GDP is a Measure of Income
Measure of Income
- factor income approach - add up the income generated by producing goods and services
- Y = wages + rent + interest + profit
- your purchase of goods and services is some (or many) firm’s revenue
- every firm has to:
- pay their workers (wages)
- pay for the land or buildings (rent)
1. even if they own it, always remember about the opportunity cost
- pay for the money they borrowed (interest)
- the rest is their profit (you can think about it as payment to entrepreneurial ability as a factor of production)
- can also measure income by…
- the operation approach
- activities approach
- balance sheet approach
- value added approach
Factor Income Approach
- wages and compensation → labor income
- something, typically money, awarded to someone as a recompense for loss, injury, or suffering
- rent, interest, and profits → capital income
- advantages: it is more flexible in addressing firms or assets that are in different stages of their life-cycle
- weakness: the degree of estimation involved in the calculations
- the forecasting of future benfit streams and determination of a capitalization or dicsount rate often involve a high degree of professional judgement, which can subject the valuation to debate from other parties
- based on the principle that the value of an investment property reflects the wuality and quantity of the income it is expected to generate over its life
- all expenditures in an economy should equal the total income generated by the production of all economic goods and services
- it includes sales tax
- the two types are the Capitalization of Cash Flow Method and the Discounted Cash Flow Method
GDP
- measures the market value of finished goods and services, but we don’t know the market value of many goods and services
- GDP as a measure of welfare misses some important aspects of things that matter for our standard of living
- these problems can make cross country comparisons and comparisons over a span of time difficult