Product or Value Added Method Video Lecture | Business Economics for CA Foundation

Looking at the Circular Flow of Income
We see that stuff just gets transformed in different stages
Firms use factors of production from households
Perform some magic
And Tada!
You get goods and services
These are sold back to households
Households pay for these stuff too
Which reflects the value of these goods
So this arrow, the National Expenditure
And this arrow, the National Output
Should be roughly equivalent
Because when firms sell goods to households
It's just goods transformed into money
Hey, where does all this money on spending come from?
It comes from income made by the households
So this arrow, the national income
also equals to national expenditure
We see that
National Income = National Expenditure = National Output
They are just in different stages of the Circular Flow of Income
So how do we measure GDP?
We can measure the total output, the total final goods and services.
Why only final goods and services?
Take the production of sandwiches for example
First, we need labor
to harvest wheat
then wheat goes into the production of flour
Flour goes into the production of bread
And bread goes into the production of sandwiches
We then sell the sandwich at $5
Tada! GDP equals to $5
This $5 already includes the value of labor, wheat, flour and bread
that went into the production of sandwich
We don't have to add these things again
See, if you add the value of these things
On top of the sandwich
It's $15, way higher than $5
Because you've double-counted, and it's wrong
Alternatively, we can use the value-added approach
We measure the additional value
that is created in every stage of production
We start from zero
Labor doesn't require any other input
So labor itself is pure value
Using this labor
we grow wheat
Wheat is sold at $2
What is the additional value created?
Remember we got to minus the cost of production
which is labor
$2 - $1 = $1
$1 of additional value created
Using wheat
we make flour
Flour is sold at $3
What is the additional value created?
We got to minus the cost of production
which is wheat
$3 - $2 = $1
$1 of additional value created
Do the same for the rest
Bread adds value to flour
And sandwich adds value to bread
Add up all the additional value
created by each stage of production
We get $5 as well
Wow
You see
Output approach and value-added approach are quite similar
In value-added approach
you add up all the additional value
Which is just the value of the final output
Hey, that's not the only way to measure GDP…
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measuring GDP: Expenditure and Income Approach