[Economy] 3 Methods of calculating GDP

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what are these income,production and expenditure methods in calulating GDP?how do terms like NNP, NDP, GNP,GDP,NNPFC,NNPMP DIFFER FROM EACH OTHER. what is difference between gdp at constant prices and current prices. its very confusing

I’ll deal with each question in one post. First, lets refresh the concepts again.

GDP (Gross Domestic Product) means,

Money value of everything you produce within your country.
(Domestic=within country).
Everything means products and services.

GNP (Gross National Product) means,

The Money value of everything you produce within your country PLUS your income from abroad. Anil Kapoor goes to America, get 5 million dollar$ to play baddie in Mission Impossible 4, but sends that money to India = counted in India’s GNP.
But with same logic, Cricket Coach Gary Kirsten gets 50 lakh rupees from BCCI, and sends it to his family in S.Africa, you’ve to deduct it from India’s GNP. (South Africans will count it in their GNP)
Similarly, Americans will subtract the dollar value of Anil Kapoor’s remittance to India while counting their GNP.
So, what’ll be the (stupid) formula?
Gross National production=Money value of everything produced within India+Incoming money from outside-Outgoing money to abroad.
Or you can simply say
GNP = GDP + incoming money from abroad – Outgoing money to abroad.

How GDP calculated and what is are these income, production and expenditure methods.

 

GDP is calculated by three methods.

Theoretically all three of them should give same final number, but in reality there will be slight difference between each of them.

#A: EXPENDITURE METHOD OF COUNTING GDP

Here you count the money spent by everyone.

So How to make a ‘technical’ formula? Ask yourself, where is the money changing hands? There are five components of that.
Image Hosted by ImageShack.us

#1: CONSUMPTION BY PRIVATE CITIZENS [C]

like you and me buying (overpriced) daal, vegetables and milk (courtesy: Sharad Pawar).
I buy your second-hand bike for 15,000 Rupees, should we including it in the consumer Expenditure (C) ? Nope. Because the bike Is not ‘produced again.

[Image]
Second hand products are not counted

When you had bought that bike for Rs.30000, 10 years ago, we had counted that money in that year’s GDP. So second hand-product sale money cannot be counted in this year’s GDP.
Now, I buy your second-hand bike from an auto dealer, (who gets Rs.1000 Commission) should we include it in the (C)? Hell Yes, because he sold his ‘service’ to me uniquely. Every time he sells a second hand product, although no new ‘product’ is created but new service is delivered by him.
WHAT IF SAME 1000 RUPEE NOTE IS CHANGING HANDS?

[Image]
Each service or product has separate value even if same currency note is used to purchase it

I gave a note of Rs.1000 to that dealer as part of his brokerage (dalaali) and he gives the same Rs.1000 note to the electricity company for his monthly bill.
Same Rs.1000 note is changing hands so is our GDP =Rs.1000? Nope. GDP is the money value of everything produced within India. So brokerage service is Rs.1000 separately and the electricity produced is also worth Rs.1000 separately. Therefore, Even as same 1000 rupee note is given to both parties.
Total GDP=1000 brokeage+1000 electricity bill=Rs.2000
If electri.co gives that 1000 rupee note to its peon as salary, then again it has to be counted. Because peon sold his unique service separately to the company. So in that case
Total GDP =Brokerge+Electric bill+peon^’ salary=Rs.3000

#2: Investment [I]

People investing in sharemarket, putting money in banks etc.

#3: Government spending [G]

Like buying (overpriced) sports equipment from Kalmaadi’s associates during Common wealth games. Government  paying salary to staff, buying new tanks and missiles..everything.

#4, 5 :Export & Import [X & M]

Money we get from export is added.
You remember that GDP means Money value of everything we produce within India. So if we import something, it has to be subtracted, because it is not produced within India.
So formula (for ease In remembering)
GDP = Consumer+Investor+Governer + (eXporter – iMporter)
Technically correct formula:

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

 

#B: Income Method of counting gdp

Here you count everyone’s income. But some people may be running business in credit (udhaari), sometimes payments are delayed. So may not give the ‘full picture’ for the given year.

