Chapter 5

Question 1

What is the purpose of GDP?

Answer 1

GDP measures a country’s total income and total expenditure, providing an overall indication of economic performance and well-being

Question 2

What are the four components of GDP?

Answer 2

Consumption (C): Spending by households on goods and services.
Investment (I): Spending on capital goods and inventories.
Government Purchases (G): Spending on goods and services by governments.
Net Exports (NX): Exports minus imports

Question 3

What is the difference between nominal GDP and real GDP?

Answer 3

Nominal GDP values production using current prices.
Real GDP values production using constant base-year prices, accounting for inflation​

Question 4

Why is real GDP considered a better measure of economic well-being?

Answer 4

Real GDP reflects changes in output rather than changes in prices, isolating true economic growth​

Question 5

What is excluded from GDP?

Answer 5

Used goods.
Illegal market activities.
Goods and services produced at home for personal use.
Transfer payments like pensions or unemployment benefits

Question 6

What is the formula for GDP using the expenditure approach?

Answer 6

DP=C+I+G+NX
Where
C = Consumption,
I = Investment,
G = Government purchases, and
NX = Net exports​

Question 7

How is the GDP deflator calculated?

Answer 7

GDP Deflator = (Nominal GDP/Real DGP) x 100

Question 8

What is the formula for inflation rate using the GDP deflator?

Answer 8

Inflation Rate = )GDP Deflator (New) - GDP Deflator (old)/GDP Deflator (old)) x 100

Question 9

How is the growth rate of real GDP calculated?

Answer 9

Growth Rate = (Real GDP (Current) - Real GDP (Previous))/ Real GDP (Previous) x100

Question 10

What is the formula for calculating net exports (NX)?

Answer 10

NX = Exports - Imports

Question 11

Why does total income in an economy equal total expenditure?

Answer 11

Every transaction has a buyer and a seller, so the amount spent by buyers equals the income received by sellers​

Question 12

How does GDP account for inventories?

Answer 12

Goods added to inventories are considered investment and counted in GDP. When goods are sold, they are subtracted from inventory investment​

Question 13

How do transfer payments like pensions affect GDP?

Answer 13

Transfer payments are excluded from GDP because they do not represent the production of goods or services​

Question 14

Why might a high GDP not indicate high well-being?

Answer 14

GDP excludes factors like income distribution, environmental quality, and non-market activities such as leisure and home production​

Question 15

What does the GDP deflator measure?

Answer 15

The GDP deflator measures the price level of all goods and services in an economy relative to a base year​

Question 16

Why is investment in GDP defined differently than in everyday language?

Answer 16

Investment in GDP includes spending on capital goods and inventories, not financial investments like stocks or bonds

Question 17

What is the circular-flow diagram?

Answer 17

A visual model showing the flow of goods, services, and money in an economy between households and firms, demonstrating the equality of income and expenditure​

Question 18

What is the difference between GDP and GNP (Gross National Product)?

Answer 18

GDP measures the value of goods and services produced within a country’s borders.
GNP includes the income earned by a country’s residents abroad and excludes income earned by foreigners within the country

Question 19

Why does GDP include only final goods and services?

Answer 19

Including only final goods avoids double counting, as the value of intermediate goods is already included in the final product​

Question 20

How do imports affect GDP?

Answer 20

Imports reduce GDP because they are subtracted from exports in the net exports (NX) calculation​

Question 21

What are the limitations of GDP as a measure of economic well-being?

Answer 21

Excludes non-market activities (e.g., home production, volunteer work).
Ignores income inequality.
Does not account for environmental degradation.
Excludes the underground economy

Question 22

How is real GDP calculated using nominal GDP and the GDP deflator?

Answer 22

Real GDP = Nominal GDP/GDP Deflator x 100

Question 23

What is the formula for per capita GDP

Answer 23

Per Capita GDP = GDP/Population

Question 24

Why is consumption typically the largest component of GDP?

Answer 24

Consumption includes all spending by households on goods and services, such as food, clothing, and services, which constitute the majority of economic activity in most countries​

Question 25

How do government purchases differ from transfer payments in GDP?

Answer 25

Government purchases are spending on goods and services that directly contribute to GDP, while transfer payments (e.g., pensions) do not involve current production and are excluded​

Question 26

How does the base year affect real GDP calculations?

Answer 26

Real GDP uses prices from the base year to measure output, ensuring that changes in GDP reflect only changes in production, not price

Question 27

What happens to GDP if a country legalizes an illicit market?

Answer 27

GDP increases as the production and sales of previously illicit goods are now officially measured and included in economic activity

Question 28

Why might a natural disaster increase GDP in the short term?

Answer 28

Cleanup, repairs, and rebuilding efforts generate economic activity and increase measured GDP, despite the negative impact on overall well-being