Question

1. Answer the following questions about components of demand in GDP:

a. List the components of demand from the most important to the least important.

b. What component of demand fluctuates the most?

c. Why does the government share of demand appear (perhaps) surprisingly small?

Answer 1

Answer 1:

a.When calculating GDP of an economy, the components of demand include Consumption expenditure, Investment expenditure, government expenditure and Net exports of the nation. The most important component of demand is private consumption expenditure which means the expenditure incurred by individuals on purchase of final goods and services. The second important component in GDP is investment expenditure which involves gross capital formation occuring in the economy. The third important component is government expenditure which includes expenditure made by government on purchase of goods and services, infrastructure spending, capital formation etc. The least importaht component is Net Exports which is the difference between value of exports and value of imports of a nation.

b. Out of all four components, consumption expenditure fluctuates the most in the calculation of GDP of an economy. This is because it depends on various factors like wealth, expected price level, income of the consumer, tastes and preferences of the consumer etc.

c. In order to maintain budget in balance, the government's share of demand is small. This is because as government expenditure increases, budget deficit increases if tax revenue is not increased by the same amount. Thus, to maintain budget in balance, government's share of demand is low in GDP.