1 Would it be possible for an increase in taxation to decrea

1. Would it be possible for an increase in taxation to decrease the gross domestic product measured in the U.S.? Why or why not?

2. Adam\'s Ribs in downtown Chicago buys $10,000worth of beef ribs, $25,000 worth of pork ribs, and $8,000 worth of napkins each month. Are these purchases included in the calculation of gross domestic product?

3. There are two ways to measure gross domestic product. What are they and how are they different?

4. Provide the formula for the expenditure approach to GDP accounting and include an example of each category of spending.

5. Suppose a consumer buys 10 units of good X and 20 units of good Y every year. The following table lists the prices of goods X and Y in the years 2005-2007. Assume that these two goods constitute the typical market basket. Calculate the price indices for these years with 2005 as the base year. Comment on the inflation picture for these years.

Solution

(1) Yes, it\'s possible and highly likely.

Consumption demand comprises about 65% of GDP of US. Consumption demand is the function of disposable income (gross income less tax). The higher the disposable income, the higher the consumption demand and the higher the GDP. Since increased tax rate lowers disposable income, consumption demand falls and GDP decreases.

(2) Yes, all these are inputs to his production process for which he pays the suppliers. So these purchases are includd in GDP.

(3) The main two ways are:

a. Income method

In this approach, all the incomes and earnings from usage of factors of production, profits and income are totaled to obtain the GDP.

b. Expenditure method

In this approach, GDP is computed as sum of consumption demand, investment demand, government spending and net exports.

These are different only in the method of computation: Income approach sums of all the incomes earned by all economic entities of a country, and expenditure method sums all the components of expenditure (aggregate demand) incurred in the country. But GDP computed using any of the two methods will be same in value.

NOTE: First 3 questions are answered.