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Chapter 6: Measuring National Output and National Income. Outline. I. The concept of Gross Domestic Product (GDP) II. Calculating GDP 1. The expenditure approach 2. The Income approach III. Nominal GDP V.S. Real GDP IV. Limitations of the GDP. National Income and Product Accounts.

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I. The concept of Gross Domestic Product (GDP)

II. Calculating GDP

1. The expenditure approach

2. The Income approach

III. Nominal GDP V.S. Real GDP

IV. Limitations of the GDP

national income and product accounts
National Incomeand Product Accounts
  • National income and product accounts are data collected and published by the government describing the various components of national income and output in the economy.
  • The U.S. Department of Commerce is responsible for producing and maintaining the “National Income and Product Accounts” that keep track of GDP.
i the concept of gross domestic product
I. The Concept of Gross Domestic Product
  • Gross domestic product (GDP) is the total market value of all final goods and services produced within a given period by factors of production located within a country.
final goods and services
Final Goods and Services
  • The term final goods and services in GDP refers to goods and services produced for final use.
  • Intermediate goods are goods produced by one firm for use in further processing by another firm.
value added
Value Added
  • Value added is the difference between the value of goods as they leave a stage of production and the cost of the goods as they entered that stage.
exclusions of used goods and paper transactions
Exclusions of Used Goodsand Paper Transactions
  • GDP ignores all transactions in which money or goods change hands but in which no new goods and services are produced.
exclusion of output produced abroad by domestically owned factors of production
Exclusion of Output Produced Abroadby Domestically Owned Factors of Production
  • GDP is the value of output produced by factors of production located within a country. Output produced by a country’s citizens, regardless of where the output is produced, is measured by gross national product (GNP).
ii calculating gdp
II. Calculating GDP

GDP can be computed in two ways:

  • The expenditure approach: A method of computing GDP that measures the total amount spent on all final goods during a given period.
  • The income approach: A method of computing GDP that measures the income—wages, rents, interest, and profits—received by all factors of production in producing final goods.
ii calculating gdp 1 the expenditure approach
II. Calculating GDP 1. The Expenditure Approach

Expenditure categories:

  • Personal consumption expenditures (C)—household spending on consumer goods.
  • Gross private domestic investment (I)—spending by firms and households on new capital: plant, equipment, inventory, and new residential structures.
ii calculating gdp 1 the expenditure approach12
II. Calculating GDP 1. The Expenditure Approach
  • Government consumption and gross investment (G)

Expenditure categories:

  • Net exports (EX – IM)—net spending by the rest of the world, or exports (EX) minus imports (IM)
ii calculating gdp 1 the expenditure approach13
II. Calculating GDP 1. The Expenditure Approach
  • The expenditure approach calculates GDP by adding together the four components of spending. In equation form:
personal consumption expenditures
Personal Consumption Expenditures
  • Personal consumption expenditures (C) are expenditures by consumers on the following:
    • Durable goods
    • Nondurable goods
    • Services
gross private domestic investment
Gross Private Domestic Investment
  • Investment refers to the purchase of new capital.
  • Total investment by the private sector is called gross private domestic investment. It includes the purchase of new housing, plants, equipment, and inventory by the private sector:
gross private domestic investment16
Gross Private Domestic Investment
  • Nonresidential investment
  • Residential investment
  • Change in inventories
gross private domestic investment17
Gross Private Domestic Investment
  • Remember that GDP is not the market value of total sales during a period—it is the market value of total production.
  • The relationship between total production and total sales is:

GDP = final sales + change in business inventories

gross investment versus net investment
Gross Investmentversus Net Investment
  • Gross investment is the total value of all newly produced capital goods (plant, equipment, housing, and inventory) produced in a given period.
  • Depreciation is the amount by which an asset’s value falls in a given period.
  • Net investment equals gross investment minus depreciation.

