Topic no. 10: Gross Domestic Product Flashcards
Understand: - Concept of Gross Domestic Product - Real GDP - Three approaches to calculating GDP - Limitations of GDP - Business cycles
What is Gross Domestic Product? [GDP]
Market value of ALL final goods and services produced within a given time period. [A year]
** To measure a country’s economic performance, look at the country’s output of goods and services. Value of output is shown by the GDP data.
What to take note of when it comes to GDP?
a) GDP stresses on value of FINAL goods
- Final goods are goods that are solely meant for consumption.
[don’t include intermediate goods: goods that are bough for further processing to produce other goods → inputs. Not meant for consumption.]
b) GDP is concerned with only NEW, or CURRENT output [i.e. output in the year you are looking at]
Excluded from current year GDP’s figure because NO CURRENT OUTPUT:
i) Old output [already counted during the time it was produced. i.e. second hand cars or resale HDB flats]
ii) Paper transactions [change of ownership]
iii) Purely financial transaction [Mere transfer of funds. Services provided by banks, second hand car dealers and brokers must be included in the current year’s GDP as current services are being performed]
c) GDP excludes certain CURRENT output
ALL current outputs except for:
i) Illegal activities [i.e. illegal gambling and drug trafficking → impossible to keep track]
ii) certain non-marketed activities [i.e. value of housework performed by housewives; do-it-yourself activities → no similar products can be found in the market, difficult to put value for these activities]
d) GDP includes output produced by ALL factors of production in the country (i.e. irrespective of whether they are local or foreign factors of production)
→ GDP measures the value of output produced by FOP located in the domestic economy, irrespective of who owns them. Distinction must be made between concepts of GDP and Gross National Product (GNP).
e) GDP values goods at market prices or current prices which is the actual transacted price. (money GDP or nominal GDP or GDP at current market prices)
[Formula: GDP current year = Price (current year) x Quantity (current year)]
↓
Change in value of output/GDP between the years could be due to:
i) change in price;
ii) change in quantity/output; or
iii) change in both price and quantity
How are GDP and GNP linked?
GNP = GDP + Net factor receipts
Net Factors Receipts = Earnings by residents from abroad - Earnings by non-residents in the country
[e.g. GNP SG = GDP SG + [(earning by SGporeans from abroad) - (foreigners’ earnings in Singapore)]]
What is the difference between GDP and Gross National Product (GNP)?
To put into context:
Singapore’s GDP measures value of what is produced IN Singapore, not looking if locals or foreigners produce it. As it is a GEOGRAPHICAL measure of a country’s output of goods and services.
Singapore’s GNP data refers to output produced only by Singaporeans, regardless if they are produced in Singapore or abroad. GNP is therefore a RESIDENTIAL concept.
GDP is geographical while GNP is residential.
What is real GDP?
A measure of a nation’s output valued at base year price.
Methods:
1. Base year prices
Formula: Real GDP = Price (base year) x Quantity (current year)
[Tells us how much output(Q) has changed over the years as P is constant at base year price]
- GDP deflator
Formula:
Real GDP = Money GDP/(GDP price deflator ÷ 100)
GDP price deflator = Money GDP/Real GDP x 100 = ([Price current year x Quantity current year]÷[Price base year x Quantity current year]) x 100
[Measure the level of prices of all new, domestically produced, final goods and services in an economy. Broader than the CPI as it contains all final goods and services produced in our economy]
How do we compute the economic growth rate of a country?
Comparing real GDP data over time.
i.e. Economic Growth Rate (%) = [(Real GDP current year - Real GDP previous year)÷ Real GDP previous year] x 100%
What are the three approaches of estimating GDP?
a) Output approach [product approach]
Adding the values of goods and services produced by the various industries in the economy → Value added method]
b) Income approach
Add up all the incomes earned by the FOP
[Labour: Wages and salaries, land: rent, capital: interest, entrepreneurship: profit]
c) Expenditure approach
Add up the total expenditures/spending on goods and services in the economy as a whole.
