Macroeconomics 21st Edition Mcconnell Solutions Manual Full Chapter PDF

Macroeconomics 21st Edition
McConnell Solutions Manual

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Chapter 7 - Measuring Domestic Output and National Income
McConnell, Brue, and Flynn 21e
DISCUSSION QUESTIONS
1. In what ways are national income statistics useful? LO1
Answer: National income accounting does for the economy as a whole what private
accounting does for businesses. Firms measure income and expenditures to assess their
economic health.
The national income accounting system measures the level of production in the economy
at some particular time and helps explain that level. By comparing national accounts
over a number of years, we can track the long-run course of the economy. Information
supplied by national accounts provides a basis for designing and applying public policies
to improve the performance of the economy. Without national accounts, economic policy
would be guesswork. National income accounting allows us to assess the health of an
economy and formulate policies to maintain and improve that health.
2. Why do national income accountants compare the market value of the total outputs in various
years rather than actual physical volumes of production? What problem is posed by any
comparison over time of the market values of various total outputs? How is this problem
resolved? LO1
Answer: If it is impossible to summarize oranges and apples as one statistic, as the

saying goes, it is surely even more impossible to add oranges and, say, computers. If the
production of oranges increases by 100 percent and that of computers by 10 percent, it
does not make any sense to add the 100 percent to the 10 percent, and then divide by 2 to
get the average and say total production has increased by 55 percent.
Since oranges and computers have different values, the quantities of each commodity are
multiplied by their values or prices. Adding together all the results of the price times
quantity figures leads to the aggregate figure showing the total value of all the final goods
and services produced in the economy. Thus, to return to oranges and computers, if the
value of orange production increases by 100 percent from $100 million to $200 million,
while that of computers increases 10 percent from $2 billion to $2.2 billion, we can see
that total production has increased from $2.1 billion (= $100 million + $2 billion) to $2.4
billion (= $200 million + $2.2 billion). This is an increase of 14.29 percent [= ($2.4
billion - $2.1 billion)/$2.1 billion)]—and not the 55 percent incorrectly derived earlier.
Comparing market values over time has the disadvantage that prices change. If the
market value in year 2 is 10 percent greater than in year 1, we cannot say the economy’s
production has increased 10 percent. It depends on what has been happening to prices;
on whether the economy has been experiencing inflation or deflation.
To resolve this problem, statisticians deflate (in the case of inflation) or inflate (in the
case of deflation) the value figures for the total output so that only “real” changes in
production are recorded. To do this, each item is assigned a “weight” corresponding to
its relative importance in the economy. Housing, for example, is given a high weight
because of its importance in the average budget. A book of matches would be given a
very low weight. Thus, the price of housing increasing by 5 percent has a much greater
effect on the price index used to compare prices from one year to the next, than would the
price of a book of matches increasing by 100 percent.
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3. Which of the following goods are usually intermediate goods and which are usually final
goods: running shoes; cotton fibers; watches; textbooks; coal; sunscreen lotion; lumber? LO1
Answer: Running shoes are usually a final good. The person purchasing the running
shoes is typically the individual who will use the shoes.
Cotton fibers are usually an intermediate good. The cotton fibers are used to produce
other goods that will be sold on the market.
Watches are usually a final good. The person purchasing the watch is typically the
individual who will use the watch.
Textbooks are usually a final good. The person purchasing the textbook is typically the
individual who will use the textbook.
Coal is usually an intermediate good. The coal is used to produce other goods, primarily
electricity, which will be sold on the market.
Sunscreen lotion is usually a final good. The person purchasing the sunscreen lotion is
typically the individual who will use the sunscreen lotion.
4. Why do economists include only final goods and services in measuring GDP for a particular
year? Why don’t they include the value of the stocks and bonds bought and sold? Why don’t they
include the value of the used furniture bought and sold? LO1
Answer: The dollar value of final goods includes the dollar value of intermediate goods.
If intermediate goods were counted, then multiple counting would occur. The value of
steel (intermediate good) used in autos is included in the price of the auto (the final
product).
This value is not included in GDP because such sales and purchases simply transfer the