#C: Production method of counting gdp

Total money value of everything produced (value added at each stage)

  1.     Farmer produced Wheat and sold 100 kg of it @ 2000 Rs. (Original value)
  2.     Flour mill, purchased it, grinded it and sold the flour to baker @ 2500 Rs. (+500 value added to previous purchase)
  3.     Baker made breads, cookies and biscuits and sold the total production @3500 Rs to its final customers. (+1000 value added to previous purchase)

what is total ‘GDP’ here?
2000+2500+3500=8000 Rs? Hell no! You’ve to see the value added.
So, total money value of this line is: 2000+500+1000=3500.
Not all of the wheat goes into Baker’s oven. Some of it will go in making beer, some in a normal household for making roti and so on. You’ve to track the value added in each different line.

To be continued… GDP at nominal price, Market price, Factor Cost, etc.etc.etc.

[Economy] 3 Methods of calculating GDP




So far 98 Comments posted

  1. jogesh

    mrunal u r blog is uber useful n i really like the economy part ….. the way u explain things is remarkable . u make life easier when it comes to understanding economy…

  2. Praveen

    You said that
    GNP = GDP + incoming money from abroad – Outgoing money to abroad.
    But then again you said GDP(Expenditure)=C+I+G+(X-M)
    where x and M are incoming money from abroad and Outgoing money to abroad, which is contradicting the statement that GDP and GNP are different except for imports and exports.

    1. Alok

      Praveen,

      It gets simpler, if you see GDP and GNP in their own contexts.

      1- GDP is estimated value of the total worth of a country’s production and services, “on its land”, by “its nationals and foreigners”, calculated over the course of one year.

      However, GNP is estimated value of the total worth of production and services, “by citizens of a country”, on “its land or on foreign land”, calculated over the course on one year

      2- Simply saying ‘Anil Kapoor going abroad working for MI-4′ will not be counted in our GDP instead, it will be counted in GNP . However, ‘Gary Kirsten gets 50 lakh rupees from BCCI’ will be counted in our GDP and not in GNP.

      Now, a country’s GDP is a good parameter for analysing the country’s economy locally but for global analysis and standing of a country you would require GNP value instead.

      Hope, i helped.

  3. abhi

    sir will u analyze the upsc changed syllabus, especially on world history.& also will u provide some notes(in ur humorous ad lucid way),on Development processes and the development industry- the role of NGOs, SHGs, various groups and associations, donors, charities, institutional and other stakeholders.eagerly waiting

  4. Harsha

    For the forthcoming RBI GRADE B exam— For Economy and Current affairs How many months Backdated information should i be covering from a exam perspective for August 2013 Exam

  5. goutham

    sir doubt…!! which method is currently used by our country..?
    and which method is more easy to calculate..?

  6. sanjaya

    hey thanks a lot u have explain it in such a way by including instances a lay man will be get it clearly……be continue

  7. NILADRI GARAI

    The concept given in NIOS ECONOMICS START UP MATERIAL L-11.3 MEANING OF NATIONAL’ is contradicting with the concept given here although this concept matches with NEW NCERT CLASS XII MACROECONOMICS 2.3.chapter 2.3 named ‘some economic identities’ page 23).

    1. Alok

      Thats not gdp .. thats actually GDP growth rate calculated annually YoY(Year over Year) or quarterly QoQ(Quarter over Quarter)

  8. durgesh kumar singh

    mrunal sir a lots of thanks to teach in such a easiest way ,the fundamentals of gdp nd calculation of it.

  9. Sridhar

    Mrunal Great work, your content on GDP helped me lot to understand the concept. want you to continue the GDP chapter further for depth understanding.

    Thanks

  10. ADARSH SINGH

    GDP NDP GNP etc etc:-these all we calculating to see the economic condition of country in different way.
    New thing is to learn here is that the most of the countries are following same method to calculate GDP,NDP,GNP……do u want to know why ????? bcz most of the country has taken copyright for this calculation from UN(United nation) country.thats the reason allmmost all countries are following same method.

