Thread: Basic GDP definition question

GDP is supposed to measure the total production of goods and services, and this is often measured by the following equation:

GDP = consumption + gross investment + government spending + (exports − imports), or,
GDP = C + I + G + (X − M)


I'm curious why production ends up being essentially equated with consumption in this equation. Seems like it's possible that people could do a lot of producing and then just store everything on a shelf somewhere (in effect, not consuming it). Is this possibility taken into account by the I factor (investing)?

Things which are produced but not consumed are considered I? Likewise, imports that are stored on a shelf would presumably also be considered I?

Thanks.

Yes, it is taken into account by I. everything that has been produced but not consumed in the same period is treated as "stock investments".

"C + I + G + (X − M)" How are all these measured? In $?

If the actual goods and servives consumed are the same, the number and type of goods and services being produced are the same, but inflation is high(or deflation), whont that in itself affect the GDP result?

Originally Posted by icewendigo

"C + I + G + (X − M)" How are all these measured? In $?

If the actual goods and servives consumed are the same, the number and type of goods and services being produced are the same, but inflation is high(or deflation), whont that in itself affect the GDP result?

Well, they take that into account with what's called "real" GDP, where adjustments are made for inflation.


One other observation/question. In the US economy over 50% of the GDP can be accounted for by services, and not products. I was watching a documentary last night on Pakistan and this guy got a haircut for 10 cents (US currency). A similar haircut in the US would have cost him $10.

I'm not sure exactly what my observation is here, other than to point out the "yearly production of goods and services" is by no means a measure of what a scientist might call "work". The same amount of work only counts for 10 cents in Pakistan, but $10 in the US. There still isn't a global market, and the huge contribution services make towards the GDP in the USA would be much smaller if these services were done in Thailand, India, Russia, or Pakistan, say. Of course, companies know this, and that's why jobs are being outsourced.

It seems like GDP as an indicator between countries is flawed, or at least I'm not sure exactly what it is that it is indicating. Not work certainly (it's easier to grow food on an industrial scale than it is to grow it in rice paddies), and not even material production really (because of the huge differences in the cost of services.... a programmer costs much less in India than the US). It seems to be measuring global power and influence as much as anything. This isn't to say it's a totally useless indicator, I just think it's curious to try and figure out what exactly it is indicating. Perhaps for tracking any one countries economic growth it's probably a better indicator.

Originally Posted by ehead

One other observation/question. In the US economy over 50% of the GDP can be accounted for by services, and not products. I was watching a documentary last night on Pakistan and this guy got a haircut for 10 cents (US currency). A similar haircut in the US would have cost him $10.

I think the problem is that, from a "barter" perspective, different goods and services have different exchange rates with each other. Maybe in the USA, 30 haircuts is worth an X-Box, but in Pakistan, maybe it would take 3,000 haircuts to be worthy of receiving an X-Box. So, only the ultra-wealthy can buy X-Boxes.


This is the whole problem with GDP. It bases its measurements on consumption, or what people are paying to get stuff, so having something become scarce can (strangely) boost its contribution to the GDP, sort of.

To me, real wealth is best determined by asking what % of a person's income is disposable income. If it's a low %, then you're poor, regardless of how many X-Boxes that sliver of income could buy you.

Anyway, GDP is a strange measurement of social welfare. if a country has to build prisons due to a high crime rate then GDP will increase. the same goes for investments to repair environmental damage or the need to produce a lot of medicaments because the populations becomes sick as a consequence of high pollution.

the human development index is a much better indicator for the welfare of a society (http://en.wikipedia.org/wiki/Human_Development_Index).

another remark is, that gdp is a pure number and does not take into account how income is distributed.

It should be amount of produce which is taxed by government ( product or part of a product shall be considered only once )

Originally Posted by evariste.galois

Anyway, GDP is a strange measurement of social welfare. if a country has to build prisons due to a high crime rate then GDP will increase. the same goes for investments to repair environmental damage or the need to produce a lot of medicaments because the populations becomes sick as a consequence of high pollution.

the human development index is a much better indicator for the welfare of a society (http://en.wikipedia.org/wiki/Human_Development_Index).

another remark is, that gdp is a pure number and does not take into account how income is distributed.

Interesting point.

And, if in the process of building one of those prisons, the government pays $500 for a hammer because of some kind of internal corruption, doesn't that actually make our GDP look higher as well?

If the gov't pays $500 for a hammer, it basically means they're printing money. Since if they have the money, they're putting it in to circulation (basically the same thing), and if they don't, they're borrowing it, which tends to reduce interest rates and has an inflationary impact. Since inflation tends to get factored out of "Real" GDP calculations, generally speaking a gov't can't artificially inflate its GDP like that. Check out Zimbabwe.

You don't even have to go to other countries to see differences in prices for the same goods. I recently moved from Denver to San Francisco. Basically everything in San Francisco is 2x as expensive. Housing is more like 7x as expensive. But wages are higher.

