Quiz 15: Measuring a Nations Income

Business

Equal contribution on GDP: Price of a hot dog is $2 and of a hamburger is $4. Contribution of 30 hot dog on GDP is $60 img . Assume that X number of hamburgers needsto produce to contribute equallywith hot dog on GDP. img The number of hamburgers should be produced to contribute equally with hot dog on GDP is img . Hence, the option 'b' is correct.

Gross Domestic Product ( GDP ) is defined as the sum of final values of all goods and services produced within an economy during a particular period (a year or a quarter). GDP has four components, they are consumption, investment, government purchases, and net exports. a) The transaction of a new refrigerator will contribute to the consumption component of GDP. Consumption is expenditure on goods and services by the households. Goods include both the durable and nondurable goods. Example of durable goods is refrigerators, and nondurable goods are food and clothing. Services are those which are physically visible, but can be felt such as the intangible items such as the medical care education etc. b) Buying a new house by aunt contributes to the investment component of GDP. Investment is money spent on purchase of capital equipment, inventories, and structures. However, this also includes household (individual) purchase of new housing. c) Ford selling a mustang from its inventory changes the consumption and investment components of the GDP. However, as the change in transaction of money is exactly equal and opposite for both of these GDP components there will not be any change in GDP; in fact, when Ford produces the car and, instead of selling it, it complements it to its inventory, Ford is supposed to have purchased the car for the personal use. That is, the car is treated as part of Ford's investment spending. However, when Ford vends the car out of the inventory, Ford's inventory investment is negative, counterbalancing the positive expenditure of the buyer. d) The transaction of buying a pizza contributes to the consumption component of GDP. Consumption is expenditure on goods and services by the households. Goods include both the durable and nondurable goods. Example of durable goods is refrigerators, and nondurable goods are food and clothing. Services are those which are physically visible, but can be felt such as the intangible items such as the medical care education etc. e) The construction of a highway is part of the government purchases ; therefore, government purchase component of the GDP increases. Government purchases is the spending on goods and services by local, state, and federal governments. f) The purchase of the Country F wine has an impact on both the consumption and net exports components of the GDP. Buying Country F wine by my parents is consumption expenditure; however, Country F wine has to be imported to sell it to my parents. Therefore, an import of Country F wine decreases the net exports component of the GDP. Thus, a purchase of Country F wine increases consumption component and decreases the net-export component of the GDP. g) The expansion of factory increases investment and thus increases GDP. Investment is the process of investing on purchase of goods that are used for the manufacturing of more goods and services in the future. It is basically an investment for the future. Purchase of capital equipment, inventories, and structures together gives us the total investment. Therefore, the factory built in Country O is investment expenditure, and causes an increase in GDP. Although, Honda is a Country J company, the transaction still contributes to GDP of Country U because GDP measures final goods produced within a country.

Every transaction in the economy involves two parties: a seller and a buyer. Therefore, in a transaction a dollar spent by one person is a dollar earned by another person. E.g., assume that A purchases potatoes from B and pays him $50. In this example, B is the seller and A is the buyer. For the same transaction, B earns $50 and A spends $50. Thus, it is clear from the above example that a transaction contributes equally towards economy's income and expenditure. If you consider the circular-flow pattern of income, the equality will be clear. • When households buy goods and services, the expenditure flows through the market to the firms. • When firms, in turn, use the money they receive from sales to pay certain expenses such as workers' wages, landowners' rent, and owners' profit, this income flows through the market to the factors of production. Therefore, the flow of money from households to firms and from firms to households is always a continuous process, which balances the income and expenditure in an economy.