    Now a days this cocept (GDP,NDP,GNP) are adepting by company also…yes.they call this GVA,NVA & EVA.
    There are very interesting and value added thing for those who are doing Finance,Marketing ..

  11. tenc

    Thank you Murnal Sir.you explaining economy in simplest way,which look complex when i read books and Surf internet,because lot of things are dumped there.

  12. ashish

    sir! i want to clear my doubt ..you have quoted “15000″ wont be calculated in GDP because it is a second hand product…. but the seller who got that amount after selling ….can use this money in the development of other unique service or product.. by this “15000″ will be included in GDP..

    1. Dee

      Yes, even I am stucked here.If broker’s 1000 service charge is counted in GDP because it will eventualy be translated in to different service (ultimately summing upto 3000 in GDP), then why the second-hand bike sold at 15000 is not considered. The seller can use the 15000 in paying to same electricity company and thus the money changes hands..

      Please Sir, clarify .

      1. suneet

        Hi DEE
        did u find any answer on this . i am also stuck here.
        should there be some criteria like GDP=domestic(investment – disinvestment).

      2. manoj

        that 15000 is not calculated as he bought that bike in past at 30000. (No new Item or service produced.)
        that 1000 rs has been added in GDP as he receives that amount due to some services(New) provided.

  13. sonwane karuna

    This site is one of the best source for economics nd also all the subjects for us. thanks to publish it.

  14. shilpa

    Being an economics teacher, I still found the content much more informative and easier. Appreciate your effort, keep it up.

  15. harneet singh

    sir i m having a sense ov satisfaction after reading dis…… i m preparing fr civil service…………… its so lucidly explained…….how 2 contact you in case i have 2 ask smthng…..

  16. suneet

    Sir,
    suppose goods worth 10 millon are produced. but sold are 8 million worth . what will be GPD? 10 million or 8 million . please give the logic behind it as well.

    1. gerrard@ynwa

      it will be wort 10 million. as initailly its the 10 million worth of production added in the econoly . dont bother bout that diminished sale. answer would be 10m.

  17. vinamra

    sir , u have given an example in GDP counting production method, in that wheat is produced by farmer and going to different sectors like bakers , flours etc out of his total production he is giving to another sector then how can we count agriculture sector individually and how can we say agriculture sector diminishing though it is sharing with other like sugar cane , milk , wheat etc

    1. Madhukar

      Yes you are right but when produce wheat its value added in GDP. But when it goes to flour producer, he has to processed it so that additional cost cost is added. likewise if bakers make bread what cost he incurred in is added i final GDP not entire wheat, flour and bread price We say agriculture sector demising because year on year production of food garin is not increasing a s we targeting. it means if we produced 250 MT of food grains last year, in this year we managed to produce only 255 MT. there only 2% increase i food grain production.

  18. [email protected]

    Amazing Blog. You have made the understanding very easy.
    Em gonna share it on FB :)
    thank you for simplyifing GDP & GNP

  19. Pavan

    Dear Mrunal,
    This comment is regarding the example titled “WHAT IF SAME 1000 RUPEE NOTE IS CHANGING HANDS?”
    Here , although Rs 1000 is being paid to the peon by the electricity company , since it is included in the cost the company charges to the customers ( which here incidentally is Rs 1000 only!), shouldn’t it be dropped from final GDP calculation ?
    i.e shouldn’t the final GDP be Rs 1000 ( brokerage) + Rs 1000 (Final good + service – electricity production + supply) = Rs 2000 going by value addition method ?
    because, comparing and contrasting this with the Baker example reveals that we are not adding the wages the Baker must be paying to his assistants if any !

  20. caustic576

    Crucial difference to note here:

    In Expenditure approach, under “Investment” portion-

    “Investments in stock market” are not ALWAYS to be accounted for GDP calculation. Investment in the primary market (IPOs) is ONLY to be considered; investment in buying shares off of another holder in the secondary market is to be excluded (no net addition to the value in the economy).

    @Mrunal can correct me if I’m wrong.

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