This also applies to the EXPANDED circular flow model.
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Transcript This also applies to the EXPANDED circular flow model.
2 Methods and 4 Categories of GDP
Basic Principles of
Circular Flow
Circular flow model is MACRO picture of economy
National accounts indicate levels of economic
development (flow of money)
One principle that applies to BOTH – Flow of money
into each sector is equal to flow of money out of that
sector
This also applies to the EXPANDED circular flow model.
Elements of Expanded Model
Entity
New information reflected
Households
• Part of household income is returns on private
savings (stocks & bonds)
• Households receive govt transfers & pay taxes
Businesses
• Investment spending (capital goods &
inventories) and inputs make up costs
• Businesses pay taxes
Financial market
• Households, businesses, the govt, and foreign
entities buy/sell stocks & bonds
Government
• The govt collects taxes, provides transfers, and
purchases goods & services
Rest of the world
• Imports/exports, foreign lending & borrowing
reflect the flow of money into & out of the U.S.
Gross Domestic Product –
Final Goods & Services
Only includes final goods & services (direct to
consumer), not intermediate (producer-to-producer
sales)
This is to avoid counting values two or more times
Gross Domestic Product –
Two Methods
1. Value of production – To avoid duplication, each
step in production only counts for “value added” –
difference between sales & value of inputs
purchased
2. Value of spending – Again, only counts final
purchases (by consumers). Capital goods that last
for years count in GDP.
Gross Domestic Product –
Four Categories
GDP = C + I + G + X – IM
Imports are “leakage” as this is money that exits
circular flow
Gross Domestic Product:
What’s Included/Excluded?
Included
Investment spending
by businesses
Domestically produced
final goods & services
A note about inventory –
Once released for sale, it is
subtracted from GDP.
Excluded
Intermediate goods &
inputs that are used up
in production
Used goods
Stocks & bonds
Imports
Government transfers
Nonmarket
transactions