National%20Income%20Accounting

1
National Income Accounting

• Chapter 8

2
Laugher Curve

• Three econometricians went out hunting, and came
  across a large deer.

3
Laugher Curve

• Three econometricians went out hunting, and came
  across a large deer.
• The first econometrician fired, but missed, by a
  yard to the left.

4
Laugher Curve

• The second econometrician fired, but also
  missed, by a yard to the right.

5
Laugher Curve

• The second econometrician fired, but also
  missed, by a yard to the right.
• The third econometrician didn't fire, but
  shouted in triumph, "We got it! We got it!"

6
Chapter Objectives

• State why national income accounting is important.

7
Chapter Objectives

• State why national income accounting is
  important.
• Define GDP, GNP, and NI.

8
Chapter Objectives

• State why national income accounting is
  important.
• Define GDP, GNP, and NI.
• Calculate GDP in a simple example, avoiding
  double counting.

9
Chapter Objectives

• Explain why GDP C 1 G (X - M).

10
Chapter Objectives

• Explain why GDP C 1 G (X - M).
• Distinguish between real and nominal values.

11
Chapter Objectives

• Explain why GDP C 1 G (X - M).
• Distinguish between real and nominal values.
• State some limitations of national income
  accounting.

12
National Income Accounting

• In the 1930s it was impossible to talk
  intelligently about macroeconomics since the
  discussion lacked rigorous terminology.

13
National Income Accounting

• In the mid-1930s, Keynesians Simon Kuznets and
  Richard Stone began to develop this terminology.

14
National Income Accounting

• They developed national income accountinga set
  of rules and definitions for measuring economic
  activity in the aggregate economythat is, in the
  economy as a whole.

15
National Income Accounting

• Measuring Total Economic Output of Goods and
  Services

16
National Income Accounting

• Measuring Total Economic Output of Goods and
  Services
• Gross Domestic Product (GDP) is the total value
  of all final goods and services produced in an
  economy in a one-year period.

17
National Income Accounting

• Measuring Total Economic Output of Goods and
  Services
• Gross Domestic Product (GDP) is the total value
  of all final goods and services produced in an
  economy in a one-year period.
• It is the single most-used economic measure.

18
National Income Accounting

• Measuring Total Economic Output of Goods and
  Services
• Gross National Product (GNP) is the aggregate
  final output of citizens and businesses of an
  economy in one year.

19
National Income Accounting

• Measuring Total Economic Output of Goods and
  Services
• GDP measures the economic activity that occurs
  within a country.

20
National Income Accounting

• Measuring Total Economic Output of Goods and
  Services
• GDP measures the economic activity that occurs
  within a country.
• GNP measures the economic activity of the
  citizens and businesses of a country.

21
National Income Accounting

• Moving from GDP to GNP

22
National Income Accounting

• Moving from GDP to GNP
• To move from GDP to GNP, net foreign factor
  income is added to GDP.

23
National Income Accounting

• Moving from GDP to GNP
• Net foreign factor income is the income from
  foreign domestic factor sources minus foreign
  factor incomes earned domestically.

24
National Income Accounting

• Moving from GDP to GNP
• One must add the foreign income of one's citizens
  and subtract the income of residents who are not
  citizens.

25
Calculating GDP

• All goods and services produced by an economy
  must be weighted, that is, each good and service
  must be multiplied by its price.

26
Calculating GDP

• Once quantities of a particular good or service
  are multiplied by its price, we arrive at a value
  measure of the good or service.

27
Calculating GDP

• Finally, all the value measures are added to
  arrive at GDP.

28
Calculating GDP

• GDP is a flow concept.

29
Calculating GDP

• The store of wealth is a stock concept.

30
Calculating GDP

• The stock equivalent to National Income Accounts
  is the Wealth Accountsa balance sheet of an
  economys stocks of assets and liabilities.

31
GDP Measures Final Output

• When one firm sells products to another firm for
  use in production of yet another good, the first
  firms products are not considered final output
  but intermediate products.

32
GDP Measures Final Output

• When one firm sells products to another firm for
  use in production of yet another good, the first
  firms products are not considered final output
  but intermediate products.
• Intermediate products are used as input in the
  production of some other product.

33
GDP Measures Final Output

• Not accounting for intermediate products would
  result in double and triple counting.

34
GDP Measures Final Output

• Not accounting for intermediate products would
  result in double and triple counting.
• If we did not eliminate intermediate goods, a
  change in organizationsay, a mergerwould look
  like a change in output

35
Two Ways of Eliminating Intermediate Goods

• The first is to calculate only final output.

