Answer to Question #90477 in Macroeconomics for Calvin

Question

Compare and contrast the three approaches to calculate GDP

Answer 1

GDP can be calculated by the following three methods:

as the sum of gross value added (production method);

as the sum of the components of end use (end use method);

as the sum of the primary income (distribution method).

When calculating the production method, GDP is calculated by summing up the gross value added of all production units of residents grouped by industry or sector. Gross value added is the difference between the value of goods produced and services rendered (output) and the value of goods and services fully consumed in the production process (intermediate consumption).

According to the method of final use, GDP is defined as the sum of the following components: expenditures on final consumption of goods and services, gross capital formation, and the balance of exports and imports of goods and services.

When determining the GDP by the distribution method, it includes the following types of primary incomes paid by production units - residents: wages of employees, net taxes on production and imports (taxes on production and imports minus subsidies on production and imports), gross profit and gross mixed income.

According to the Keynesian model of economic development, GDP in the simplest case is represented as a sum of 4 main components - this is consumption (C, from Consumption), investment (I, from Investments), government spending (S, from Goverment spending), and net exports, i.e. full export minus full import (E-M, from Export - iMport):

GDP = C + I + S + (E - M)

In the structure of consumption (C), there are usually 3 subclasses: consumption of durable goods (more than 3 years) (durable goods - cars, furniture, etc.), short-term (less than 3 years) use (nondurable goods - clothes, food, medicines, etc.) etc.) and services (services).

For example, in the United States, in percentage terms, durable goods account for about 15% of total consumption, nondurables - about 31%, and services - about 54%. In general, C determines, at present, about 56% of the US GDP and is thus its most important component.

Investments (I) are responsible for about 14% of GDP, government spending (S) - social benefits, weapons, interest on government bonds, etc. - for 17%, and finally exports (E - M) - for about 13%. It should be noted that for the USA it would be more logical to call the last component of GDP net imports, since this country imports far more goods and services than it exports (that is, the value of E - M is negative).

GDP per capita

No less important and, at the same time, more fully reflecting the standard of living in a particular country of the world as compared with GDP is the indicator of gross domestic product calculated per capita. This indicator is calculated as the ratio of GDP to the population of the country and shows how much of the gross product produced in the country per year and expressed in terms of value, falls on 1 resident of the given country. This indicator is used, primarily, to determine the standard of living of the population in a particular state.