Consumption (C) → Household spending on durable goods [exclude house], perishable items and services
Investment (I) → firms’ spending on residential properties [factories & machinery] and changes in inventories
Government expenditure (G) → government spending on goods and services
Net exports (X - M) → foreign sector
GDP (National expenditure) = C + I + G + [X - M]
*** National output = National income = National expenditure
What are the limitations of GDP?
a) GDP is NOT a complete measure of all the country’s output of goods and services
[illegal activities and some non-marketed activities are excluded from GDP computation]
b) GDP does NOT indicate the amount of leisure
[standard of living has worsened if GDP ↑ as people work longer hours & have lesser time for leisure]
c) GDP does NOT adequately reflect the costs of growth
[More pollution and other social ills]
d) GDP figure does NOT indicate the improvements in quality of goods
[size may shrink but price stays the same]
e) GDP does NOT take into account how income is distributed
[↑ in GDP goes to small part of population, means that people on the whole are NOT better off]
f) GDP is valued/measure at current market prices
i) price has changed
ii) output has changed
iii) both price and output has changed
[GDP is measured using current market prices → when GDP ↑ in price inflation → people are worse off]
g) GDP does NOT take into consideration population growth
What is per capita GDP?
Provides a measure of the dollar output per person in that country, i.e. average GDP per person in that country.
Formula: Per capita GDP = GDP/Population
[Better measure of a country’s standard of living/well-being than GDP as it takes into account the population of a country]
Limitations:
- Does NOT indicate every individual’s income, just the average.
- Does NOT take into consideration population growth
What are business cycles?
Periodic but irregular up and down movement in economic activity.
What are the phases of the business cycle in the right order?
Peak > Recession > Trough > Recovery > Peak > Recession
What are the features and implication of each phase of the business cycle?
Recession:
Feature: Declining phase of the business cycle
[Economy termed technical recession ONLY after it has experience 2 quarters of NEGATIVE economic growth]
Implication: Output/real GDP declines and the unemployment rate rises.
Trough:
Feature: Lowest phase of the business cycle (from recession).
[Turning point of the contraction. i.e. economy has bottomed out]
Implication: Output/real GDP reaches minimum after fall during recession and unemployment rate is at highest relative to recent years]
Recovery:
Feature: Expanding phase of the business cycle.
Implication: Output/real GDP increases and the unemployment rate falls.
Peak:
Feature: Highest phase of the business cycle.
Implication: Output/real GDP reaches its highest level relative to recent years after rising during a recovery and the economy is closer to full employment.
What are the causes of a recession?
i) A decrease in the Aggregate Demand (AD)
[AD ↓, AD curve shifts leftward causing the output (GDP) to decrease, which in turn cause the employment level to decrease as well. Lower AD has also caused the price level to decrease]
ii) A decrease in the Aggregate Supply (AS)
[Cost of production ↑ → AS ↓ → AS curve will shift leftward causing output (GDP) to ↓ → employment level ↓ . Lower AS curve caused price level to ↑. Decreasing AS leads to STAGFLATION, a situation of high unemployment and high prices occurring simultaneously]
What are the causes of a recovery in a business cycle?
Economic recovery is associated with expanding phase of the business cycle. With AD-AS diagrams, a recovery is shown by an increase in Q or output (GDP).
[If recession due to decrease in AD/AS, recovery should focus on decrease/increasing AS]
i) An increase in the Aggregate Demand (AD)
[Increase in AD caused by any AD component from C, I, G and (X - M). Most often due to I or G.]
(Output, employment and income starts to ↑, resulting in demand-pull inflation)
ii) An increase in the Aggregate Supply (AS)
[Increase in AS occurs when there is a decreased in factor price, increased in productivity that results in decreasing cost of production]
(When AS ↑, output (GDP) & employment would increase but price level would decrease)