ownership of existing assets; such sales and purchases are not themselves (economic)
investment and thus should not be counted as production of final goods and services.
Used furniture was produced in some previous year; it was counted as GDP then. Its
resale does not measure new production.
5. Explain why an economy’s output, in essence, is also its income. LO1
Answer: Everything that is produced is sold, even if the “selling,” in the case of
inventory, is to the producing firm itself. Since the same amount of money paid out by
the buyers of the economy’s output is received by the sellers as income (looking only at a
private-sector economy at this point), “an economy’s output is also its income.”
6. Provide three examples of each: consumer durable goods, consumer nondurable goods, and
services. LO2
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Answer: Durable goods are products that have expected lives of three years or more.
Examples are refrigerators, new cars, etc...
Nondurable goods are products with less than three years of expected life. Examples are
peanut butter, clothes, etc...
Services are the work done by lawyers, accountants, etc...
The students’ answers will vary.
7. Why are changes in inventories included as part of investment spending? Suppose inventories
declined by $1 billion during 2014. How would this affect the size of gross private domestic
investment and gross domestic product in 2014? Explain. LO2
Answer: Anything produced by business that has not been sold during the accounting
period is something in which business has invested—even if the “investment” is
involuntary, as often is the case with inventories. But all inventories in the hands of
business are expected eventually to be used by business—for instance, a pile of bricks for
extending a factory building—or to be sold—for instance, a can of beans on the
supermarket shelf. In the hands of business both the bricks and the beans are equally
assets to the business, something in which business has invested.
If inventories declined by $1 billion in 2014, $1 billion would be subtracted from both
gross private domestic investment and gross domestic product. A decline in inventories
indicates that goods produced in a previous year have been used up in this year’s
production. If $1 billion is not subtracted as stated, then $1 billion of goods produced in
a previous year would be counted as having been produced in 2014, leading to an
overstatement of 2014’s production.
8. What is the difference between gross private domestic investment and net private domestic
investment? If you were to determine net domestic product (NDP) through the expenditures
approach, which of these two measures of investment spending would be appropriate? Explain.
LO2
Answer: Gross private domestic investment less depreciation is net private domestic
investment. Depreciation is the value of all the physical capital—machines, equipment,
buildings—used up in producing the year’s output.
Since net domestic product is gross domestic product less depreciation, in determining
net domestic product through the expenditures approach it would be appropriate to use
the net investment measure that excludes depreciation, that is, net private domestic
investment.
9. Use the concepts of gross investment and net investment to distinguish between an economy
that has a rising stock of capital and one that has a falling stock of capital. Explain: “Though net
investment can be positive, negative, or zero, it is impossible for gross investment to be less than
zero.” LO2
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Answer: When gross investment exceeds depreciation, net investment is positive and
production capacity expands; the economy ends the year with more physical capital than
it started with. When gross investment equals depreciation, net investment is zero and
production capacity is said to be static; the economy ends the year with the same amount
of physical capital. When depreciation exceeds gross investment, net investment is
negative and production capacity declines; the economy ends the year with less physical
capital.
10. Define net exports. Explain how U.S. exports and imports each affects domestic production.
How are net exports determined? Explain how net exports might be a negative amount. LO2
Answer: Net exports are a country’s exports of goods and services less its imports of
goods and services. The United States’ exports are as much a part of the nation’s
production as are the expenditures of its own consumers on goods and services made in
the United States. Therefore, the United States’ exports must be counted as part of GDP.
On the other hand, imports, being produced in foreign countries, are part of those
countries’ GDPs. When Americans buy imports, these expenditures must be subtracted
from the United States’ GDP, for these expenditures are not made on the United States’
production.
Consider the following values. If American exports are $7 billion and imports are $5
billion, then American net exports are +$2 billion. If the figures are reversed, so that
Americans export $5 billion and import $7 billion, then net exports are -$2 billion—a
negative amount. Thus, if Americans import more goods and services than they export
