(pp. 544–565) of Principles of Economics

  • discuss why an economy's total income equals its total expenditure
  • explain how gross domestic product (GDP) is defined and calculated
  • see the breakdown of GDP into its four major components
  • distinguish between real GDP and nominal GDP
  • explain how the consumer price index (CPI) is constructed
  • consider why the CPI is an imperfect measure of the cost of living

Macroeconomics is the study of the economy as a whole. The goal of macroeconomics is to explain the economic changes that affect many households, firms and markets at once.

Macroeconomists consider diverse questions:

  • Why is average income high in some countries and low in others?
  • Why do prices rise rapidly in some periods of time but are more stable in other periods?
  • Why do production and employment expand in some years and contract in others?

These diverse questions are all macroeconomic because they concern the workings of the entire economy.


  1. Explain why an economy’s income must equal its expenditure.

A closed system (economy) must "balance" - there is always both a buyer and a seller.

  1. Which contributes more to GDP – the production of a tonne of wheat or the production of a tonne of coal? Why?

  2. A farmer sells milk to a cheesemaker for $2. The cheesemaker uses the milk to make cheese, which is sold for 6. What is the contribution to GDP?

  3. Over the last three years, Kane paid $5000 buying new parts to restore his vintage car. Today he sells the car at auction for 20K. How does this sale affect current GDP?

  4. List the four components of GDP. Give an example of each.

  • C: consumption
  • I: investment
  • G: government
  • NX: net exports
  1. In the year 2017, the economy produces 200 serves of fish and chips for $9.50 each. In the year 2018, the economy produces 250 serves of fish and chips for $12.75 each. Calculate nominal GDP, real GDP and the GDP deflator for each year. (Use 2017 as the base year.) By what percentage does each of these three statistics rise from one year to the next?
Year Produced $/unit \(GDP_{nominal}\) \(GDP_{real(2017)}\) Deflator
2017 200 9.5 1900 1900 100
2018 250 12.75 3187.5 2375 134.210526316

Because the GDP deflator rose from 100 to 134.2 between 2017 and 2018, we can say the price level rose 34%.

  1. Why is it desirable for a country to have a large GDP? Give an example of something that would raise GDP and yet be undesirable

An increase in polluting manufactories.