Injections 

are variables in an economy that add to the circular flow of income, and include
investment (I) government spending (G) and exports (X).

Leakages are the non-consumption uses of income, including saving, taxes, and imports.

GDP – GROSS DOMESTIC PRODUCT

----- is the total value of all final goods and services produced within the borders of a country in a given
period.

THE THREE APPROACHES IN MEASURING GDP

*Income Approach *Expenditure Approach *Value- Added Approach

Calculating GDP – Income Approach

- One way to measure GDP is by using the income approach.

Income approach – measures the total income earned by the households in a nation during a year.

*Let’s look at the graph here and decide where the income in the circular flow is shown.

*Circular flow model includes two market which are the HOUSEHOLD and the FIRMS.

Households are the providers of resources to firms who demand resources in order to produce goods and
services.

*As you can see in the circular flow, households provide land, labor, and capital to firms in the resource
market in exchange for the provision of these productive resources households receive income in the
form of wages, interest and rent.

*Let’s find out how we can find the total income in a nation therefore the total GDP by breaking down
the different types of income earned by households. By providing their productive resources to firms in
the resource market, household can earn different types of income.

*As we know, the different resources that household provide to firms are:

TYPES OF INCOME:

*Land – Rent

*Labor – Wages

*Capital – Interest

*Entrepreneurship - Profits

*For each of these types of productive resources, households receive money incomes in return for land
household receive for rental income, therefore the payment for household receive for land is called rent.

For example: A farmer owns a land and he let a corporation that farms wheat on his land rents it. The
corporation is paying the landowner rental income for the permission to use his land to grow wheat on.
*Next, let’s talk about the labor. Labor is obviously a worker who is somebody who goes to work
everyday provides a labor of some sort whether it’s manual labor or intellectual labor. Either way
households provide workers for firms in exchange for their labor households earn that’s what we call
wages, these are the payment household receive in exchange for their labor. The wages a household
earns are considered the income they earn in exchange for their labor resource.

*Next is the capital. First we will identify the income received in exchange for their capital. Huseholds
receive interest payments in exchange for their capital resources. Let’s look at the circular flow,
let’s look at the banking sector and let’s determine how households receive payments in exchange for
their capital.

*As you know, many households like to save money. Of course, savings is considered a virtue. When
households save money, there is a leakage from the circular flow of income, this is because a penny
saved is not a penny spent. Therefore, there is less spending on goods and services in households save.
However, money saved is not wasted. Money saved in banks is invested by those banks who loan that
money back to business firms which needs to borrow money to acquire capital equipment to pay their
workers and to cover other costs of production. When a business firm borrows money from a bank to
operate its business, it pays the bank interest in return for the privilege of borrowing that money. Of
course, the money that the firms’ borrowed ultimately belongs to households who have savings to that
Bank. In that way, households that save money at banks receive interest payments in return for the bank
lending that money to business firms.

*So savings is considered a leakage from the circular flow but it is savings that enables firms to invest in
capital equipment, therefore, investment is considered an injection into the circular flow as we see on the
graph here. Households receive ineterest payments for money that they save at banks. Banks earn that
interest by lending that money to firms and that way, firms are able to acquire capital using money lent
to them through the banking system that ultimately belongs to households. That leaves us with the last
one, entrepreneurship.

*Some households are entrepreneurs. These are the business owners who seek profits by opening a
business of their own, starting a business enterprise. If a household starts his or her own business, they
are ultimately seeking profits therefore the income earned by households who start their own business is
known as profit.

*If we take the total rents, wages, interest payments and profits earned by household we get the total
income of the nation which when added together it will give us the GDP or the GROSS DOMESTIC
PRODUCT of the nation.

Income approach equation: (Y stands for GDP)

Y = w + i+ r+ p

w- wages earned from labor

I – interest earned on capital

R – rent earned on land

P- profits earned on entrepreneurial talent

Calculating GDP – Expenditure Approach

*The other way that GDP can be measured is by finding the total amounts spent on the goods and
services produced in the nation by households, firms, the government, and foreigners. This is known as
the expenditure approach. Expenditure is another way of saying spending, therefore,

Expenditure approach - measures the total amount spent on the nation’s good and services.

*Let’s look at the circular model again and find out where the expenditure can be seen in this graph.

*Let’s look in the product market, Households spend money in the product market for which they
received goods and services. Of course, households are not the only one consuming the nation’s
products, firms also consume product in the form of capital goods and governments consume product in
the product market in the form of infrastructure goods and services such as healthcare, education, and
national defense.