then net exports will be a negative amount.
11. Contrast the ideas of nominal GDP and real GDP. Why is one more reliable than the other for
comparing changes in the standard of living over a series of years? What is the GDP price index
and what is its role in differentiating nominal GDP and real GDP? LO5
Answer: Nominal GDP is a measure of the market or money value of all final goods and
services produced by the economy in a given year. We use money or nominal values as a
common denominator in order to sum that heterogeneous output into a meaningful total.
The question then arises, how can we compare the market values of GDP from year to
year if the value of money itself changes in response to inflation (rising prices) or
deflation (falling prices)?
The answer is to adjust nominal GDP to take into account potential changes in prices.
This results in real GDP, where nominal GDP has been deflated or inflated to reflect
changes in the price level (also called adjusted GDP). Obviously we will want to use real
GDP to compare standards of living over time. Individuals are concerned about the
amount of actual goods consumed rather than the nominal value of the goods. Would you
prefer to have two candy bars priced a $1.00 or one candy bar priced at $2.00? Both have
the same nominal value of consumption!
A price index is a measure of the price of a specified collection of goods and services,
called a “market basket,” in a given year as compared to the price of an identical (or
highly similar) collection of goods and services in a reference year. To find real GDP we
divide the nominal GDP by this price index.
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12. Which of the following are included or excluded in this year’s GDP? Explain your answer in
each case. LO6
a. Interest received on an AT&T corporate bond.
b. Social Security payments received by a retired factory worker.
c. Unpaid services of a family member in painting the family home.
d. Income of a dentist from the dental services provided.
e. A monthly allowance a college student receives from home.
f. Money received by Josh when he resells his nearly brand-new Honda automobile to Kim.
g. The publication and sale of a new college textbook.
h. An increase in leisure resulting from a 2-hour decrease in the length of the workweek, with no
reduction in pay.
i. A $2 billion increase in business inventories.
j. The purchase of 100 shares of Google common stock.
Answer:
a. Included. Income received by the bondholder for the services derived by the
corporation for the loan of money.
b. Excluded. A transfer payment from taxpayers for which no service is rendered (in
this year).
c. Excluded. Nonmarket production.
d. Included. Payment for a final service. You cannot pass on a tooth extraction!
e. Excluded. A private transfer payment; simply a transfer of income from one private
individual to another for which no transaction in the market occurs.
f. Excluded. The production of the car had already been counted at the time of the
initial sale.
g. Included. It is a new good produced for final consumption.
h. Excluded. The effect of the decline will be counted, but the change in the workweek
itself is not the production of a final good or service or a payment for work done.
i. Included. The increase in inventories could only occur as a result of increased
production.
j. Excluded. Merely the transfer of ownership of existing financial assets.
13. Why does gross output do a better job than GDP of measuring overall economic activity?
How could you construct a new statistic that focused only on non-final economic activity? Given
what you know about the behavior of GO and GDP during the Great Recession, would you
expect your new statistic to show more or less volatility than GO and GDP? Why? How would
you rank the three in terms of volatility? LO6
Answer: Gross output does a better job at measuring overall economic activity because it
includes earlier stages of production and distribution. You could construct a new statistic
that focused only on non-final economic activity by subtracting GDP from GO. The new
statistic would be more volatile than either GO or GDP because it would exclude GDP,
which varies relatively little. In terms of most volatile to least volatile, the statistics
would rank as follows: New statistic, GO, GDP.
Gross output does a better job at measuring overall economic activity because it includes
earlier stages of production and distribution. You could construct a new statistic that
focused only on non-final economic activity by subtracting GDP from GO. The new
statistic would be more volatile than either GO or GDP because it would exclude GDP,
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which varies relatively little. In terms of most volatile to least volatile, the statistics
would rank as follows: New statistic, GO, GDP.
14. LAST WORD What government agency compiles the U.S. NIPA tables? In what U.S.
department is it located? Of the several specific sources of information, name one source for each
of the four components of GDP: consumption, investment, government purchases, and net
exports.
Answer: The Bureau of Economic Analysis (BEA) in the Department of Commerce

