GDP and Economic Growth

By the end of this lesson, you will be able to define and calculate GDP using the expenditure approach, explain the difference between real and nominal GDP, analyze the components of aggregate demand, and describe the determinants of long-run economic growth.

What Is GDP?

Gross Domestic Product (GDP): the total market value of all final goods and services produced within a country's borders in a given time period (usually one year or one quarter).

Final goods: sold to end users (not intermediate goods used in further production). Counted only once to avoid double-counting.

• Steel sold to a car manufacturer is an intermediate good (not counted separately)
• The car sold to a consumer is a final good (counted)

Within borders: GDP measures production within the country, regardless of who produces it. A Toyota factory in Kentucky counts in US GDP; a Ford factory in Mexico does not.

The Expenditure Approach

$$GDP = C + I + G + (X - M)$$

C — Consumption: household spending on goods and services. ~70% of US GDP. Durable goods (cars, appliances), nondurable goods (food, clothing), services (healthcare, education).

I — Investment: business spending on capital goods (machinery, factories, equipment) + residential construction + changes in business inventories. NOT financial investment (buying stocks).

G — Government Purchases: federal, state, and local government spending on goods and services. Does NOT include transfer payments (Social Security, welfare) — those are not payments for goods/services produced.

X — M (Net Exports): exports (goods produced here, bought abroad) minus imports (goods produced abroad, bought here). US has been running a trade deficit (M > X) for decades → negative component.

Real vs. Nominal GDP

Nominal GDP: measured in current prices. Rises when either output rises OR prices rise.

Real GDP: measured in constant base-year prices. Only rises when actual output rises. Adjusts for inflation.

GDP Deflator: $$\text{GDP Deflator} = \frac{\text{Nominal GDP}}{\text{Real GDP}} \times 100$$

Why real GDP matters: to measure actual economic growth, you need real GDP. If nominal GDP grew 10% but prices grew 10%, real output didn't change.

GDP Per Capita

$$\text{GDP per capita} = \frac{\text{Real GDP}}{\text{Population}}$$

Better measure of living standards than total GDP; allows comparison across countries of different sizes.