Explain the three components of GDP and No Double-Counting below using economic terminology, economic logic, and economic reasoning

1) Personal Consumption

The biggest category of GDP is personal consumption, which accounted for almost$14 trillionin 2018. This enormous sum includes all sorts of goods that households spend money on, such as food, telephone services, personal computers, automobiles, and gasoline.

SPOTLIGHT: CONSPICUOUS SPENDING

When the BEA totals up spending on personal consumption or residential investment, it makes no judgment about an item's usefulness or social value. For example, from 2013 to 2018 the residential investment component of GDP included construction costs for an enormous mansion being built in the ritzy Bel Air section of Los Angeles. The home will include more than 100,000 square feet, including a 30-car garage and four swimming pools. As of early 2019, the house is expected to be listed for sale for $500 million.

Residential investment: Bel Air mansion.

Bloomberg/Contributor/Getty Images

Meanwhile, the personal consumption component of GDP includes spending on flashy jewelry, plastic surgery, expensive parties, and all the champagne that professional athletes pour on each other when they win the championship. If you can spend it, the BEA can count it.

Source: "California Dreaming: Record $500 Million Tag on L.A. Home,"Bloomberg, May 26, 2015.

The category of personal consumption also includes the money consumers spent on pet food and on greeting cards. So when you buy holiday cards, you are contributing toward personal consumption and GDP. Religious intangiblescontributions to your local church, synagogue, or mosqueare counted as part of personal consumption. So are spending on education and contributions or bequests to universities. Gambling losses count as personal consumption, too, as does the latest mobile game app.

One oddity of GDP statistics is that medical spending counts as part of personal consumption even if a health insurer or the federal Medicare system pays the bill. The reason is that the individual is the ultimate consumer of medical spending. If Medicare pays for your grandfather's heart surgery, that counts as personal consumption for him even though the money never touched his hands.

ECONOMIC MILESTONE1950: Auto's Share of Spending Hits Peak

Following World War II, factories switched from making tanks and planes to producing carslots of them. In 1950, spending on motor vehicles and parts exceeded 7 percent of personal consumption, an all-time record, as Americans started new households, moved out to the suburbs, and adopted a car-oriented lifestyle. Today, we are still driving, but spending on motor vehicles and parts has gone down to less than 4 percent of personal consumption.Instead, Americans have boosted their spending on items such as medical care, while adding new products such as personal computers. The car is no longer king.

2) Nonresidential Investment

Another important GDP spending category is nonresidential investment. That's the total of outlays by businesses on the structures, equipment, and software they need to run their operations. Nonresidential investment includes computers on workers' desktops, office chairs, factory machinery, office buildings, power plants, wires to power plants, hospitals, medical equipment, and airplanesanything that is used in production and that lasts for more than one year.

The pattern of nonresidential investment has changed over time. In the 1950s and the 1960s, U.S. businesses put their money mostly into industrial and transportation equipment. Manufacturers were building and expanding factories, making everything from steel and cars to clothing and toys; as a result, they needed heavy machinery. At the same time, transportation companies were buying truck fleets to carry the raw materials to the factories and then shipping the finished goods customers across the country.

The pattern of nonresidential investment has changed over time, reflecting the shift to a more global and information-based economy. Now many factories that feed U.S. stores are in China. As a result, U.S. companies have much less need to invest in industrial equipment at home.

Instead, the biggest category of business investment spending today is software, which counts as investment even though it is usually not a physical product. The next biggest category is trucks, followed by communications equipment and computers. Altogether, information technology spendingcomputers, communications equipment, and softwareaccounted for roughly 28 percent of nonresidential investment spending in 2018, up from 9 percent in 1960 (Figure 7.1).

Figure 7.1 Information Technology's Share of Nonresidential Investment

What items are businesses spending money on? For many businesses, their biggest single investment is in the category of information technology equipment and software, which now accounts for 28 percent of nonresidential investment.