compiles GDP statistics.
The Census Bureau provides survey data for consumption, investment, and government
purchases. Consumption figures also come from industry trade sources as does some
investment data. The U.S. Office of Personnel Management also provides data on
government spending on services.
Net export figures come from the U.S. Customs Service and BEA surveys on service
exports and imports.
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REVIEW QUESTIONS
1. Tina walks into Ted’s sporting goods store and buys a punching bag for $100 dollars. That
$100 payment counts as ________________ for Tina and _______________ for Ted. LO1
a. Income; Expenditure.
b. Value added; Multiple Counting.
c. Expenditure; Income.
d. Rents; Profits.
Answer: c. Expenditure; Income.

The $100 paid for the punching bag counts as expenditure for Tina and income for Ted.
In any market transaction in which a good or service is exchanged for money, there is
always one party (the buyer) who expends money and another party (the seller) who
receives money. Thus, it is possible to total up GDP in two ways. One way is by adding
up all of the expenditures made by buyers as they purchase final goods and services. The
other is by adding up all of the income received by sellers as they sell final goods and
services. These equally good strategies for calculating GDP are known, respectively, as
the expenditures approach and the income approach.
2. Which of the following transactions would count in GDP? LO1

Select one or more of the answers from the choices shown.
a. Kerry buys a new sweater to wear this winter.
b. Patricia receives a Social Security check.
c. Roberto gives his daughter $50 for her birthday.
d. Latika sells $1,000 of Google stock.
e. Karen buys a new car.
f. Amy buys a used car.
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Answers:
a. Kerry buys a new sweater to wear this winter
e. Karen buys a new car
Only two of the transactions would count in GDP: Kerry buys a new sweater to wear this
winter, and Karen buys a new car.
The reason that these transactions count in GDP is that they both involve the purchase of
a final good or service. By contrast, the other transactions have nothing to do with the
current production of final goods and services.
For example, the receipt by Patricia of a Social Security check does not involve the
production of anything at all. It is simply a transfer of purchasing power from the Federal
government to one of its beneficiaries. But that transfer of purchasing power does not by
itself lead to anything being produced. Thus, it does not count in GDP.
A similar thing holds true when Roberto gives his daughter $50 for her birthday. His gift
is simply the transfer of wealth from one person to another. It does not involve the
production of any goods and services and hence does not get counted in GDP.
Latika’s sale of Google stock also does not count in GDP because it is simply the transfer
of a property right (part ownership of Google) from one person to another. Since nothing
is produced, her stock sale would also be excluded from GDP.
Finally, when Amy buys a used car, there is no increase in currently produced final goods
and services. We simply have a change in who owns a previously produced item. So this
transaction also fails to meet the definition of what should be included in GDP.
3. A small economy starts the year with $1 million in capital. During the course of the year, gross
investment is $150,000 and depreciation is $50,000. How big is the economy’s stock of capital at
the end of the year? LO2
a. $1,150,000.
b. $1,100,000.
c. $1,000,000.
d. $850,000.
e. $800,000.
Answer: b. $1,100,000.
The economy’s stock of capital at the end of the year will be $1,100,000 (= $1 million
initial stock of capital plus $150,000 of gross investment minus $50,000 of depreciation).
Keep in mind the difference between stocks and flows. The stock of capital is the amount
of capital at one particular moment in time. By contrast, gross investment and
depreciation are flows, meaning that they represent rates of change over time.
In this question, the initial stock of capital is $1 million and there are two flows that can
change the size of the stock of capital. One is gross investment, which increases the stock
of capital. The other is depreciation, which decreases the stock of capital.
In this question, gross investment is proceeding at the rate of $150,000 per year while
depreciation is proceeding at the rate of $50,000 per year. With these two flows
happening simultaneously, the net (combined) change in the stock of capital is going to
be $100,000 because we have a flow of $150,000 of gross investment increasing the
stock of capital while at the same time we have a flow of $50,000 of depreciation
decreasing the stock of capital. Thus, the total stock of capital at the end of the year will
be $1,100,000, which is the initial $1 million stock of capital plus the net change of
$100,000 that results over the course of the year from the two flows (gross investment
and depreciation).
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4. Suppose that this year a small country has a GDP of $100 billion. Also assume that Ig = $30
billion, C = $60 billion, and Xn = - $10 billion. How big is G? LO3
a. $0.
b. $10 billion.
c. $20 billion.
d. $30 billion.
Answer: c. plus $20 billion.

G equals $20 billion.
To see why this is true, we can rearrange the GDP equation, which is normally presented
as GDP = C + Ig + G + Xn
Rearranging the equation to solve for G reveals that
G = GDP – C – Ig – Xn
With that version of the equation in hand, we can plug in our values for GDP,
consumption, gross investment, and net exports. Doing so, we see that,
G = $100 billion – $60 billion – $30 billion – (minus $10 billion).
Taking into account the fact that a “negative times a negative is a positive”, we see that G
= $20 billion
5. Suppose that California imposes a sales tax of 10 percent on all goods and services. A
Californian named Ralph then goes into a home improvement store in the state capital of
Sacramento and buys a leaf blower that is priced at $200. With the 10 percent sales tax, his total
comes to $220. How much of the $220 paid by Ralph will be counted in the national income and
product accounts as private income (employee compensation, rents, interest, proprietor’s income,
and corporate profits)? LO3
a. $220.
b. $200.
c. $180.
d. None of the above.
Answer: b. $200.
Of the $220 paid by Ralph, $200 will be counted in the national income and product
accounts as private income.
This is true because the $200 that is received by the store that sells Ralph the leaf blower
will end up flowing as private income to those who provided the store with resources
(land, labor, capital, and entrepreneurship). By contrast, the $20 worth of sales tax will
flow to the government and can loosely be thought of as being “income” to the
government (rather than income to private individuals).
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6. Suppose GDP is $16 trillion, with $10 trillion coming from consumption, $2 trillion coming
from gross investment, $3.5 trillion coming from government expenditures, and $500 billion
coming from net exports. Also suppose that across the whole economy, depreciation
(consumption of fixed capital) totals $1 trillion. From these figures, we see that net domestic
product equals: LO4
a. $17.0 trillion.
b. $16.0 trillion.
c. $15.5 trillion.
Answer: d. None of the above.

