GDP measures the nation’s total spending on newly-manufactured services and goods or all income received from the services and goods manufactured; therefore, GDP is market price of final services and goods manufactured in a nation in a particular time period (Mankiw, 2012). GDP(Y) is normally made up of four components that include Y =C+I+G+NX; Consumption (C), Investment (I), Government expenditure (G) and Net Exports (NX) and their connection can be articulated and discussed as follows (Mankiw, 2012).
Consumption is expenditure by a household on services and goods and is the final consumption by the household, for instance, Mary’s dinner at Hilton Hotel (Amadeo, 2011). The household normally spends on non-durable goods (petrol, clothing, soap, toothpaste and food), durable goods (appliances, land, cars, furniture and houses) and on services (medical, education). There are four major factors that influence consumption; these include anticipated income, rate of interest, disposable income and wealth (Amadeo, 2011).
Investment on the other hand entails using the remaining money after consumption to buy assets such as new buildings like commercial, residential and public as well as investing in financial securities.
For instance, if Tom constructs a residential building this year in Australia it means that the value of the building will be included in this year’s GDP, but purchase of an old house will not be accounted for because it was previously included in the GDP of the year of construction. Thus, only those buildings that add value to the building stock are relevant towards GDP valuation (Amadeo, 2011).
Government must spend in order to offer social services and goods this requires the government to trail the actual spending on these services and goods. The government spends money on research, salaries, space shuttles, toasters and stealth bombers and most of these things are rarely sold at the marketplace and consequently, they are valued at the price in which the government acquired them.
Government expenditure for purposes of GDP rule out some incredible types of real expenditure such as transfer payments that allocate income basically to potential consumers, as well as payments of interest on debt (Coursework.info, 2006).
Net export is the expenditure by foreigners on the locally manufactured goods (exports) minus domestic spending by the resident on services and goods manufactured overseas (imports) (Coursework.info, 2006). For instance, if a non-resident purchase a car manufactured in Germany the expenditure leads to increase in net exports hence the GDP of Germany.
However, if a German purchases a laptop from abroad this result to reduction in net export hence increase in consumption, since the laptop acquisition is part of a private or household consumption. Therefore, this transaction has no impact on the GDP; thus net export represents the smallest proportion of a GDP but alongside investment, variations in the net exports considerably add to the variations in the real GDP (Coursework.info, 2006).
Basically, GDP measures the well-being of a nation and thus it is normally used as an indicator for assessing the wellbeing of an economy and the residents; therefore, it is actually a monetary factor and not intrinsic factor like leisure (Zorach, 2010).
For instance, the GDP of China or India is higher than other emerging nations, but the healthcare in these two nations is poor and the average lifetime is considerably lower, thus this type of information is not accounted for in the GDP.
Therefore, it is important for a nation to have a superior GDP since it shows that individuals are enjoying more services and goods, but there are other measures of well-being. For instance, if there are no laws controlling pollution it implies that GDP would increase but pollution would worsen the lives of the people living in that country as is probably the case in China (Zorach, 2010).
In conclusion, GDP’s growth takes place when all the production factors are fully employed or when invested in capital goods; thus investment and productivity are the major instruments that can be used to increase the GDP per head.
Amadeo, K. (2011). What are components of a GDP? Web.
Coursework.info (2006). Economics. Web.
Mankiw, N. G. (2012). Principles of macroeconomics (6th). Ohio: South-Western, Cengage Learning.
Zorach, A. (2010). Why GDP (Gross Domestic Product) is a poor measure of wealth and prosperity. Web.