Source: Bureau of Economic Analysis, www.bea.gov (as of February 2019).

Keep in mind a couple of important points. First, business investment counts toward U.S. GDP only if it happens in this country. So when a U.S.-based company like Intel spends billions to build a factory in Ireland, that does not count toward U.S. GDP. In contrast, when a foreign-based company such as Toyota lays out billions to build factories in Kentucky and Indiana, thatdoescount toward nonresidential investment and GDP. Locationnot ownershipmatters for the calculation of GDP.

The other point is that most outlays by businesses are for intermediate inputs, so they don't count as part of nonresidential investment. When Walmart buys socks and sells them to consumers, the socks count as personal consumption. However, when Walmart builds a new supercenter or renovates an existing one, its construction expenses are part of nonresidential investment. Similarly, purchases of food by restaurants are not counted in GDP, but the meals bought by diners count as personal consumption.

3 )Residential Investment

Spending on the building of new homes and the renovation of existing ones is calledresidential investment. If you just rebuilt your kitchen for $50,000, that's part of residential investment. The construction of that eyesore of a home down the street also counts as residential investment. However, if you buy an existing home for $500,000, that doesnotcount as residential investment because no actual production or construction occurredthe house was already there. Remember, GDP calculates production of new goods and services.

Construction expenses for new Walmart Supercenters are included in GDP.

John Flournoy/McGraw-Hill Education

Residential investment is highly volatile, which means it can quickly swing from high to low and back again. Take a look atFigure 7.2, which measures residential investment as a share of GDP. That chart clearly shows the wide swings of homebuilding, including the housing boom years of the mid-2000s, which were followed by a deep bust and a slow recovery.

Figure 7.2 The Volatility of Residential Investment

Spending on construction of new homes and renovation of existing homes goes through big swings. This chart shows residential investment as a share of GDP.

Source: Bureau of Economic Analysis, www.bea.gov (as of February 2019).

4) No Double-Counting

We've listed the main components of GDP, but we seem to have left out some economic activity. For example, no category of GDP corresponds to, say, the spending by a business on janitorial services or electricity. In fact, all the intermediate inputs of businesses (described in Chapter 4) appear to be left out.

There's a reason for that. To eliminate double-counting, BEA statisticians count only the purchases of final goods and servicesthat is, goods and services that are bought by their ultimate users. Purchases of intermediate inputs are left out of GDP. Intermediate inputs include any goods and services bought by a business that are completely used up in production in less than a year.

Why do statisticians leave out intermediate inputs? Think about a restaurant that buys apples to make apple pie, which it then serves to customers. The apples are an intermediate input, and the apple pie is part of personal consumption expenditures. We don't want GDP to include both the apples and the apple pie because that would count the apples twice. Similarly, a printing company uses paper and ink to produce a book for sale to readerssay, a textbook. To avoid double-counting, only the purchase price of the book is counted as part of GDP.

However, a business can make some purchases that are included as part of GDP, like nonresidential investments in buildings, equipment, and software. What makes these different is that they are long-livedthat is, they don't get used up within a year. When the printing company buys a printing presswhich may have a useful lifetime of 10 yearsthat's counted as a nonresidential investment. Similarly, the purchase of a commercial oven by the restaurant to bake the apple pies is a nonresidential investment and is included in GDP.

HOW IT WORKS: A TRILLION HERE, A TRILLION THERE...

The total GDP of the United States in 2018 was roughly $20.5 trillion. None of us sees a trillion of anything in our daily lives, so it's hard to get our heads around a number that big. With that in mind, let's figure out how big it really is.

The thickness of a $1 bill is roughly .0043 inch. If we stacked up20.5trillion dollar bills, they would make a pile more than a million miles high. That's more than four times the distance to the moon.

By contrast, if you make $50,000 per year, those dollar bills piled up would be 18 feet highnot nearly as impressive.