Principles of MacroeconomicsPrinciples of Macroeconomics

ECON203Lecture 3: A Measure of Production and Income

(GDP)Instructor: Turki Abalala

Recap of Last LectureRecap of Last Lecture

Gross Domestic Product (GDP) the main macroeconomic indicator.

Explain and interpret GDP.

ECON203 - 2nd Semester 2014

Class OutlineClass Outline

Measurement approaches of GDP.

Expenditure approach:

• The components of expenditure

• Measuring GDP using expenditure approach

Exercises.

ECON203 - 2nd Semester 2014

Gross Domestic Product (GDP)Gross Domestic Product (GDP)

To measure GDP, there are two approaches commonly used in economics:

1- The expenditure approach

2- The income approach

ECON203 - 2nd Semester 2014

GDP – Expenditure ApproachGDP – Expenditure Approach

The Expenditure Approach

Measures GDP by using data on consumption expenditure, investment, government expenditure on goods and services, and net exports.

ECON203 - 2nd Semester 2014

GDP – Expenditure ApproachGDP – Expenditure Approach

The Components of Expenditure

• Consumption expenditure (C) by households

• Investment (I) by firms

• Government expenditures (G) by governments

• Net exports (NX) by the rest of the world

The sum of the four components is Total Expenditure on goods and services. Total Expenditure = C + I + G + NX

Thus, total expenditure on final goods and services = the value of output of final goods and services = [GDP]

ECON203 - 2nd Semester 2014

GDP – Expenditure ApproachGDP – Expenditure Approach

The table below shows the calculation for GDP of the US in 2009

ECON203 - 2nd Semester 2014

GDP – Expenditure ApproachGDP – Expenditure Approach

1. Consumption expenditure (C)

ECON203 - 2nd Semester 2014

GDP – Expenditure ApproachGDP – Expenditure Approach

2. Investment (I)

• The purchase of new capital goods (durable goods produced by one firm and bought by another such as tools, instruments, machines and building) produced by one firm and bought by another and additions to inventory.

• New homes purchased by households are included in (I).

• Purchasing stocks and bonds are NOT included in (I).

ECON203 - 2nd Semester 2014

GDP – Expenditure ApproachGDP – Expenditure Approach

3. Government Expenditure (G)

The expenditure by all levels of government on goods and services. Example: Spending on defense, judicial and education system. Yet, it excludes government transfers like social security and unemployment.

ECON203 - 2nd Semester 2014

GDP – Expenditure ApproachGDP – Expenditure Approach

4. Net Exports (NX)

• The value of exports (X) minus the value of imports (M).

• Export of Goods and Services are items that the firms in the country produce and sell to the rest of the world.

• Imports of Goods and Services are items that households , firms ,and the government in the country buy from the rest of the world.

ECON203 - 2nd Semester 2014

GDP – Expenditure ApproachGDP – Expenditure Approach

The Total (Aggregate) Expenditure of four groups as follows.

GDP = Total Expenditure

= C + I + G + (X-M)

= C + I + G + NX

NX refers to net exports that could be either positive or negative

ECON203 - 2nd Semester 2014

GDP – Expenditure ApproachGDP – Expenditure Approach

Expenditures Not in GDP

• Used Goods

Expenditure on used goods is not part of GDP because these goods were part of GDP in the period in which they were produced and during which time they were new goods.

• Financial Assets

When households buy financial assets such as bonds and stocks, they are making loans, not buying goods and services.

ECON203 - 2nd Semester 2014

Exercises Exercises

Which (if any) of the following transactions would be included in Saudi Arabia’s measure of GDP?1. Mohammed Abdullah spends SAR 2,000 buying shares2. Talal Mohammed buys an old car at auction by SAR20,0003. Khaled is a university student and receives an allowance of

SAR150 from his father each week4. Khaled spends his SAR150 allowance on petrol and soft

drinks5. Changes in stocks of furniture valued at SAR2 million6. Lettuces grown in my vegetable garden but not selling7. Timber purchased by the furniture manufacturer8. Nizar purchase of a Saudi Airline ticket

ECON203 - 2nd Semester 2014

ReferenceReference

Chapter 5 of “Foundations of Macroeconomics”Pages 119-120

ECON203 - 2nd Semester 2014

Now it’s over for Now it’s over for today. today.

Any question?Any question?ECON203 - 2nd Semester 2014