1) The output gap is the difference between actual output ($950 billion) and full employment output ($1000 billion), which is $-50 billion. 2) The government budget is in surplus of $45 billion, as tax income of $145 billion exceeds government spending of $100 billion. 3) Net exports are $-14 billion, as exports of $100 billion are less than imports of $112 billion. 4) To close the output gap of $-50 billion, autonomous investment needs to increase by $20 billion, from $20 billion to $40 billion.

1. Group 5
Members:
Ginger, Leona, Maggie, Richard

2. What is GDP?
• GDP is the market value of final goods
and services in a country during the given
period.
1. Type of goods and services (no intermediate
goods)
2. Location (within the country)
3. Time (in the current year)

3. • 7.1 Peter operates a garage which provides customers
with car repairing services.
• In March 2008 he bought a 5-year old second
hand car from his customer at a price of $60,000
• He paid his worker $5,000 to repair and clean up
the engine (for improvements)
• then successfully sold the car to another
customer for $68,000 in June 2008
？Discuss how the 2008 GDP and its components were
affected under the three different approaches of GDP
accounting.

4. Review of the three approaches
• Expenditure approach
Consumption + Investment + Government
expenditure + Net export
• Income approach
Labor income + Capital income
• Outcome approach
Adding up the contribution to the final output by
every firm in the economy

5. Expenditure Approach
Total car price
$68,000
Service of
Second hand car
improvement
$60,000
$8,000
(previous years)
(Current year)
• Total output = $8,000 (C) + $0 (I) + $0 (G) +

6. Income Approach
• Labor income
Wage of workers $5,000 + Salary of Peter $ X
• Capital Income
Profit = Revenue $68,000 – Cost of second hand
car $60,000 – Salary/Wage expenses $(5,000 + X)
Profit $(3,000 – X)
• Total output
$5,000 + $X + $(3,000 – X) = $8,000

7. Output Approach
Stage of Value of Cost of Value
Production Output intermediate Added
input
$60,000 $0 $60,000
$68,000 $60,000 $8,000
$68,000

8. Output approach & Sum-up
• Total output = $8,000
• The value of the second hand car should not by
calculated. Why?
• It is the value added in previous years, not the
current year.
• The outputs obtained under the three
approaches are the same.
• When calculating GDP, we should pay attention to
the time and location of production.

9. 7.2 a) A Chinese-owned ice-cream
producer operating in the U.S.
Accounting Record
• Total sales revenue $1,000
• Total costs include the following:
Wages paid to U.S. workers $500
Wages paid to Chinese workers $100
Interest paid to a U.S. bank $40
Rent paid to a U.S. landlord $60
• Total costs $700

10. 7.2 a) (i) What is the value of U.S. GDP contributed by this firm using
the expenditure approach? Which component(s) of the expenditure
approach will be involved?
• Expenditure approach
• Total sales revenue $1,000
• Total costs include the following:
Wages paid to U.S. workers $500
Ice-cream: Final goods
Wages paid to Chinese workers $100
Market value: Sales revenue
Interest paid to a U.S. bank $40
Rent paid to a U.S. landlord $60
Sold to household: consumption
• Total costs $700
Consumption Expenditure (C): $1000
Contribution to U.S. GDP
=$1000(C)+$0(I)+$0(G)+$0(NX) = $1000

11. 7.2 a) (ii) What is the value of U.S. GDP contributed by this firm
using the income approach? Which component(s) of the income
approach will be involved?
• Income approach
• Total sales revenue $1,000
• Total costs include the following:
Wages paid to U.S. workers $500
Wages paid to Chinese workers $100
Labour
Interest paid to a U.S. bank $40
Rent paid to a U.S. landlord $60
• Total costs $700
Labour income: $500+$100=$600
Capital income: ($1000-$700)+$40+$60=$400
Contribution to U.S. GDP: $600+$400=$1000

12. 7.2 a) (iii) How much is this firm’s contribution
to the Chinese GNP?
• Chinese GNP –the value of output produced by Chinese
• Total sales revenue $1,000
• Total costs include the following:
Wages paid to U.S. workers $500
Wages paid to Chinese workers $100
Interest paid to a U.S. bank $40
Rent paid to a U.S. landlord $60
• Total costs $700
Contribution to Chinese GNP:
($1000-$700) + $100 = $400