The correct answer to this question is none of the above because this economy’s net
domestic product (NDP) will be equal to $15.0 trillion (which is not one of the three
specific numerical choices that are given by the question as possible answers).
To see where that $15.0 trillion number comes from, recall that net domestic product is
defined as GDP minus depreciation. So in this case, NDP will be equal to $15.0 trillion
(= $16 trillion of GDP minus $1 trillion of depreciation).
Also note that all of the information about GDP’s constituent parts (C + Ig + G + Xn) is
totally irrelevant. The only two numbers you need to calculate NDP are GDP and
depreciation.
7. Suppose GDP is $15 trillion, with $8 trillion coming from consumption, $2.5 trillion coming
from gross investment, $3.5 trillion coming from government expenditures, and $1 trillion
coming from net exports. Also suppose that across the whole economy, personal income is $12
trillion. If the government collects $1.5 trillion in personal taxes, then disposable income will be:
LO4
a. $13.5 trillion.
b. $12.0 trillion.
c. $10.5 trillion.
Answer: c. $10.5 trillion.

The correct answer to this question is that disposable income will be $10.5 trillion.
To see why this is the case, recall that disposable income is defined as the amount of
income households have left over after paying their personal taxes. So, disposable income
is personal income less personal taxes. In this case, that comes out to $10.5 trillion (= $12
trillion in personal income minus $1.5 trillion in personal taxes).
Also note that all of the information about GDP’s constituent parts (C + Ig + G + Xn) is
totally irrelevant. The only two numbers you need to calculate disposable income are
personal income and personal taxes.
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8. Suppose that this year’s nominal GDP is $16 trillion. To account for the effects of inflation, we
construct a price-level index in which an index value of 100 represents the price level five years
ago. Using that index, we find that this year’s real GDP is $15 trillion. Given those numbers, we
can conclude that the current value of the index is: LO5
a. Higher than 100.
b. Lower than 100.
c. Still 100.
Answer: a. higher than 100.

The correct answer to this question is that the current value of the index is higher than
100.
This must be true because the only way that this year’s nominal GDP could be higher
than this year’s real GDP is if the economy had been experiencing inflation, so that this
year’s price index is higher than the base-year index value of 100. Put slightly differently,
the only way real GDP can be less than nominal GDP is if the current value of the price
level index is higher than 100.
This can be understood by looking at the formula for real GDP. Looking at this formula,
we see that real GDP will end up being smaller than nominal GDP any time the price
index is higher than 100 because in that case we will be dividing by a number larger than
1.00 (= an index value of 100 when converted into hundredths).
As an example, consider a price index of 120 (meaning that prices are 20 percent higher
now than they were in the base year when the index was 100). Converted into
hundredths, that index value becomes 1.20. Looking at the formula, we see that real GDP
will be smaller than nominal GDP because it will be equal to the value of nominal GDP
divided by 1.20.
9. Which of the following items will be included in official U.S. GDP statistics? LO6
Select one or more answers from the choices shown.
a. Revenue generated by illegal marijuana growers in Oregon.
b. Money spent to clean up a local toxic waste site in Ohio.
c. Revenue generated by legal medical marijuana sales in California.
d. The dollar value of the annoyance felt by local citizens living near a noisy airport in Georgia.
e. Robert paying Ted for a haircut in Chicago.
f. Emily and Rhonda trading an hour of dance lessons for a haircut in Dallas.
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Answers:
b. Money spent to clean up a local toxic waste site in Ohio
c. Revenue generated by legal medical marijuana sales in California
e. Robert paying Ted $20 for a haircut in Chicago
There are three correct choices to this question: money spent to clean up a local toxic
waste site in Ohio, revenue generated by legal medical marijuana sales in California,
and Robert paying Ted for a haircut in Chicago.
Those three items would all be included in official U.S. GDP statistics because they all
involve legal market transactions paid for with money. As a result, each one will generate
a paper trail that will flow to the accountants who compile the U.S. GDP statistics.
By contrast, the other choices are incorrect because they involve transactions that do not
involve money, are illegal, or involve social costs for which there are no market
transactions. As a result, they will generate no paper trail for the accountants who
compile the U.S. GDP statistics.
For example, revenue generated by illegal marijuana growers in Oregon will be hidden
by the illegal growers so that no data will flow to the accountants who compile the GDP
statistics.
Similarly, no data will flow to the GDP accountants about the dollar value of the
annoyance felt by local citizens living near a noisy airport in Georgia because no market
transaction has taken place and thus there is nothing to include in GDP.
Finally, Emily and Rhonda trading an hour of dance lessons for a haircut in Dallas will
not have any effect on GDP because their trading of one service for another does not
involve money and, hence, does not generate a paper trail for the accountants who
compile the GDP statistics. Those accountants will, in fact, have no way of knowing
whether this transaction even took place.
10. Suppose GDP is $5.0 trillion, resource extraction is $0.5 trillion, production is $1.5 trillion,
and distribution is $1.0 trillion.
a. How big is GO?
b. How big is GO minus GDP?
Answers:
a. 8 trillion
b. 3 trillion
PROBLEMS
1. Suppose that annual output in year 1 in a 3-good economy is 3 quarts of ice cream, 1 bottle of
shampoo, and 3 jars of peanut butter. In year 2, the output mix changes to 5 quarts of ice cream, 2
bottles of shampoo, and 2 jars of peanut butter. If the prices in both years are $4 per quart for ice
cream, $3 per bottle of shampoo, and $2 per jar of peanut butter, what was the economy’s GDP in
year 1? What was its GDP in year 2? LO1
Answers: $21; $30.
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Feedback:
Sometimes it is easier to use a table to attack this type of problem.
Price Number Nominal Price Number Nominal

