GDP stands for Gross Domestic Product, and is a way to measure how big the economy is. GDP measures the value of all final goods and services produced in a country.
Not all production is included in GDP:
1. If a transaction occurs in the underground economy that government statisticians can’t measure
(criminal activity is a major source of this), it won’t be counted.
2. Things that people produce for themselves are typically not counted either (GDP reflects the value of an
oil change if you took it to the garage, but not if you did it yourself).
3. Goods that are used as inputs to make other goods are also not counted (tires that Firestone sells to Ford
to put on Explorers aren’t counted, because the value of the tires is included in the price of the Explorer)
rdThe first two things aren’t counted because they are too hard to keep track of. The 3 is not counted because
then we would be double counting the value of the tires.
We can calculate GDP at least 2 different ways:
1. Income approach: GDP = wages + rent + interest + profit + (indirect taxes – subsidies) + depreciation
+/- statistical discrepancy
2. Expenditure approach: GDP = consumption + investment + government spending + (imports – exports)
Both of these approaches are derived directly from the circular flow model. The value of GDP calculated by either method is identical.
1) Categorize each of the following goods as either consumption (C), investment (I), government purchases
(G), exports (X) or imports (M)
a. Sony Blu-Ray player made in Japan
b. A family’s birthday cake purchased at Cub
c. Microsoft’s purchase of 1,000 Dell computers made in Texas
d. Pizza Hut’s purchase of a new pizza oven
e. Department of Defense’s purchase of 187 fighter jets.
2) Determine if the following are counted or not in calculated the US GDP
a. You charge your neighbor $10 to babysit their kids
b. The state spends $100 million on a new football stadium
c. A business buys new machines for its factory
d. A drug dealer buys a gun at the gun store
e. A baker buys flour to use in making cupcakes
3) Additions to inventory (stuff companies make but don’t sell) are counted as investment. Explain how
additions to inventory can be negative
Use the table below to answer questions 4 - 6
Item Value (billions Item Value (billions
of dollars) of dollars)
Wages 5000 Investment 1600
Consumption expenditure 7000 Statistical discrepancy 0
Indirect taxes 1200 Imports 1000
Subsidies 600 Exports 1300
Interest, rent, and profit 2200 Transfers to individuals 1000
Depreciation 1300 Personal taxes 3000
4) Calculate the GDP of this country
5) Which approach did you use in calculating GDP? Why?
6) How much did the government spend on goods and services?
7) Disposable income is how much money people have left after paying their personal taxes. What is the
disposable income in this economy?
8) Think about Central as an economy. What types of things would be categorized as components of GDP
Consumption Investment Government Exports Imports