I really don't have a good intuitive understanding of what this means. If San Francisco people only spent money in San Francisco, you could just factor it in to some inflation figure. But an XBox costs the same in S.F. as it does in Denver. Likewise with cars, etc. It's economically identical to what happens when one country locks its exchange rate against a foreign currency. The rest of the US is basically locking its exchange rate 1:1 to S.F. money, even though in S.F. there's a lot more sloshing around in people's pockets.

It's one of the paradoxes of our modern world I don't really understand. Near as I can tell it means that people in the larger cities are artificially richer than people in smaller cities just through implicit currency manipulation. I would think that, if you put aside the inefficiencies of actually converting currencies, trade within the US would be improved by having the major cities have their own currencies that can float against the rest of the nation.

After all, in absolute terms, it probably doesn't require any more resources to live in a big city, since things like electricity and water can benefit from economies of scale. 50K in S.F. dollars might only be 20K elsewhere in the country.

But I'm just talking out my ass It's been too long since macroeconomics for me to really think clearly about it.

Wikipedia's page is actually quite informative. Virtually all of these issues get brought up. As for the differences in prices in services (and even products), one way to try and skirt this issue a bit is to do a "purchasing power parity" comparison/normalization between countries. This is supposed to take into account the fact that goods and services cost more in a country with high GDP.

Apparently there are a ton of problems with GDP though, making it's use as a measure between countries problematic.

Originally Posted by Numsgil

You don't even have to go to other countries to see differences in prices for the same goods. I recently moved from Denver to San Francisco. Basically everything in San Francisco is 2x as expensive. Housing is more like 7x as expensive. But wages are higher.

I really don't have a good intuitive understanding of what this means. If San Francisco people only spent money in San Francisco, you could just factor it in to some inflation figure. But an XBox costs the same in S.F. as it does in Denver. Likewise with cars, etc. It's economically identical to what happens when one country locks its exchange rate against a foreign currency. The rest of the US is basically locking its exchange rate 1:1 to S.F. money, even though in S.F. there's a lot more sloshing around in people's pockets.

It's one of the paradoxes of our modern world I don't really understand. Near as I can tell it means that people in the larger cities are artificially richer than people in smaller cities just through implicit currency manipulation. I would think that, if you put aside the inefficiencies of actually converting currencies, trade within the US would be improved by having the major cities have their own currencies that can float against the rest of the nation.

After all, in absolute terms, it probably doesn't require any more resources to live in a big city, since things like electricity and water can benefit from economies of scale. 50K in S.F. dollars might only be 20K elsewhere in the country.

But I'm just talking out my ass It's been too long since macroeconomics for me to really think clearly about it.

I think you're confusing disposable and non-disposable incomes.

Suppose we look at a person working as a store clerk in SF as a "A store clerking business". Paying rent is one of that business's expenses. So is eating. These can be seen as counting against that business's gross profits (their wage after taxes), but only the disposable income they have left after paying for rent and food is a net profit.

So, the non-disposable income portion of a pay check is the only serious difference in wage. In terms of disposable income, I doubt people in SF have any more money than anyone else. (Which also means their ability to afford an X-Box at any given price is exactly the same.)

Originally Posted by kojax

Suppose we look at a person working as a store clerk in SF as a "A store clerking business". Paying rent is one of that business's expenses. So is eating. These can be seen as counting against that business's gross profits (their wage after taxes), but only the disposable income they have left after paying for rent and food is a net profit.

So, the non-disposable income portion of a pay check is the only serious difference in wage. In terms of disposable income, I doubt people in SF have any more money than anyone else. (Which also means their ability to afford an X-Box at any given price is exactly the same.)

The way I heard it explained is this... the price of goods and services goes up in areas with wealth abundance if it's impossible for these goods and services to be purchased anywhere else.

One time purchases like cars are fairly uniform, because people will travel to make the purchase. Things like haircuts create an isolated market, if you will. Even though a haircut is only 10 cents in a small village in Pakistan none of us is going to be going there to get a haircut. This also explains why a big mac is a lot more in Oslo and Stockholm than in Moscow or Mexico City. Indeed, they could be giving big mac's away in Mexico City and it wouldn't affect the price of Big Mac's in New York city one bit.

So... the price of these types of goods and services in wealthy areas tends to climb, probably because they simply have more disposable income and hence it's not efficient to really be a thrifty shopper for smaller items like haircuts.

Anyway, like I said, for the purposes of comparing between countries, this is all taken into account via a "purchasing power parity" normalization, which normalizes according to a set "basket" of goods and services. Of course, I'm sure this normalization is at least 1/2 baloney.

Originally Posted by evariste.galois

if a country has to build prisons due to a high crime rate then GDP will increase. the same goes for investments to repair environmental damage or the need to produce a lot of medicaments because the populations becomes sick as a consequence of high pollution.

But remember, GDP isn't meant to be a measure of how much your country improves or grows; it's merely how active your economy is. If you are blowing billions and billions of dollars/year on things like building prisons or fixing environmental damage, that still means your country was able to produce those billions of dollars worth of labor/materials/whatever.

Yeah. It's "Gross" National Product. I wonder how one would go about measuring "Net" National Product? Would we measure it by growth in capital goods and resources?