Answer Key

2. Assume an open economy with a public sector.
(a) Identify two methods of calculating l gross
domestic product for this economy.
Flow of Expenditures (Expenditure Approach)
GDP = C + I + G + (X - M)
Flow of Earnings (Income Approach)
GDP = NI + Rents + Bus. Taxes
- Depreciation
Value-added Approach
Summing value-added for each final good
produced = GDP

(b) Explain why the two methods you identified in
part (a) must yield the same value of gross domestic
product.
Expenditures = sum of factor payments + profits
(income)
or

Supply
Resources
$
$ $ $ $ $
$
Demand
Resources
Households
Land, Labor, Capital,
Entrepreneurship
p
$
$
$
Firms
$
$ $ $
$
Demand
G&S
$
G&S
$ $
$
$
Supply
G&S
FLOW OF
EARNINGS
FLOW OF
EXPENDITURES

(c ) Identify one shortcoming of using gross domestic
product as an indicator of fthe actual level l of national
output.
Underground or illegal economy.
Barter
Home production
Externalities

(d) If nominal gross domestic product increased by
4 percent in 1996, identify if two additional i pieces of
information you need before you can conclude that
the living i standard d of the typical person increased
by 4 percent during that year.
Inflation rate
Population growth