 Households – CONSUMPTION
 Firms – INVESTMENT (capital spending by firms)
 Governments – GOVERNMENT SPENDING
 Foreigners – EXPORTS

*When households spend money on goods and services, this is considered consumption. Consumption
includes all spending by households onto goods and services but with this money income as we see in
our graph here, the money returns to firms in the form of consumption in the product market so
household consumption includes all spending by domestic households on goods and services.

*The next type of expenditure that occurs in a country is spending by firms on capital goods. This we call
investment. Now when we use the word investment here, we’re talking about a very particular type of
investment.

For example: Ms. Ibero invested on her education by paying her tuition. This is technically not investment
from an economic standpoint because what is she really doing is paying her own tuition and buying the
service of education in the product market thus spending money on education is actually a form of
consumption.

*Investment from a macroeconomic standpoint includes all spending by firms on capital goods (so we
can also call investment, capital spending by firms)

*Of course, capital goods means the tools, the technology used in production of goods and
serviceswhenever a firm buys a new piece of technology or capital this is considered investment.

*The next one who spend money in a nation’s economy is the government. We simply call this
GOVERNMENT SPENDING. The type of things that a government spend money includes public schools,
infrastructure such as roads and bridges and government spending may also include spending on
healthcare for the elderly or for the unemployed or for the poor households in the nation.

*Anytime a government provides public goods to the nation’s firms or households, this is considered
government spending and therefore an injection into the nation’s circular flow but this raises the question
“WHERE DOES THE GOVERNMENT GETS THE MONEY TO SPEND ON GOODS AND SERVICES?” for the
nation’s households and firms.

*Of course for those someone who has ever filed taxes and earn income knows tax money spent by
households and firms go to the government sector to allow them to provide the goods and services that
firms and households benefit from. Therefore, TAXES are considered a leakage from the circular flow
whereas government spending is considered an injection into the circular flow. This leaves one final
stakeholder when considering the different types of spending that can go on in the nation and that is
foreigners.

*Foreigners buy a nation’s EXPORTS. Let’s take a look at the model again, we can see the foreign sector
in the upperleft corner. In the foreign sector, money spent by foreigners on our exports are considered
an injection into the circular flow. This is because foreigners who earn their own incomes in their own
resource market are choosing to spend some of those hard-earned incomes on our nation’s goods.

*This leads to an increase in our nation’s GDP since there is money flowing into the economy but that
raises a question “ WHAT IF SOMEBODY IN OUR NATION BUYS A GOODS FROM OTHER COUNTRY or in
other words BUYS AN IMPORT?”

*Naturally, any money spent on imports within our nation has to be subtracted from the GDP, because
import spending is considered a leakage from the circular flow.

For example: If mo order ko ug louis vitton bag , the original one, from other country, then the money I
spent on that bag will go to a household from that country nga ako gipalitan.

Expenditure approach equation:

Y = C + I + G +(X-M)

C stands for consumption; spending by households

I stands for investment; spending by businesses on capital and inventory

G stands for government spending: spending by all government entities on goods and services (but not
transfer payments)

X stands for exports: goods and services produced within a country that are purchased in other countries

M stands for imports: goods and services that are produced in other countries but are purchased in your
country

Calculating GDP - VALUE ADDED APPROACH (Production Approach)

---- It measures GDP from the supply side of the market. It adds up all the final output of goods and
services then subtracts the total of intermediate goods.

For example:
The production of wooden Tables.

Imagine there is one country that only has two factories (factory A and B) that produce wooden tables.
Over the course of a year, 1’000 tables were produced in factory A and sold at a price of $100 each. The
legs required to assemble the tables were produced by factory B and sold to factory A at a price of $10
each, while the tops were imported from a different country at a price of $20 each. In this case, the
value  of goods sold adds up to $140’000 (1’000 x $100 + 4’000 x $10) and intermediate consumption
adds up to $60’000 (1’000 x $20 + 4’000 x $10). As a result, GDP amounts to $80’000 ($140’000 –
$60’000). Note that the value of the table legs is only counted once (for factory B) where it is actually
added.

1,000 tables produced in FACTORY A -----Sold at a price of 100 dollars each.

1,000 tables = 4,000 legs produced by FACTORY B-------Sold at a price of 10 dollars each

Tops imported from a different country at a price of 20 dollars each

What is the total value of goods sold?

1,000 tables x 100 dollars + 4,000 legs x 10 dollars = 140,000 dollars (the total value of goods)

What is the total intermediate consumption?

1,000 tables x 20 dollars + 4,000 legs x 10 dollars = 60,000 dollars

GDP = VOGS – IC

*VOGS - the gross value of output resulting from domestic economic activity

*IC - intermediate consumption

GDP = $140’000 – $60’000

= 80,000 dollars.

*The key idea here is that you’re getting the same value as the market value of the final goods and
services produce in a given time period.