capitalend of period = capitalbeginning of period + net investment

government consumption and gross investment
Government Consumptionand Gross Investment
  • Government consumption and gross investment (G) counts expenditures by federal, state, and local governments for final goods and services.
net exports
Net Exports
  • Net exports (EX – IM) is the difference between exports and imports. The figure can be positive or negative.
    • Exports (EX)
    • Imports (IM)
ii calculating gdp the income approach
II. Calculating GDPThe Income Approach
  • National income is the total income earned by the factors of production owned by a country’s citizens.
  • The income approach to GDP breaks down GDP into four components:

GDP = national income + depreciation + (indirect taxes – subsidies) + net factor payments to the rest of the world + other

from gdp to disposable personal income25
From GDP to Disposable Personal Income
  • Net national product equals gross national product minus depreciation; a nation’s total product minus what is required to maintain the value of its capital stock.
  • Personal income is the income received by households after paying social insurance taxes but before paying personal income taxes.
disposable personal income and personal saving27
Disposable Personal Income and Personal Saving
  • The personal saving rate is the percentage of disposable personal income that is saved.
  • If the personal saving rate is low, households are spending a large amount relative to their incomes; if it is high, households are spending cautiously.
iii nominal versus real gdp
III. Nominal Versus Real GDP
  • Nominal GDP is GDP measured in current dollars, or the current prices we pay for things. Nominal GDP includes all the components of GDP valued at their current prices.
  • When a variable is measured in current dollars, it is described in nominal terms.
calculating real gdp
Calculating Real GDP
  • A weight is the importance attached to an item within a group of items.
  • A base year is the year chosen for the weights in a fixed-weight procedure.
  • A fixed-weight procedure uses weights from a given base year.
calculating the gdp deflator
Calculating the GDP Deflator
  • The GDP deflator is one measure of the overall price level. The GDP deflator is computed by the Bureau of Economic Analysis (BEA).
  • Overall price increases can be sensitive to the choice of the base year. For this reason, using fixed-price weights to compute real GDP has some problems.
the problems of fixed weights
The Problems of Fixed Weights
  • Structural changes in the economy.
  • Supply shifts, which cause large decreases in price and large increases in quantity supplied.
  • The substitution effect of price increases.

The use of fixed price weights to estimate real GDP leads to problems because it ignores:

iv limitations of the gdp gdp and social welfare
IV. Limitations of the GDPGDP and Social Welfare
  • Society is better off when crime decreases, however, a decrease in crime is not reflected in GDP.
  • An increase in leisure is an increase in social welfare, but not counted in GDP.
  • Nonmarket and household activities are not counted in GDP even though they amount to real production.
gdp and social welfare
GDP and Social Welfare
  • GDP accounting rules do not adjust for production that pollutes the environment.
  • GDP has nothing to say about the distribution of output. Redistributive income policies have no direct impact on GDP.
  • GDP is neutral to the kinds of goods an economy produces.
the underground economy
The Underground Economy
  • The underground economy is the part of an economy in which transactions take place and in which income is generated that is unreported and therefore not counted in GDP.
gross national income per capita
Gross National Income per Capita
  • To make comparisons of GNP between countries, currency exchange rates must be taken into account.
  • Gross National Income (GNI) is a measure used to make international comparisons of output. GNI is GNP converted into dollars using an average of currency exchange rates over several years adjusted for rates of inflation.
  • GNI divided by population equals gross national income per capita.
review terms and concepts
Review Terms and Concepts

base year

change in business inventories

compensation of employees

corporate profits

current dollars


disposable personal income, or after-tax income

durable goods

expenditure approach

final goods and services

fixed-weight procedure

government consumption and gross investment (G)

gross domestic product (GDP)

gross investment

gross national income (GNI)

gross national product (GNP)

gross private domestic investment (I)

income approach

indirect taxes

intermediate goods

national income

national income and product accounts

review terms and concepts39
Review Terms and Concepts

net exports (EX – IM)

net factor payments to the rest of the world

net interest

net investment

net national product (NNP)

nominal GDP

nondurable goods

nonresidential investment

personal consumption expenditures (C)

personal income

personal saving

personal saving rate

proprietors’ income

rental income

residential investment



underground economy

value added