The Income Approach and the Expenditure Approach to Measuring the GDP of a Nation

GDP is generally understood to represent the health of a nation’s economy, and most people realize that if GDP is growing, things are going well, while if it’s falling things have turned sour in the economy. But what, precisely, does GDP measures? There are two primary methods for measuring GDP, which should yield the same result even though they measure completely different factors.
  • The income approach: measures the total incomes earned by households in a nation in a year.
  • The expenditure approach: measures the total amount spent on the goods produced by a country in a year.
By examining the circular flow model of a nation’s economy, we can demonstrate why every dollar earned by a household in a nation’s resource market will ultimately be spent in the product market, or leaked through taxes, savings, and import spending, leading to injections in the form of government spending, investment and export sales.
In the video lecture below, the two methods for measuring GDP are introduced, and the various components it includes are explained in detail. Watch the video and then download and attempt the activity: 

A supply and demand paradox – Why is the Chevy Volt twice the price of the Chevy Cruze?

One of the many things I appreciate about economics is that it helps us better understand things in the world around us that without economic tools would seem like mysteries. For example, a few weeks ago I went for a hike with a friend who works for General Motors here in Switzerland. One perk of his job is that he gets to drive different GM cars around before they go on sale in Europe. He showed up to the hike in a 2012 Chevy Cruze. I commented on what a nice looking car it was and asked him how much it would sell for. He told me it would start aroun 17,000 francs here in Switzerland, and then he told me about Chevy’s new plug-in hybrid, the Chevy Volt, which would start at around 32,000 francs.

 

 

 

 

I decided to ask my IB students today to try and explain the price differences between the Chevy Volt and the Cruze using supply and demand analysis. In the video below, I offer my own economic analysis of the two cars. Watch the video and respond to the discussion questions that follow.

 

Efficiency and equilibrium in competitive markets

This week we will be wrapping up unit 1.1 from the IB Economics syllabus here in Zurich. The final topic to cover from this section of the course is the relationship between equilibrium in a competitive market and allocative efficiency. The video below explains why the most efficient result a market can hope to achieve occurs when the price and quantity are determined by the intersection of supply and demand. Any price and quantity combination other than that found at equilibrium will reduce overall efficiency and lead to a loss of societal welfare.

 

Discussion Questions about Efficiency:

  1. “The invisible hand of the competitive market results in a more efficient allocation of resources than prices set by a government can ever hope to achieve.” Explain the economic reasoning behind this statement.
  2. Why does the marginal benefit to consumers of a good decrease the greater the quantity of the good becomes available on the market? Why does the marginal cost to producers increase?
  3. How do competitive market forces assure resources will be efficiently allocated towards the provision of various goods and services? In other words, if the quantity in a market is not at equilibrium, why is it likely to move towards equilibrium over time?

Deriving demand and supply equations from a set of data

Suppose all you knew were a couple of points from a demand or supply schedule, and you were asked to determine the equations that described the demand and supply of the product. For example, what if you knew that,

  • At a price of $5, 1,000 movie tickets would be demanded in a small town, but only 200 would be supplied, while,
  • At a price of $15, 300 movie tickets would be demanded and 1,200 would be supplied.
Could you use this information to derive the demand and supply equations for movie tickets? Could you then calculate the equilibrium price and quantity of movie tickets? Watch the video lecture that follows, and then apply what you learned to find the demand and supply equations for movie tickets using the data above. Also determine the equilibrium price and quantity of movie tickets.

Calculating the effects of protectionist subsidies – an IB HL exercise

Assume that the government of Bangladesh wishes to increase the production of leather by its domestic leather manufacturers, and simultaneously decrease the amount of leather products imported into the country. The government provides a subsidy of $2 per kilo of leather. The result is as follows:

  • Before the subsidy, the quantity of leather produced in Bangladesh was 10 million kilos, and 20 million kilos were imported at a price of $5 per kilo.
  • After the subsidy, the quantity of leather produced in Bangladesh is 15 million kilos, and only 15 million kilos are now imported. the price is still $5 per kilo.
  • Assume that at any price below $1, the domestic quantity supplied would be zero (in other words, the domestic supply curve begins at $1.
The video below explains how to illustrate the effects of a subsidy on the market for leather in Bangladesh. After watching the video, complete the questions that follow. (You will notice that the video does not answer the questions for you, because it does not calculate the various areas you are asked to calculate below).