Gross domestic product definitions

GDP Definition

Gross Domestic Product (GDP) is the market value of the final goods and services produced within a country in a given time period.

Market Value: When measuring gross domestic product, we value items at the price at which items are traded in the market.

Final Goods and Services: A final good is an item that is bought by its final user during a given time period. An intermediate good is an item that is produced by a firm, sold to another firm, and is used as a part for a final good.

Note: The reason we use final goods and services to calculate GDP is so that we avoid “double counting”.

Production Within a Country: Only goods and services that are produced in the country are counted as part of the country’s GDP.

Example: If a US firm produces laptops in Malaysia, then the market value of those laptops is part of Malaysia’s GDP, and not US’s GDP.

Circular Flow of Income & Expenditure




Firms buy the services of labor, capital, and land from households in the factor markets. Because of this, households get income. The diagram shows the total income (including retained earnings) received by households, labelled as $Y$.

Households then buys consumer goods and services from firms. The total payment of those goods and services is consumption expenditure, labelled as $C$.

Firms buy and sell capital equipment like vehicles, computers, office equipment, etc. In addition, unsold products for the firms can be stored into their inventory. These are investments, which are labelled as I.

Governments also buy goods and services from firms. The total payment of those goods and services is government expenditure, labelled as $G$.

Firms in the US buys goods and services from the rest of the world, which we call imports.

Firms in the US sells goods and services from the rest of the world, which we call exports.

The value of the net exports would be the value of exports subtracted by the value of imports, which we label as $X- M$.

Note that expenditure is equal to income. In other words,

$Y= C + I + G + X - M$

In fact, GDP = Income = Expenditure!

The “Gross” In Domestic Product

Depreciation: the decrease in the value of a firm’s capital over time.

Example: The price of a used new vehicle decreases over time. This can be due to damages, tears, or age of the machinery.

The word “gross” means before subtracting the depreciation of capital.

The word “net” means after subtracting the depreciation of capital.

Gross Investment: the amount of bought capital without taking depreciation into consideration.

Net Investment: The amount of increase in the value of capital.

Example: An office buys 20 computers, 5 of which are broken. In this case, the gross investment 20, the depreciation is 5, and the net investment is 15.