Question

Explain the significance of the equation GDP = C + I + G + NX. What does it not include and why can that be an issue?

Answer 1

Solution-

Gross Domestic Product (GDP) is one of the most widely used measures of an economy’s output or production. It is defined as the total value of goods and services produced within a country’s borders in a specific time period — monthly, quarterly or annually.GDP is an accurate indication of an economy's size, while GDP per capita has a close correlation with the trend in living standards over time, and the GDP growth rate is probably the single best indicator of economic growth.

GDP can be calculated either through the expenditure approach (the sum total of what everyone in an economy spent over a particular period) or the income approach (the total of what everyone earned). Both should produce the same result. GDP = C + I + G + NX. This equation is stands for Expenditure approach.

Expenditure-based GDP produces both real (inflation-adjusted) and nominal values, while the calculation of income-based GDP is only carried out in nominal values. The expenditure approach is the more common one and is obtained by summing up total consumption, government spending, investment and net exports.

The components used to calculate GDP include:

Consumption:
-- Durable goods (items expected to last more than three years)
-- Nondurable goods (food and clothing)
-- Services

Government Expenditures:
-- Defense
-- Roads
-- Schools

Investment Spending:
-- Nonresidential (spending on plants and equipment), Residential (single-family and multi-family homes)
-- Business inventories

Net Exports:
-- Exports are added to GDP
-- Imports are deducted from GDP

Calculation of GDP does not include household production or underground economy. It does not include any transfer payments, such as social security or unemployment benefits.