDP: Measuring Total Production and Income 191

3.8 It is likely that the article is referring to the percentage change in real GDP, which measures the
value of output, holding constant the change in the price level. Because changes in nominal GDP
measure the change in the value of output in current year prices, it would not be possible to
determine how much the euro zone’s economy grew—how much more output of final goods and
services were produced and sold, holding prices constant—if the 2 percent change referred to
nominal GDP.

3.9 The GDP deflator is calculated as [nominal GDP/real GDP]  100.

The percentage change is calculated as [(value in the second period – value in the first period)/
value in the first period]  100.
Nominal GDP Real GDP GDP Deflator Percentage Increase
2012 $16,155 $15,355 105.2 —
2013 16,692 15,612 106.9 1.62%
2014 17,393 15,982 108.8 1.79
2015 18,037 16,397 110.0 1.08
2016 18,569 16,662 111.4 1.31
As shown in table, 2014 saw the largest percentage increase in the price level.

3.10 a. When the Nigerian government devoted more resources to the measurement of its GDP it
found that a more accurate accounting increased the relative size of the service and the
telecommunications sectors, as well as other sectors of the economy.
b. The Nigerian National Bureau of Statistics succeeded in more accurately measuring size of
the country’s economy by updating the year it used to measure real GDP from 1990 to 2010
and significantly increasing the number of businesses it surveyed.
c. A truer picture of the size of Nigeria’s economy emerged because the government spent
additional human and monetary resources to make a more comprehensive measure of
economic activity. Using 1990 as the base year would provide an accurate measure of GDP
only if the structure of the Nigerian economy had not changed since that time when, in fact, it
had changed dramatically.

Other Measures of Total Production and Total Income

8.4 Learning Objective: Describe other measures of total production and total income.

Review Questions
4.1 GDP is the market value of all final goods and services produced within the United States. GNP
is the market value of all final goods and services produced by residents of the United States,
even if the production takes place outside the United States. For the United States, GDP is almost
the same as GNP.

4.2 National income is the total income received by a country’s residents. National income is equal to
GDP minus the value of depreciation, or the consumption of fixed capital. Personal income,
which is income actually received by households, is national income minus corporations’ retained
earnings plus payments received by households from the government in the form of transfer
payments or interest on government bonds. Disposable personal income, which represents the
income available for households to spend, is equal to personal income minus personal tax
payments, such as the federal personal income tax.

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192 CHAPTER 8 | GDP: Measuring Total Production and Income

4.3 Gross domestic income is GDP calculated as the sum of income payments to households. Wages,
which include all compensation received by employees including fringe benefits, comprise a
majority of gross domestic income and are more than three times as large as profits, the second
largest income category.

Problems and Applications

4.4 GNP would be larger than GDP because GNP is the value of final goods and services produced
by a country’s residents, whether the production takes place inside the country or not. Switzerland
has relatively more of its firms and residents producing in other countries than other countries’
firms and residents are producing in Switzerland.

4.5 With GDP significantly above GNP, the value of income produced within Ireland is significantly
above the value of income produced by the residents of Ireland, making the Irish people appear to
be richer than they are.

4.6 The federal personal income tax partially accounts for the difference between personal income
and disposable personal income. Therefore, the levels of national income and personal income
will not change, while the level of disposable personal income will decrease.

4.7 To forecast the level of consumption spending by households, we should focus on the income
measure that is most closely related to the households’ ability to spend, which is disposable
personal income.

4.8 The statement overstates the average share of corporate profits in product prices. We can see this
by looking at corporate profits as a share of GDP, which is the total value of all final goods and
services. The share of corporate profits in GDP is about 9 percent.

Real-Time Data Exercises

D8.1 a. In the first quarter of 2017, total personal consumption expenditures were $13,120.4 billion,
personal consumption expenditures on durable goods were $1,438.9 billion, personal
consumption expenditures on nondurable goods were $2,781.7 billion, and personal
consumption expenditures on services were $8,899.8 billion. All figures are expressed as
annual rates.
b. [($1,438.9 billion + $2,781.7 billion)/$13,120.4 billion] × 100 = 32.2%

D8.2 a. In the first quarter of 2017, gross private domestic investment was $3,139.5 billion, private
nonresidential fixed investment was $2,389.1 billion, and private residential fixed investment
was $750.5 billion. All figures are expressed as annual rates.
b. $3,139.5 billion  [$2,389.1 billion + $750.5 billion] = -$0.1 billion, which equals the change
in inventories.

