A steel company sells $500 of steel to a car manufacturer, who builds a car sold to a consumer for $20,000. How much should be counted in GDP?
A$20,500 — both transactions reflect economic activity
B$500 — only intermediate goods are counted
C$20,000 — only the final good is counted
D$19,500 — the car's value minus the cost of inputs
GDP counts only final goods and services to avoid double-counting. The steel's value ($500) is already embedded in the car's price ($20,000). Counting both transactions would count the steel twice. The value-added approach makes this explicit: the steel company adds $500 and the automaker adds $19,500, summing to the same $20,000.
Question 2 True / False
GDP and GNP measure the same thing: the total value of goods and services produced by a country's citizens.
TTrue
FFalse
Answer: False
GDP measures production *within a country's geographic borders* regardless of who produces it. GNP (Gross National Product) measures production by a country's *residents*, regardless of where it occurs. A Japanese factory operating in the US contributes to US GDP but Japanese GNP. For most large countries the difference is small, but for countries with many citizens working abroad (e.g., the Philippines) or large foreign-owned industries, the gap is significant.
Question 3 Short Answer
Why do the expenditure approach (C + I + G + NX) and the income approach give the same value for GDP?
Think about your answer, then reveal below.
Model answer: Every dollar spent on a good or service becomes someone's income — wages, profits, rents, or interest. The expenditure approach sums how money flows out to buy goods; the income approach sums how that same money flows back as factor payments. Because every purchase has a seller, the two totals must be equal — this is the circular flow identity.
This equivalence is not a coincidence or an empirical regularity; it is an accounting identity. Production creates income for the factors that produced it, and that income is then spent. The three approaches (expenditure, income, value-added) are three lenses on the same circular flow of economic activity, so they must agree by construction.