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IB DP Economics — Unit 3: Macroeconomics | SL | 3.1 Measuring Economic Activity and Illustrating Its Variations
📋 What You Will Learn
- Define GDP, GNI, and real vs nominal measures of national income
- Explain the three approaches to measuring national income (expenditure, income, output)
- Identify the phases of the business cycle and explain the economic forces driving each phase
- Analyse the limitations of GDP as a measure of living standards and well-being
- Evaluate alternative composite measures of well-being: HDI, Genuine Progress Indicator, Happy Planet Index, and Bhutan's Gross National Happiness
- Apply these concepts to real-world economic data and policy discussions
🔍 Guiding Question If a country's GDP is growing, does that necessarily mean its citizens are better off — and if not, what should governments measure instead?
🌍 Why This Matters In 2023, the United States recorded GDP growth of 2.5% — yet surveys showed that a majority of Americans believed the economy was in recession. Meanwhile, Costa Rica, with a GDP per capita roughly one-fifth of the US, consistently ranks among the world's happiest and most sustainable nations. These contradictions reveal a fundamental tension at the heart of macroeconomics: what exactly are we measuring, and does it capture what we actually care about?
1. Measuring National Income: GDP and GNI
Every economy produces goods and services, generates income, and spends on output. National income accounting attempts to measure the total value of this economic activity over a given period — typically one year. The most widely used measure is Gross Domestic Product.
📖 Definition — Gross Domestic Product (GDP) GDP is the total monetary value of all final goods and services produced within a country's borders in a given time period, regardless of the nationality of the producers.
📖 Definition — Gross National Income (GNI) GNI is the total income earned by a country's residents and businesses, regardless of where that income is generated. GNI = GDP + net income from abroad (factor income received from abroad minus factor income paid abroad).
💡 GDP vs GNI — The Key Distinction
- GDP is location-based: it counts all production within a country's borders
- GNI is nationality-based: it counts all income earned by a country's residents, wherever they are located
- For Ireland, GDP > GNI significantly — large multinational profits are produced in Ireland (GDP) but repatriated abroad (reducing GNI)
- For the Philippines, GNI > GDP — large remittances flow in from overseas Filipino workers
Real vs Nominal GDP
- Nominal GDP is measured at current prices — it rises when either output increases OR prices increase (inflation)
- Real GDP is adjusted for inflation using a base year price level — it rises only when actual output increases
- Real GDP is the preferred measure for comparing economic growth over time and across countries
- GDP per capita = GDP ÷ population — adjusts for population size, allowing cross-country comparisons of average living standards
Real GDP Formula
\[ \text{Real GDP} = \frac{\text{Nominal GDP}}{\text{GDP Deflator}} \times 100 \] Where the GDP deflator is a price index measuring the average price level of all goods and services in the economy relative to a base year.
Economic Growth Rate
\[ \text{Growth Rate} = \frac{\text{Real GDP}_{\text{current}} - \text{Real GDP}_{\text{previous}}}{\text{Real GDP}_{\text{previous}}} \times 100 \]
2. The Three Approaches to Measuring GDP
GDP can be measured in three equivalent ways. In theory, all three approaches yield the same result because every unit of output produced generates an equivalent amount of income and expenditure — this is the circular flow of income.
Expenditure Approach (most commonly used)
- Sums all spending on final goods and services in the economy