13. 7.2 b) If a Canadian tourist drinks German beer in a
restaurant in the U.S., how will the U.S. GDP be affected?
• Assumption:
Cost of German beer: $5
Selling price of German beer: $8
• U.S. GDP
Consumption Expenditure(C): $8
Imports(M): $5
GDP=C+I+G+X-M
U.S. GDP is affected by: + $8 - $5 = +$3

14. 7.3 Country X produces only two products in 2005:
canned salmon fish and truck.
Stage of Output produced Output Market Required Market value
production produced value of intermediate of
by output input intermediate
input
First Fresh salmon Local $3 None Zero
fish fishermen million
Final Canned salmon Local $5 Fresh $ 3 million
fish factory million salmon fish
Stage of Output Output produced Market Required Market
production produced by value of intermediate value of
output input intermediate
input
First Engine Factory located in $ 6 None Zero
foreign country million
Final Truck Local factory $9 Engine $ 6 million
million

15. 7.3
Canned salmon fish 1/2 of the output 1/2 of the output
Purchased by Local households Foreigners
truck 1/3 of the 1/3 of the 1/3 of the
output output output
Purchase/ Local firms government unsold
unsold

16. 7.3 (a)
• how each of the four products (fresh salmon
fish, canned salmon fish, engine and truck)
contributes to county X’s GDP under the
output approach;
what is the value of GDP under output
approach
Output approach:
add up the contribution to the final output of every firm in the
country
Value added = value of output – cost of intermediate input

17. 7.3 (a)
Output produced Output Market Required Market value Value
produced value of intermediate of added
by output input intermediate
input
Fresh salmon Local $3 None Zero $ 3 million
fish fishermen million
Canned salmon Local $5 Fresh $ 3 million $ 2 million
fish factory million salmon fish
Output Output produced Market Required Market Value added
produced by value of intermediate value of
output input intermediate
input
Engine Factory located in $ 6 None Zero —
foreign country million
Truck Local factory $9 Engine $ 6 million $ 3 million
million
$ 8 million

18. 7.3 (b)
• How country X’s GDP in 2005 would be
recorded using the expenditure approach.
• GDP= consumption expenditure
+ investment expenditure Final
goods/ services
+ government expenditure
+ net export

19. 7.3 (b)
Stage of Output produced Output Market Required Market value
production produced value of intermediate of
by output input intermediate
input
First Fresh salmon Local $3 None Zero
fish fishermen million
Final Canned salmon Local $5 Fresh $ 3 million
fish factory million salmon fish
Stage of Output Output produced Market Required Market
production produced by value of intermediate value of
output input intermediate
input
First Engine Factory located in $ 6 None Zero
foreign country million
Final Truck Local factory $9 Engine $ 6 million
million

20. 7.3 (b)
Canned salmon fish 1/2 of the output 1/2 of the output
$ 5 million
Purchased by Local households Foreigners
Truck 1/3 of the 1/3 of the 1/3 of the
$ 9 million output output output
Purchase/ Local firms government unsold
unsold
C= 1/2 * 5 million = $ 2.5 million

21. 7.3 (b)
Canned salmon fish 1/2 of the output 1/2 of the output
$ 5 million
Purchased by Local households Foreigners
Truck 1/3 of the 1/3 of the 1/3 of the
$ 9 million output output output
Purchase/ Local firms government unsold
unsold
I= (1/3+ 1/3) * 9 million = $ 6 million

22. 7.3 (b)
Canned salmon fish 1/2 of the output 1/2 of the output
$ 5 million
Purchased by Local households Foreigners
Truck 1/3 of the 1/3 of the 1/3 of the
$ 9 million output output output
Purchase/ Local firms government unsold
unsold
G=1/3 * 9 million = $ 3 million

23. 7.3 (b)
Canned salmon fish 1/2 of the output 1/2 of the output
$ 5 million
Purchased by Local households Foreigners
Truck 1/3 of the 1/3 of the 1/3 of the
$ 9 million output output output
Purchase/ Local firms government unsold
unsold
NX= exports – imports
= ½ * 5 million – 6 million = $ -3.5 million

24. 7.3 (b)
• GDP= C + I + G + NX
= 2.5 million + 6 million + 3 million – 3.5 million
= $ 8 million

25. 7.3 (c)
• The factory which produces engine earns a
profit of $ 0.6 million in 2005 and half of the
factory is owned by the citizens of country X.
• Calculate GNP of country X

