Calculating GDP With the Expenditure Approach

The Gross Domestic Product (GDP) provides an economic snapshot of a country to estimate the size of an economy and its growth rate. Calculating GDP using the expenditure approach accounts for the sum of all final goods and services purchased in an economy over a set period. This includes consumer spending, government spending, business investment spending, and net exports. Quantitatively, the resulting GDP is the same as aggregate demand because the calculation is the same.

Expenditure GDP and Aggregate Demand

Expenditure means spending and demand. The total demand within an economy is known as aggregate demand. The Expenditure GDP formula is the same formula for calculating aggregate demand. Aggregate demand and expenditure GDP will fall or rise together.

However, short-run aggregate demand only measures total output for a single nominal price level or the average of current prices across the entire spectrum of goods and services produced in the economy. Aggregate demand only equals GDP in the long run after adjusting for price level.

$\begin{aligned} &GDP = C + I + G + (X - M)\\ &\textbf{where:}\\ &C = \text{Consumer spending on goods and services}\\ &I = \text{Investor spending on business capital goods}\\ &G = \text{Government spending on public goods and services}\\ &X = \text{exports}\\ &M = \text{imports}\\ \end{aligned}$​GDP=C+I+G+(X−M)where:C=Consumer spending on goods and servicesI=Investor spending on business capital goodsG=Government spending on public goods and servicesX=exportsM=imports​

Measuring GDP

Standard Keynesian macroeconomics theory offers two methods to measure GDP: the income approach and the expenditure approach. The expenditure approach is more common. Keynesian theory places extreme macroeconomic importance on the willingness of businesses, individuals, and governments to spend money.

The difference between the expenditure approach and the income approach is their starting point. The expenditure approach begins with the money spent on goods and services. Conversely, the income approach starts with the income earned from the production of goods and services, such as wages, rents, interest, and profits.

GNP vs. GDP

In 1991, the United States officially switched from gross national product (GNP) to GDP. GNP and GDP track the value of goods and services produced in an economy but with differing criteria for determining this value.

GNP tracks the total value of goods and services produced by all citizens of the U.S., regardless of physical location. It counts people who are living abroad and overseas investments. GDP tracks the value of all goods and services produced within the physical borders of the United States, regardless of national origin.

The value of goods produced in the U.S. by foreign businesses is included in the GDP but not in the GNP. If a resident of the U.S. invests in property overseas and earns money from it, then that value is included in GNP but not in the GDP.

The Bottom Line

The GDP estimates the size of an economy and a country's growth rate. Calculating GDP using the expenditure approach includes consumer spending, government spending, business investment spending, and net exports. Over time, an increasing GDP usually means that a country is experiencing greater economic opportunities and an improved standard of living.