Lecture Notes: GDP Calculation and Expenditure Method

Break and Resumption

• 10-minute break
• Resume at 6:45

Question 5: GDP Calculation using Expenditure Method

• Expenditure Method:
  • Calculate GDP using the formula GDP = C + I + G + (X - M)
  • Components:
    • Personal Consumption Expenditure (C)
    • Business Fixed Investment (I)
    • Residential Investment (I)
    • Inventory Investment (I)
    • Government Purchases (G)
    • Exports (X)
    • Minus Imports (M)
    • Note: Corporate Profits are not included in the Expenditure Method; they pertain to the Income Method.
• Steps:
  • Aggregate all given components except imports which should be subtracted.
  • Example values provided in the lecture:
    • 1030 for Consumption
    • 94 for Business Investment
    • 477 for Residential Investment
    • -35 for Inventory Investment
    • 3288 for Government Spending
    • 1831 for Exports
    • -253 for Imports
  • Summing these values yields GDP via the Expenditure Method.

Question B: Transfer Payments and GDP

• Explanation:
  • Transfer payments (e.g., subsidies) are not included in GDP calculations.
  • GDP measures the market value of produced goods and services, not one-way payments without a corresponding production or service.
  • Transfer payments do not correspond to any production and are thus excluded from GDP.

Question C: Money Multiplier Process

• Money Multiplier:
  • Concept: How initial deposits lead to more money creation in the banking system.
  • Assumption: All money is held in checkable deposits, no currency.
  • Central concepts: Reserve ratio, total reserves, initial deposit leads to a multiplied effect in money supply.
• Example:
  • Initial Central Bank deposit of 100 units.
  • Reserve requirement, say 10%, leads to subsequent lending cycles.
  • Money multiplier formula: (1 + c) / (c + rr) where c is the currency ratio and rr is the reserve ratio.
  • Example concludes with a 1000 units increase in total money supply from an initial deposit.

Question C: Government Purchases vs. Transfer Payments

• Explanation:
  • Direct government spending (G) has a stronger impact on income and aggregate demand than transfer payments (TR).
  • Increase in G leads directly to increase in demand by that amount.
  • Increase in TR only increases demand by a fraction since not all of it is spent.
  • Equation: Y = C + I + G + (X - M)
  • G affects directly, TR affects indirectly through consumption (C).

Question C: IS Curve and Its Shape

• IS Curve Equation: Y = C + I + G + TR - T
• Derivation Example:
  • Given specific values for consumption, investment, government spending, and transfers.
  • Determine Y (output) which remains constant irrespective of interest rate due to the structure (investment independent of rate).
• Shape Reasoning:
  • The IS curve is vertical showing that output is not influenced by interest rate changes in the given structure.