Year 1 of Value of Year 2 of Value of
Good Goods Goods Goods Goods
Year 1 Year 1 Year 2 Year 2
Quarts of Ice Cream $4.00 3 $12.00 $4.00 5 $20.00
Bottles of Shampoo $3.00 1 $3.00 $3.00 2 $6.00
Jars of Peanut Butter $2.00 3 $6.00 $2.00 2 $4.00
Nominal GDP NA NA $21.00 NA NA $30.00
The first step is to find the value of each good consumed. For example, in year 1 the price
of a quart of ice cream is $4.00. Since three quarts are consumed the value of these three
quarts is $12.00 (=$4.00 x 3). This calculation is applied to each good for each year.
The second step is to add up the nominal value for the goods for each year separately.
The nominal value of goods for year 1 is $21.00 (= $12.00 + $3.00 + $6.00).
The nominal value of goods for year 2 is $30.00 (= $20.00 + $6.00 + $4.00).
2. Assume that a grower of flower bulbs sells its annual output of bulbs to an Internet retailer for
$70,000. The retailer, in turn, brings in $160,000 from selling the bulbs directly to final
customers. What amount would these two transactions add to personal consumption expenditures
and thus to GDP during the year? LO1
Answer: $160,000.
Feedback: These two transactions would add $160,000 to personal consumption

expenditures and to GDP during the year. The reason that we do not count the $70,000 is
that this first sale is an intermediate step towards the final sale, and value, of the flower
bulbs sold to consumers. This final sale price includes the cost of the bulbs purchased by
the Internet retailer.
3. If in some country personal consumption expenditures in a specific year are $50 billion,
purchases of stocks and bonds are $30 billion, net exports are -$10 billion, government purchases
are $20 billion, sales of second-hand items are $8 billion, and gross investment is $25 billion,
what is the country’s GDP for the year? LO2
Answer: $85 billion.
Feedback: Given the information above it is best to use the expenditures approach to
calculate GDP. This approach adds personal consumption expenditures, gross investment,
government purchases, and net exports. Thus, GDP equals $85 billion for this country (=
$50 billion + $25 billion + $20 billion + (-$10 billion)).
Note that the purchase of stocks and bonds along with second-hand items are not part of
GDP. This information is extraneous to the question.
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4. Below is a list of domestic output and national income figures for a certain year. All figures are
in billions. The questions that follow ask you to determine the major national income measures by
both the expenditures and the income approaches. The results you obtain with the different
methods should be the same. LO4
a. Using the above data, determine GDP by both the expenditures and the income approaches.
Then determine NDP.
b. Now determine NI in two ways: first, by making the required additions or subtractions from
NDP; and second, by adding up the types of income and taxes that make up NI.
c. Adjust NI (from part b) as required to obtain PI.
d. Adjust PI (from part c) as required to obtain DI.
7-14
Answer: a. GDP = $388, NDP = $361; b. NI = $357; c. PI = $291; d. DI = $265