26. 7.3 (c)
• GNP measures the value of output produced by
the nationals.
• GNP = GDP
+ factor income derived by nationals from overseas
- factor income paid to foreigners

27. 7.3 (c)
Stage of Output produced Output Market Required Market value
production produced value of intermediate of
by output input intermediate
input
First Fresh salmon Local $3 None Zero
fish earns afishermenofmillion
profit $ 0.6
Final million in 2005 ;$ 5
Canned salmon Local Fresh $ 3 million
fish half of the factory is owned fish
factory million salmon
Stage of Output by the citizens
Output produced of country X
Market Required Market
production produced by value of intermediate value of
output input intermediate
input
First Engine Factory located in $ 6 None Zero
foreign country million
Final Truck Local factory $9 Engine $ 6 million
million

28. 7.3 (c)
• factor income paid to foreigners = 0
factor income derived by overseas nationals
= 1/2 * 0.6 million = $ 0.3 million
• GNP = GDP + income paid to foreigners
- income derived by overseas nationals
= 8 million + 0.3 million - 0
= $ 8.3 million

29. 7.3 (d)
• Explain how each of the activities should be
treated under the national income accounting of
country X by income approach:
Value of total incomes generated in the process of production
I. Fisherman A wins $2,000 from playing cards
with fisherman B.
∵ not a process of production (no output)
∴ not counted as income

30. 7.3 (d)
• Explain how each of the activities should be
treated under the national income accounting of
country X by income approach:
Value of total incomes generated in the process of production
II. Fisherman C catches $ 3,000 of salmon fish and
keeps them for his own use.
∵ non-market activity
∴ not counted as income

31. 7.3 (d)
• Explain how each of the activities should be
treated under the national income accounting of
country X by income approach:
Value of total incomes generated in the process of production
III. The government pays $ 5,000 welfare payment
to an unemployed factory worker.
∵ not incomes generate from production
∴ not counted as income

32. 8.1--Denotation
Actual output : Y
Planned aggregate expenditure: PAE
Disposable income: Yd
Net tax (tax minus transfer payments): T
Autonomous consumption: a=$200 billion
Marginal propensity to consume (MPC): b=0.8
Autonomous investment : IP =$20 billion
Autonomous government spending: G=$100 billion
Lump sum tax: T0=$50 billion
Proportional tax rate: t=0.1
Autonomous exports: X=$100 billion
Marginal propensity to import (MPM) m=0.12

33. 8.1 a) What is the output gap?
Equilibrium level PAE=Y C =a +b Yd
PAE= C + IP + G + (X-M) M=mY Yd= Y- T
= (a + bYd ) + IP + G + (X – mY) T = T0+ t Y
= [a + b ( Y – T)] + IP + G + (X – mY)
= [a + b ( Y – T0 –tY)] + IP + G + (X – mY)
= (a-bT0 + IP +G +X) + (b- bt-m)Y
(a-bT0 + IP +G +X) : denoted as A
A + (b- bt-m)Y =Y
Y=
(a-bT0 + IP +G +X) 200-0.8x50+20+100+100
1- b(1-t ) + m = 1-0.8(1 -0.1)+0.12
= $950 (billion)
Output gap=actual output – full employment output
= $950-$1000 = $-50 (billion)

34. 8.1 b) & c)
b) Budget deficit or Budget surplus？
Tax income of government=Lump sum tax +
induced tax
T= T0 + tY = $50 + 0.1x $950 = $145 (billion)
G= $100 (billion)
Budget Surplus = $145- $100 = $45 (billion)
c) Value of net exports?
Net export = X – M
= X – mY
=$100 – 0.12x $950
=$-14 (billion)

35. 8.1 d)
A ΔA
Y= ΔY=
1-b(1-t)+m 1-b(1-t)+m
investment A Y
ΔY = -Output gap =$50(billion), 1-b(1-t) + m =0.4
ΔA= $50x 0.4= $20 (billion) i.e. Δ IP = 20
(billion)
Interest rate: r
Δ IP Δr
$ 10 billion
1%
Δr = 20 ÷10 x 1% = 2%
Interest rate should decrease by 2%

36. 8.1 e)
ΔA
ΔY=
1-b(1-t)+m
m , others , 1-b(1-t) + m
ΔY 1
ΔA 1-b(1-t)+m
multiplier effect will be smaller