This document provides information on measuring Gross Domestic Product (GDP) using three approaches: the production, expenditure, and income approaches. It discusses how GDP is calculated under each approach and defines key terms. It also outlines difficulties in measuring GDP, such as avoiding double counting, excluding non-production transactions, and not including income from illegal activities or non-market activities. The document concludes with a practice question asking the reader to calculate various national income measures using data provided.

1. Course Title: Principles of Macroeconomics
Class: BS Economics (II semester), BBA Hons.
(III semester)

2. Methods of Measuring GDP
There are usually used three methods to measure national income.
a) Production approach
b) Expenditure approach
c) Income approach
2

3. 1. Production Approach
 Total value of final goods and services produced in a country during a year
is calculated at market prices.
 GDP is the summation of final value of all goods and services produced in a
country in a given year. For example
3
Total Quantity
(Q)
Final Price per
unit (P)
Total Value
(P*Q)
Wheat 500 ton 5000 per ton 2500000
Cotton 250 ton 1000 per ton 250000
Rice 200 ton 3000 per ton 600000
Sugar 200 ton 2000 per ton 400000
Cloths 5000 m. yards 900 per m. yards 4500000
Doctors 500 100000 50000000
Teachers 1000 100000 100000000

4. 2. Expenditures Approach
To determine GDP using the expenditures approach, we add up
all the spending on final goods and services that has taken place
throughout the year. It includes
I. Personal consumption Expenditures (C)
It represents the consumption expenditures by households.
covers all expenditures by households on durable
consumer goods (automobiles, refrigerators, video
recorders), nondurable consumer goods (bread, milk,
vitamins, pencils, toothpaste), and consumer expenditures
for services (of lawyers, doctors, mechanics, barbers).
4

5. Continue…
II. Gross Private Domestic Investment (I)
It includes all final expenditures on the following items:
 All final purchases of machinery, equipment, and tools by business
enterprises.
 All construction
 Changes in inventories
Private investment vs public investment
Gross investment VS Net investment
Net Investment = Gross investment – Depreciation Allowance

6. Continue…
III. Government Expenditures
It includes “govt. consumption expenditures” and “govt. gross investment
expenditures”.
 These expenditures have two components: (1) expenditures for goods
and services that government consumes in providing public services and
(2) expenditures for publicly owned capital such as schools and
highways, which have long lifetimes.
 Government expenditures (Federal, state, and local) include all
government expenditures on final goods and all direct purchases of
resources, including labor.
 It does not include government transfer payments because, as we have
seen, they merely transfer government receipts to certain households and
generate no production of any sort.

7. Continue…
IV. Net-Export Expenditures
Net Export = export – import
Nx = X – M
Putting it all together
GDP = C + I + G + Nx

8. 3. Income Approach
 National Income is the total money values of all incomes received by
productive persons and enterprises in the country during the year.
 The net income payments received by all citizens of a country in a
particular year are added up i.e. net incomes that accrue to all factors of
production.
1. Compensation of employees
It includes payment as wages and salaries by business and
government to their employees.
It also includes wage and salary supplements, in particular, payments
by employers into social insurance and into a variety of private pension,
health, and welfare funds for workers.
8

9. Continue…
2. Rents
 Rents consist of the income received by the households and
businesses that supply property resources.
 They include the monthly payments tenants make to landlords and
the lease payments corporations pay for the use of office space.
3. Interest
 Interest consists of the money paid by private businesses to the
suppliers of loans used to purchase capital.
 It also includes such items as the interest households receive on
savings deposits, certificates of deposit (CDs), and corporate bonds.
9

10. Continue…
4. Proprietors’ Income
The term “profits” is broken down into two accounts: proprietors’ income, which
consists of the net income of sole proprietorships, partnerships, and other
unincorporated businesses; and corporate profits. Proprietors’ income flows to the
proprietors.
5. Corporate Profits
Corporate profits are the earnings of corporations. Corporate profits are subdivided
into three categories:
 Corporate income taxes These taxes are levied on corporations’ profits. They flow to the
government.
 Dividends These are the part of after-tax profits that corporations choose to pay out, or
distribute, to their stockholders. They thus flow to households—the ultimate owners of all
corporations.
 Undistributed corporate profits Any after-tax profits that are not distributed to
shareholders are saved, or retained, by corporations to be invested later in new plants
and equipment. Undistributed corporate profits are also called retained earnings.
10

11. Continue…
6. Taxes on Production and Imports
Includes general sales taxes, excise taxes, business property taxes, license fees,
and customs duties.
NI = compensation of employees + Rents + interest + proprietors’ income +
corporate profit + taxes on production and imports
From NI to GDP
GDP = NI – net foreign factor income + statistical discrepancy + consumption
of fixed capital
 Statistical discrepancy accountants add a statistical discrepancy to national
income to make the income approach match the outcome of the expenditures
approach.
11

12. Difficulties in the measurement of GDP
Following precautions must be adopted while measuring GDP
1. Avoid Double Counting
To measure aggregate output accurately, all goods and services produced in a particular
year must be counted once and only once.
To avoid double counting, we must include only the market value of final goods and
ignores intermediate goods.
Intermediate goods vs final goods
2. GDP excludes non-production transactions
Nonproduction transactions are of two types: purely financial transactions and second-
hand sales.
12

13. Difficulties in the measurement of GDP
2.1 Financial Transactions
a) Public transfer payments
 It is the amount/payments which government makes directly to households
 Since the recipients contribute nothing to current production in return
b) Private transfer payments
 Pocket money, gifts, zakat etc.
c) Stock market transactions
 The buying and selling of stocks (and bonds) is just a matter of swapping bits of paper.
 Stock market transactions create nothing in the way of current production and are not
included in GDP.
 However, payments for the services provided by a stockbroker are included.
13

14. Difficulties in the measurement of GDP
2.2 Second-hand Sales
 Secondhand sales contribute nothing to current production and for that reason are
excluded from GDP.
3. Income from Illegal activities are not included in GDP
4. Non-market activities are not included in GDP
14

15. Assignment/Practice Question
Q. Below are the domestic output and national income values for a certain year. All values
are in billions. The questions that follow ask you to determine the major national income
measures by both the expenditures and the income approaches. The results you obtain with
the different methods should be the same.
 Personal consumption expenditures $245
 Net foreign factor income 4
 Transfer payments 12
 Rents 14
 Statistical discrepancy 8
 Consumption of fi xed capital (depreciation) 27
 Social Security contributions 20
 Interest 13

16. Conti…
 Proprietors’ income 33
 Net exports 11
 Dividends 16
 Compensation of employees 223
 Taxes on production and imports 18
 Undistributed corporate profi ts 21
 Personal taxes 26
 Corporate income taxes 19
 Corporate profi ts 56
 Government purchases 72
 Net private domestic investment 33
 Personal saving 20

17. Conti…
a. Using the above data, determine GDP by both the expenditures and the income
approaches. Then determine NDP.
b. Now determine NI in two ways: fifirst, by making the required additions or
subtractions from NDP; and second, by adding up the types of income and taxes
that make up NI.
c. Adjust NI (from part b) as required to obtain PI.
d. Adjust PI (from part c ) as required to obtain DI.

18. Additional Learning: Book “Economics” by
McConnel, Brue and Flynn (18th edition).
Chapter No. 24 “Measuring Domestic
Output and National Income”
Thank you
18