Part a:
The expenditures approach: GDP = [$245 (Personal consumption expenditures)] + [$33
(Net private domestic investment) + $27 (Consumption of fixed capital, depreciation)
(the sum of these two components measures gross investment = $60)] + [$72
(Government purchases)] + [$11 (net exports)] = $245 + $60 + $72 + $11 = $388.
The income approach: GDP = $223 (compensation of employees) + $14 (Rents) + $13
(Interest) + $33 (Proprietor's income) + $56 (Corporate profits) + $18 (Taxes on
production and imports) + $27 (Consumption of fixed capital, depreciation) - $4 (Net
foreign factor income) + $8 (Statistical discrepancy) = $223 + $14 + $13 + $33 + $56 +
$18 + $27 -$4 + $8 = $388
Both methods will give us the same answer.
Net Domestic Product equals GDP minus Consumption of fixed capital (depreciation).
NDP = $388 - $27 = $361.
Part b:
Net Domestic Product Approach: National Income = $361 (Net Domestic Product) - $8
(Statistical discrepancy) + $4 (Net foreign factor income) = $357.
Income and Taxes Approach: National Income = $223 (Compensation of employees) +
$14 (Rents) + $13 (Interest) + $33 (Proprietor's income) + $56 (Corporate profits) + $18
(Taxes on production and imports) = $357.
Part c:
Personal Income = $357 (National Income) - $18 (Taxes on production and imports) -$20
(Social security contributions) - $19 (Corporate income taxes) - $21 (Undistributed
corporate profits) + $12 (Transfer payments) = $291.
Part d:
Disposable Income = $291 (Personal Income) - $26 (Personal Taxes) = $265.
5. Using the following national income accounting data, compute (a) GDP, (b) NDP, and (c) NI.
All figures are in billions. LO4
Answer: (a) GDP = $343.7; (b) NDP = $331.9; (c) NI = $334.1.
7-15
Feedback:
Part a:
Using the expenditures approach, GDP = $219.1 (Personal consumption expenditures) +
$52.1 (Net private domestic investment) + $11.8 (Consumption of fixed capital) + $59.4
(Government purchases) + $17.8 (U.S. exports of goods and services) - $16.5 (U.S.
Imports of goods and services) = $343.7.
Part b:
Net Domestic Product = $343.7 (GDP) - $11.8 (Consumption of fixed capital) = $331.9.
Part c:
National Income = $331.9 (Net Domestic Product) + $2.2 (Net foreign factor income) -
$0 (Statistical discrepancy) = $334.1.
We have the following table summarizing these steps.
(a) Personal consumption expenditures (C) $219.1

Government purchases (G) 59.4
Gross private domestic investment (Ig) 63.9
(52.1 + 11.8)
Net exports (Xn) (17.8 – 16.5) 1.3
Gross domestic product (GDP) $343.7
(b) Consumption of fixed capital -11.8

Net domestic product (NDP) $331.9
(c) Net foreign factor income earned in U.S. 2.2

