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Nominal GDP Income Approach [2]
Gross mixed income (GMI) is the same measure as GOS, but for unincorporated businesses. This
often includes most small businesses.
The sum of COE, GOS and GMI is called total factor income; it is the income of all of the factors of
production in society. It measures the value of GDP at factor (basic) prices. The difference between basic
prices and final prices (those used in the expenditure calculation) is the total taxes and subsidies that the
government has levied or paid on that production. So adding taxes less subsidies on production and imports
converts GDP at factor cost to GDP(I).
Total factor income is also sometimes expressed as:
Total factor income = employee compensation + corporate
profits + proprietor's income + rental income + net interest
Yet another formula for GDP by the income method is:
where R : rents
I : interests
P : profits
SA : statistical adjustments (corporate income taxes,
dividends, undistributed corporate profits)
W : wages.
Expenditure approach
The third way to estimate GDP is to calculate the sum of the
final uses of goods and services (all uses except intermediate
consumption) measured in purchasers' prices.
In economics, most things produced are produced for sale and
then sold. Therefore, measuring the total expenditure of
money used to buy things is a way of measuring production.
This is known as the expenditure method of calculating GDP. Note that if you knit yourself a sweater, it is
production but does not get counted as GDP because it is never sold. Sweater-knitting is a small part of the
economy, but if one counts some major activities such as child-rearing (generally unpaid) as production,
GDP ceases to be an accurate indicator of production. Similarly, if there is a long term shift from non-
market provision of services (for example cooking, cleaning, child rearing, do-it yourself repairs) to market
provision of services, then this trend toward increased market provision of services may mask a dramatic
decrease in actual domestic production, resulting in overly optimistic and inflated reported GDP. This is
particularly a problem for economies which have shifted from production economies to service economies.
Components of GDP by expenditure
GDP (Y) is the sum of consumption (C), investment (I), government spending (G) and net exports (X
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Components of U.S. GDP
Nominal GDP Expenditure Approach [3]
Y = C + I + G + (X M)
Here is a description of each GDP component:
C (consumption) is normally the largest GDP component in
the economy, consisting of private (household final
consumption expenditure) in the economy. These personal
expenditures fall under one of the following categories:
durable goods, non-durable goods, and services. Examples
include food, rent, jewelry, gasoline, and medical expenses
but does not include the purchase of new housing.
I (investment) includes, for instance, business
investment in equipment, but does not include
exchanges of existing assets. Examples include
construction of a new mine, purchase of software, or
purchase of machinery and equipment for a factory.
Spending by households (not government) on new
houses is also included in investment. In contrast to its
colloquial meaning, "investment" in GDP does not
mean purchases of financial products. Buying financial
products is classed as 'saving', as opposed to
investment. This avoids double-counting: if one buys
shares in a company, and the company uses the money
received to buy plant, equipment, etc., the amount will
be counted toward GDP when the company spends the
money on those things; to also count it when one gives
it to the company would be to count two times an
amount that only corresponds to one group of products.
Buying bonds or stocks is a swapping of deeds, a transfer of claims on future production, not directly
an expenditure on products.
G (government spending) is the sum of government expenditures on final goods and services. It
includes salaries of public servants, purchases of weapons for the military and any investment
expenditure by a government. It does not include any transfer payments, such as social security or
unemployment benefits.
X (exports) represents gross exports. GDP captures the amount a country produces, including goods
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and services produced for other nations' consumption, therefore exports are added.
M (imports) represents gross imports. Imports are subtracted since imported goods will be included
in the terms G, I, or C, and must be deducted to avoid counting foreign supply as domestic.
A fully equivalent definition is that GDP (Y) is the sum of final consumption expenditure (FCE), gross
capital formation (GCF), and net exports (X M).
Y = FCE + GCF+ (X M)
FCE can then be further broken down by three sectors (households, governments and non-profit institutions
serving households) and GCF by five sectors (non-financial corporations, financial corporations,
households, governments and non-profit institutions serving households
profit_institutions_serving_households_(NPISH))). The advantage of this second definition is that
expenditure is systematically broken down, firstly, by type of final use (final consumption or capital
formation) and, secondly, by sectors making the expenditure, whereas the first definition partly follows a
mixed delimitation concept by type of final use and sector.
Note that C, G, and I are expenditures on final goods and services; expenditures on intermediate goods and
services do not count. (Intermediate goods and services are those used by businesses to produce other goods
and services within the accounting year.
According to the U.S. Bureau of Economic Analysis, which is responsible for calculating the national
accounts in the United States, "In general, the source data for the expenditures components are considered
more reliable than those for the income components [see income method, below]."
Examples of GDP component variables
C, I, G, and NX(net exports): If a person spends money to renovate a hotel to increase occupancy rates, the
spending represents private investment, but if he buys shares in a consortium to execute the renovation, it is
saving. The former is included when measuring GDP (in I), the latter is not. However, when the consortium
conducted its own expenditure on renovation, that expenditure would be included in GDP.
If a hotel is a private home, spending for renovation would be measured as consumption, but if a
government agency converts the hotel into an office for civil servants, the spending would be included in
the public sector spending, or G.
If the renovation involves the purchase of a chandelier from abroad, that spending would be counted as C,
G, or I (depending on whether a private individual, the government, or a business is doing the renovation),
but then counted again as an import and subtracted from the GDP so that GDP counts only goods produced
within the country.
If a domestic producer is paid to make the chandelier for a foreign hotel, the payment would not be counted
as C, G, or I, but would be counted as an export.
A "production boundary" delimits what will be counted as GDP.
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GDP real growth rates for 2010.
"One of the fundamental questions that must be addressed in preparing the national economic
accounts is how to define the production boundarythat is, what parts of the myriad human
activities are to be included in or excluded from the measure of the economic production."
All output for market is at least in theory included within the boundary. Market output is defined as that
which is sold for "economically significant" prices; economically significant prices are "prices which have
a significant influence on the amounts producers are willing to supply and purchasers wish to buy."
exception is that illegal goods and services are often excluded even if they are sold at economically
significant prices (Australia and the United States exclude them).
This leaves non-market output. It is partly excluded and partly included. First, "natural processes without
human involvement or direction" are excluded.
Also, there must be a person or institution that owns or is
entitled to compensation for the product. An example of what is included and excluded by these criteria is
given by the United States' national accounts agency: "the growth of trees in an uncultivated forest is not
included in production, but the harvesting of the trees from that forest is included."
Within the limits so far described, the boundary is further constricted by "functional considerations."
The Australian Bureau for Statistics explains this: "The national accounts are primarily constructed to assist
governments and others to make market-based macroeconomic policy decisions, including analysis of
markets and factors affecting market performance, such as inflation and unemployment." Consequently,
production that is, according to them, "relatively independent and isolated from markets," or "difficult to
value in an economically meaningful way" [i.e., difficult to put a price on] is excluded.
Thus excluded
are services provided by people to members of their own families free of charge, such as child rearing, meal
preparation, cleaning, transportation, entertainment of family members, emotional support, care of the
Most other production for own (or one's family's) use is also excluded, with two notable
exceptions which are given in the list later in this section.
Non-market outputs that are included within the boundary are listed below. Since, by definition, they do not
have a market price, the compilers of GDP must impute a value to them, usually either the cost of the goods
and services used to produce them, or the value of a similar item that is sold on the market.
Goods and services provided by governments and non-profit organizations free of charge or for
economically insignificant prices are included. The value of these goods and services is estimated as