Chapter 6, Problem 1.1P

To determine

The difference between Income and expenditure approach of measuring GDP is to be explained, the concept of Value added is to explained and the final market price of the flour is to be determined with the help of the data given.

Concept Introduction:

Gross Domestic Product: It is the money value of final goods and services produced in a year.

Explanation of Solution

1. Income and Expenditure are the two different approaches of measuring GDP. Income approach is calculated by adding incomes earned by various factors of production. It includes wages, rent, interest; profits .Whereas expenditure approach is calculated by adding total amount spent on total consumption, government purchases, net exports and investments by firms, households and government.
2. Value added is net addition made by producer while producing .It is calculated by subtracting cost of intermediate goods involved in production at each stage of production from the selling price of the product. This concept is very important in income approach as it helps in calculating profit when the profits of all intermediate producers are calculated and added. It gets clearer in the following example.
3. Market price of flour is divided into four stages

Stage 1: Farmer sells to miller at $\$0.24$ . So His value addition is $\$0.24$ .

Stage 2: Miller sells to wholesaler for $\$0.40$ so miller's Value Addition is $\$0.40-\$0.24=\$0.16$

Stage 3: Wholesaler sells to grocer for $\$2$ so wholesaler’s VA is $\$2-\$0.40=\$1.60$

Stage 4: Grocer sells to consumer for $\$0.90$ so grocer's VA is $\$0.90-\$2=-\$1.10$

Final market prices of flour = addition of all Value addition of four stages

= $\$0.24+\$0.16+\$1.60+(-\$1.10)=\$0.90$