Macroeconomics 214
Chapter 2
Measurement
Learning Objectives
Construct measures of gross domestic product using the product approach, the expenditure
approach, and the income approach
State the importance of each expenditure component of GDP and the issues associated with
each measure
Construct real and nominal GDP, and price indices, from data on quantities and prices in
different years
State the key difficulties in measuring GDP and the price level
State the accounting relationship among saving and income in the private sectors, and
explain the importance of these relationships for wealth accumulation
Construct the key labour market measures from the household survey data
Measuring GDP: The national Income and Product Accounts (NIPA)
GDP can be measured using 3 different methodologies. Firstly, the product approach, the
expenditure approach, and the income approach. Each approach will give us the same
answer, provided there is no measurement error. Of course, in practice, there can be
substantial measurement error, so we will typically get different answers when we try to add
up the components of GDP.
National Income Accounting example
The easiest way to understand NIPA is by using a simple example. This is a fictitious
economy in which the only raw material is coconuts, and the only final goods and services
are coconuts and restaurant food made with coconuts. The key element of the example is
that coconuts are both a final good and an intermediate good. The economic agents in this
world are a coconut producer, a restaurant, consumers, and the government. Each coconut
is sold at a fixed price of $2.
Consumers can purchase directly from the coconut producer or via the restaurant. The
restaurant also buys from the coconut produces. The consumer buys 4 million coconuts from
the coconut producer. This would bring these coconuts to be final goods (used as end
product by consumers). In the event that the restaurant buys coconuts from the coconut
producer, we would deem these to be intermediate goods, as they will ad some value and
then sell to consumers as a final good. In this example, of the 10 million coconuts produced,
6 million are sold to the restaurant as intermediate goods.
Table 2.1 is data collected from the coconut producer
Total Revenue $20 million
Wages $5 million
Interest on Loan $0.5 million
Taxes $1.5 million
Table 2.2 is data collected from the restaurant
, Total Revenue $30 million
Cost of Coconuts $12 million
Wages $4 million
Taxes $3 million
Table 2.3 shows the calculation done from the previous 2 tables, which gives the after-tax
profits from the producers in this economy. After-tax profits are important for later
calculations. After tax profit = total revenue – wages – interest – cost of intermediate input –
taxes.
Coconut producer $13 million
Restaurant $11 million
Table 2.4 is data collected from government – the tax revenue that comes in and the wages
paid to government workers. In this case, it can be said that the government has a balanced
budget. The governments task in this example is providing security to citizens on the island
i.e. Soldiers on the island.
Tax Revenue $5.5 million
Wages $5.5 million
Table 2 .5 is the relevant data for consumers, which tells us their total income, the taxes
they pay to the government and the profits received by producers that ultimately are the
income some consumers. The wage income was determined as follows: restaurant paid
$4million in wages, the coconut producer paid $5 million in wages and the government paid
$5.5 million in wages.
Wage Income $14.5 million
Interest Income $0.5 million
Taxes $1 million
Profits Distributed to Producers $24 million
Table 2.6: to measure GDP using the product (or value-added) approach, we add up value-
added for each final good and service in the economy, at each stage of production. It
considers what value was added by each economic agent t each stage.
Value-added - coconuts $20 million
Value-added – restaurant food $18 million
Value-added – government $5.5 million
GDP $43.5 million
Table 2.7: Using the expenditure Approach, we measure GDP by adding up expenditure on
al final goods and services. The key expenditure components are consumption,
investment, government expenditures and net exports. In the example, there are no
investments, and no trade with the outside world, so invest and net exports are zero. Note
that we get the same answer as for the product approach. TE = C + I + G + (Net Exports).
Consumption $38 million
Investment 0
Chapter 2
Measurement
Learning Objectives
Construct measures of gross domestic product using the product approach, the expenditure
approach, and the income approach
State the importance of each expenditure component of GDP and the issues associated with
each measure
Construct real and nominal GDP, and price indices, from data on quantities and prices in
different years
State the key difficulties in measuring GDP and the price level
State the accounting relationship among saving and income in the private sectors, and
explain the importance of these relationships for wealth accumulation
Construct the key labour market measures from the household survey data
Measuring GDP: The national Income and Product Accounts (NIPA)
GDP can be measured using 3 different methodologies. Firstly, the product approach, the
expenditure approach, and the income approach. Each approach will give us the same
answer, provided there is no measurement error. Of course, in practice, there can be
substantial measurement error, so we will typically get different answers when we try to add
up the components of GDP.
National Income Accounting example
The easiest way to understand NIPA is by using a simple example. This is a fictitious
economy in which the only raw material is coconuts, and the only final goods and services
are coconuts and restaurant food made with coconuts. The key element of the example is
that coconuts are both a final good and an intermediate good. The economic agents in this
world are a coconut producer, a restaurant, consumers, and the government. Each coconut
is sold at a fixed price of $2.
Consumers can purchase directly from the coconut producer or via the restaurant. The
restaurant also buys from the coconut produces. The consumer buys 4 million coconuts from
the coconut producer. This would bring these coconuts to be final goods (used as end
product by consumers). In the event that the restaurant buys coconuts from the coconut
producer, we would deem these to be intermediate goods, as they will ad some value and
then sell to consumers as a final good. In this example, of the 10 million coconuts produced,
6 million are sold to the restaurant as intermediate goods.
Table 2.1 is data collected from the coconut producer
Total Revenue $20 million
Wages $5 million
Interest on Loan $0.5 million
Taxes $1.5 million
Table 2.2 is data collected from the restaurant
, Total Revenue $30 million
Cost of Coconuts $12 million
Wages $4 million
Taxes $3 million
Table 2.3 shows the calculation done from the previous 2 tables, which gives the after-tax
profits from the producers in this economy. After-tax profits are important for later
calculations. After tax profit = total revenue – wages – interest – cost of intermediate input –
taxes.
Coconut producer $13 million
Restaurant $11 million
Table 2.4 is data collected from government – the tax revenue that comes in and the wages
paid to government workers. In this case, it can be said that the government has a balanced
budget. The governments task in this example is providing security to citizens on the island
i.e. Soldiers on the island.
Tax Revenue $5.5 million
Wages $5.5 million
Table 2 .5 is the relevant data for consumers, which tells us their total income, the taxes
they pay to the government and the profits received by producers that ultimately are the
income some consumers. The wage income was determined as follows: restaurant paid
$4million in wages, the coconut producer paid $5 million in wages and the government paid
$5.5 million in wages.
Wage Income $14.5 million
Interest Income $0.5 million
Taxes $1 million
Profits Distributed to Producers $24 million
Table 2.6: to measure GDP using the product (or value-added) approach, we add up value-
added for each final good and service in the economy, at each stage of production. It
considers what value was added by each economic agent t each stage.
Value-added - coconuts $20 million
Value-added – restaurant food $18 million
Value-added – government $5.5 million
GDP $43.5 million
Table 2.7: Using the expenditure Approach, we measure GDP by adding up expenditure on
al final goods and services. The key expenditure components are consumption,
investment, government expenditures and net exports. In the example, there are no
investments, and no trade with the outside world, so invest and net exports are zero. Note
that we get the same answer as for the product approach. TE = C + I + G + (Net Exports).
Consumption $38 million
Investment 0