Statistical discrepancy 0
National income (NI) $334.1
6. Suppose that in 1984 the total output in a single-good economy was 7,000 buckets of chicken.
Also suppose that in 1984 each bucket of chicken was priced at $10. Finally, assume that in 2005
the price per bucket of chicken was $16 and that 22,000 buckets were produced. Determine the
GDP price index for 1984, using 2005 as the base year. By what percentage did the price level, as
measured by this index, rise between 1984 and 2005? What were the amounts of real GDP in
1984 and 2005? LO5
Answer: GDP Price Index = 62.5; price level increased by 60%; Real GDP in 1984 =
$112,000; Real GDP in 2005 = $352,000.
7-16
Feedback: To determine the GDP price index for 1984 using 2005 as a base year we
proceed as follows:
The simple approach, given that we only have one good in the economy, is to take the
price in 1984, divide by the price in 2005, and multiply by 100. This gives us ($10/$16) x
100 = 62.5.
A version that extends to multiple goods is as follows:
First, multiply the buckets of chicken in 2005 by the price of a bucket of chicken in 2005,
which gives is the value $352,000 = $16 x 22,000. (We would do this for all goods and
add up each value.)
Second, multiply the buckets of chicken in 2005 by the price of a bucket of chicken in
1984, which gives us $220,000 = $10 x 22,000. (We would do this for all goods and add
up each value. Be sure to use the 2005 quantities and the 1984 prices).
This process fixes quantity in the base year and varies prices (CPI).
Finally, divide the value of the buckets of chicken using 1984 prices by the value of the
bucket of chicken using 2005 prices (the base year). This gives us a GDP price index for
1984 = ($220,000/$352,000) x 100 = (($10 x 22,000) / ($16 x 22,000)) x 100 = ($10/$16)
x 100 = 62.5.
In both cases, the price level increased by 60% = ((100 - 62.5)/62.5) = ((16-10)/10) x
100.
Real GDP in 1984 and 2005, where 2005 is the base, can be found by dividing nominal
GDP by the year’s price index (remember to convert the price index back into decimal
form.)
Nominal GDP in 2005 is $352,000 = $16 (price 2005) x 22,000 (output 2005). The price
index for 2005 is 100 (by definition, base year). Thus, Real GDP = $352,000 (nominal
output 2005) / (100/100) (The price index 2005 scaled to decimal form) = $352,000/1 =
$352,000.
Nominal GDP in 1984 is $70,000 = $10 (price 1984) x 7,000 (output 1984). The price
index for 1984 is 62.5 (found above). Thus, Real GDP = $70,000 (nominal output 1984) /
(62.5/100) (The price index 1984 scaled to decimal form) = $70,000/0.625 = $112,000.
7. The following table shows nominal GDP and an appropriate price index for a group of selected
years. Compute real GDP. Indicate in each calculation whether you are inflating or deflating the
nominal GDP data. LO5
7-17
Answer: The table should be updated with the following values for Real GDP:
Real GDP 1968 = $4,133.58 (inflating)
Real GDP 2008 = $13,312.50 (deflating)
Feedback: Real GDP can be found by dividing nominal GDP by the price index (decimal
form) for that year. If the price index is below 100 you inflating GDP and if the price
level is above 100 you are deflating GDP
Real GDP 1968 = $909.8/(22.01/100) = $4133.58 (inflating)
Real GDP 1998 = $8793.5/(85.51/100) = $10,283.59 (inflating)
Real GDP 2008 = $14,441.4/(108.48/100) = $13,312.50 (deflating)
8. Assume that the total value of the following items is $600 billion in a specific year for Upper
Mongoose: net exports = $50 billion; value of new goods and services produced in the
underground economy = $75 billion; personal consumption expenditures = $300 billion; value of
the services of stay-at-home parents = $25 billion; gross domestic investment = $100 billion;
government purchases = $50 billion. What is Upper Mongoose’s GDP for the year? What is the
size of the underground economy as a percentage of GDP? By what percentage would GDP be
boosted if the value of the services of stay-at-home spouses were included in GDP? LO6
Answers: $500 billion; 15 percent; 5 percent.
Feedback:
Using the expenditures approach, GDP = $300 billion (Personal consumption
expenditures) + $100 billion (Gross domestic investment) + $50 billion (Government
purchases) + $50 billion (Net exports of goods and services) = $500 billion.
The size of the underground economy is $75 billion. Thus, the size of the underground
economy as a percentage of GDP equals 15% (= ($75 billion / $500 billion) x 100).
If the GDP measure incorporated the value of the services of stay-at-home spouses, the
new GDP amount would equal $525 billion (= $500 billion (from above) + $25 billion
(stay-at-home spouses)). The increase in GDP is 5% (= (($525 -$500)/$500) x 100).
7-18
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Macroeconomics 21st Edition Mcconnell Solutions Manual Full Chapter PDF

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McConnell Solutions Manual

Chapter 7 - Measuring Domestic Output and National Income

McConnell, Brue, and Flynn 21e

1. In what ways are national income statistics useful? LO1

Answer: If it is impossible to summarize oranges and apples as one statistic, as the

5. Explain why an economy’s output, in essence, is also its income. LO1

Answer: The Bureau of Economic Analysis (BEA) in the Department of Commerce

Answer: c. Expenditure; Income.

2. Which of the following transactions would count in GDP? LO1

Answer: c. plus $20 billion.

Answer: d. None of the above.

Answer: c. $10.5 trillion.

Answer: a. higher than 100.

Answers: $21; $30.

Price Number Nominal Price Number Nominal

Feedback: These two transactions would add $160,000 to personal consumption

Answer: $85 billion.

Answer: a. GDP = $388, NDP = $361; b. NI = $357; c. PI = $291; d. DI = $265

Answer: (a) GDP = $343.7; (b) NDP = $331.9; (c) NI = $334.1.

(a) Personal consumption expenditures (C) $219.1

(b) Consumption of fixed capital -11.8

(c) Net foreign factor income earned in U.S. 2.2

Answers: $500 billion; 15 percent; 5 percent.

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