D8.3 a. Real exports of goods and services in 2015 were $2,120.6 billion and in 2016 they were
$2,128.2 billion. Real imports of goods and services in 2015 were $2,660.5 billion and in
2016 they were $2,691.2 billion.
b. Net exports in 2015 equaled  $539.9 billion (= $2,120.6 billion  $2,660.5 billion) and in
2016 they equaled  $563.0 billion (= $2,128.2 billion  $2,691.2 billion).

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Solution Manual for Macroeconomics, 7th Edition, R. Glenn Hubbard, Anthony Patrick O’B

CHAPTER 8 | GDP: Measuring Total Production and Income 193

D8.4 a. In the first quarter of 2017, nominal GDP equaled $19,027.1 billion and nominal GNP
equaled $19,255.5 billion. Both figures are expressed as annual rates.
b. With GNP greater GDP, foreign production by U.S. firms exceeded U.S. production by foreign
firms.

D8.5 a. In the first quarter of 2017, personal income equaled $16,328.7 billion, disposable personal
income equaled $14,333.1 billion, and personal consumption expenditures equaled $13,120.4
billion. All figures are expressed as annual rates.
b. The difference between personal income and disposable income is personal tax payments and
in the first quarter of 2017 equaled $1,995.6 billion (= $16,328.7 billion  $14,333.1 billion).

D8.6 a. Nominal GDP equaled $18,281.6 billion in the first quarter of 2016 and equaled $19,027.1
billion in the first quarter of 2017. Real GDP equaled $16,525.0 billion in the first quarter of
2016 and equaled $16,872.8 billion in the first quarter of 2017. All figures are expressed as
annual rates.
b. The GDP price deflator in the first quarter of 2017 equaled 112.8 = [($19,027.1 billion/
$16,872.8 billion) × 100], and in the first quarter of 2016 it equaled 110.6 = [($18,281.6
billion/$16,525.0 billion) × 100].
c. The inflation rate from the first quarter of 2016 to the first quarter of 2017 as measured by the
GDP price deflator was 1.93 percent [= (112.8  110.6)/110.6) × 100].
d. The nominal and real GDP lines intersect at the base year because the current year prices
used for nominal GDP and the base-year prices used for real GDP are the same when the base
year is the current year. The value of the GDP deflator in the year when the nominal and real
GDP lines intersect is 100.

D8.7 a. Nominal GDP in the first quarter of 2016 equaled $18,281.6 billion, and in the first quarter of
2017 it equaled $19,027.1 billion. Both figures are expressed as annual rates The GDP
Implicit Price Deflator in the first quarter of 2016 equaled 110.63, and in the first quarter of
2017 it equaled 112.768.
b. Real GDP in the first quarter of 2016 equaled $16,525.0 billion [($18,281.6 billion/110.63) ×
100], and in the first quarter of 2017 it equaled $16,872.78 billion [($19,027.1 billion/
112.768) × 100].
c. The growth rate of the real GDP from the first quarter of 2016 to the first quarter of 2017 was
2.1 percent = [($16,872.78 billion – $16,524.99 billion)/$16,524.99 billion) × 100].

Suggestions for Critical Thinking Exercises

CT8.1 Students will likely misunderstand the meaning of the word “investment.” By thinking more
about it and comparing notes with their peers, students will remember this important concept
better than they otherwise would. Research in other disciplines has shown that in some instances,
simply talking about ideas that conflict with students’ prior knowledge does not lead to much
change in students’ views.
CT8.2 Answers will vary by student, but by asking students what they expected and what they learned
they should learn the material in a deeper way.
CT8.3 The best interpretation is that inflation occurred. Nominal GDP grows, but production is
constant; therefore, the GDP deflator increased. This question will encourage students to
consider several key points from this chapter.

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