Gross Domestic Product

DEFINE THE FOLLOWING TERMS

1. A) GROSS DOMESTIC PRODUCT

National income is the monetary value of all the goods and services produced in an economy within a given period of time, national income is measured in three approaches and they include

Income approach

It involves measuring factor incomes that are earned by all the factors of production.

Expenditure approach

Involves adding up all the expenditure on the final goods and services produced in an economy

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Product approach

It measures the current flow of goods and services in an economy through value added.

When the national income is obtained it aids us to get the value of gross domestic production where GDP (gross domestic production) will be obtained from the following:

National income = gross domestic production – indirect business tax – net foreign income-depreciation

These measurement is encountered with problems which include the statistical problems of accuracy and which products to include example capital gain, inheritance and illegal activities.

GDP which stands for gross domestic production, it is a measure of all the goods and services produced in an economy and the value is based on the current prices in the economy.

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1. B) REAL GDP

Real GDP is a measure of the value of all goods and services produced and the value is expressed in reference to a chosen base year.

C) UNEMPLOYMENT RATE

Unemployment rate is a measure of the unemployed in an economy, the rate is based on the level of the number of the unemployed and the entire level of labor force, these rates is calculated by getting the level of unemployed divided by the entire labor force and the result is multiplied by a hundred.

D) INFLATION RATE

The rate of inflation is the measure of price rise from a previous level, inflation is the persistent rise in the level of prices over a long period of time, it is calculated by getting the difference in prices between two periods and dividing by a base period the value is multiplied by a hundred. According to Keynes inflation can be caused by demand pull or cost push.

The Phillips curve depicts the relationship between employment and inflation, it states that when an economy nears full employment the greater is the rate of inflation and when the rate of employment is low the less is the inflation ally pressure.

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Below is the Phillips curve:

Causes of inflation:

Demand pull;

Exists when aggregate demand exceeds the aggregate supply and therefore triggering inflation due to an increase in the level of prices

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Cost push:

Inflation in this case is caused by an increase in the cost of

Production; the following diagram depicts the cost push inflation:

As the cost of production increases the unit cost of goods also increases, this leads to a lower consumer real income and as a result of this trade unions negotiate for higher wage rates, when higher wage rates are achieved the cost of production increases and the process starts all over again, all the above processes lead to inflation.

Inflation can be dealt with through fiscal policies such as taxation, spending and borrowing, in case of inflation the government may choose to

– increase the rate of taxation

– reduce spending

– reduce borrowing

Inflation can also be dealt with through monetary policies such as interest rates and money supply, in case of inflation the government may choose to

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– increase interest rates

– reduce money supply

E) INTEREST RATE

Interest rate is the cost of borrowed funds; the rate of interest affects the level of borrowed funds, the rate of interest rate is set by the government, the lower the interest rate the higher the rate of inflation, and the higher the interest rates the lower is the rate of inflation.

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RELATIONSHIP BETWEEN INTEREST RATE AND INFLATION RATE:

As the rate of interest rates goes down the amount of money in an economy rises, when people have more money they cause a rise in the prices of goods and services due to an increase in the demand, this is called demand push inflation, when the rate of interest rate rises the amount of money in an economy goes down, this results to low price levels which results to low inflation rates.

CIRCULAR FLOW DIAGRAM:

According to the diagram above the house hold provides services to the firm, the firm provides the house hold with goods, the household pays the government taxes which in turn through government expenditure provides public services and goods. The house hold consumes goods and in turn provides services to firms in an economy.

Conclusion:

All the above measures in the economy are very important in decision making, a government will always try to keep inflation rates low to avoid depressions like that of the 1930’s, the fiscal and monetary policies are used to ensure that the economy does not experience inflation and at the same time there is a significant growth in the level of gross domestic production.

REFERENCE

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http://economics.about.com/cs/macrohelp/a/nominal_vs_real.htm

Brian Snow (1997) Macroeconomics: introduction to macroeconomics, Rout ledge publishers, U K

Stratton (1999) Economics: A New Introduction, McGraw Hill Publishers, UK