36
Two Ways of Eliminating Intermediate Goods

• A second way is to follow the value added
  approach.
• Value added is the increase in value that a firm
  contributes to a product or service.

37
Two Ways of Eliminating Intermediate Goods

• A second way is to follow the value added
  approach.
• Value added is the increase in value that a firm
  contributes to a product or service.
• It is calculated by subtracting intermediate
  goods from the value of its sales.

38
Value Added Approach Eliminates Double Counting
39
Value Added Approach Eliminates Double Counting
40
Value Added Approach Eliminates Double Counting
41
Calculating GDP Some Examples

• Selling your car to a neighbor does not add to
  GDP.

42
Calculating GDP Some Examples

• Selling your car to a used car dealer who sells
  your car to someone else for a higher price, does
  add to GDP.

43
Calculating GDP Some Examples

• Selling your car to a used car dealer who sells
  your car to someone else for a higher price, does
  add to GDP.
• The value added is the dealer's services.

44
Calculating GDP Some Examples

• Selling a stock or bond does not add to GDP.

45
Calculating GDP Some Examples

• Selling a stock or bond does not add to GDP.
• The stock broker's commission for the sales does
  add to GDP.

46
Calculating GDP Some Examples

• Social security payments, welfare payments,
  veterans' benefits, and other government transfer
  payments are not included in GDP.

47
Calculating GDP Some Examples

• The work of unpaid housespouses does not appear
  in GDP calculations.

48
The Circular Flow

• The national income accounting identity is the
  accounting equality of output and income.

49
The Circular Flow
Household
Fir
ms
(production
50
The Circular Flow
Goods
Household
Fir
ms
(production
51
The Circular Flow
F
actor services
Goods
Household
Fir
ms
(production
52
The Circular Flow
r
e
n
t
s
,
i
n
t
e
r
e
s
t
e
s
,
,
p
r
g
o
f
i
a
t
s
(
W
1
)
F
actor services
Goods
Household
Fir
ms
(production
53
The Circular Flow
r
e
n
t
s
,
i
n
t
e
r
e
s
t
e
s
,
,
p
r
g
o
f
i
a
t
s
(
W
1
)
F
actor services
Goods
Household
Fir
ms
(production
P
e
r
s
4
)
o
n
a
l
c
o
n
s
u
m
p
t
i
o
n
(
54
The Circular Flow
r
e
n
t
s
,
i
n
t
e
r
e
s
t
e
s
,
,
p
r
g
o
f
i
a
t
s
(
W
1
)
F
actor services
Goods
Household
Fir
ms
(production
S
a
v
i
n
g
s
(
3
)
Financial mar
k
ets
P
e
r
s
4
)
o
n
a
l
c
o
n
s
u
m
p
t
i
o
n
(
55
The Circular Flow
r
e
n
t
s
,
i
n
t
e
r
e
s
t
e
s
,
,
p
r
g
o
f
i
a
t
s
(
W
1
)
F
actor services
Goods
Household
Fir
ms
(production
S
)
3
a
(
v
i
n
t
n
e
g
m
s
s
t
(
v
e
3
)
I
n
Financial mar
k
ets
P
e
r
s
4
)
o
n
a
l
c
o
n
s
u
m
p
t
i
o
n
(
56
The Circular Flow
r
e
n
t
s
,
i
n
t
e
r
e
s
t
e
s
,
,
p
r
g
o
f
i
a
t
s
(
W
1
)
F
actor services
Goods
Household
Fir
ms
(production
g
n
i
d
n
e
p
S
t
n
Go
v
er
nment
e
n
m
T
e
r
a
(
2
)
G
o
v
x
e
s
(
2
)
S
)
3
a
(
v
i
n
t
n
e
g
m
s
s
t
(
v
e
3
)
I
n
Financial mar
k
ets
P
e
r
s
4
)
o
n
a
l
c
o
n
s
u
m
p
t
i
o
n
(
57
The Circular Flow
r
e
n
t
s
,
i
n
t
e
r
e
s
t
e
s
,
,
p
r
g
o
f
i
a
t
s
(
W
1
)
F
actor services
Goods
Household
Fir
ms
(production
g
n
i
d
n
e
p
S
t
n
Go
v
er
nment
e
n
m
T
e
r
a
(
2
)
G
o
v
x
e
s
(
2
)
S
)
3
a
(
v
i
n
t
n
e
g
m
s
s
t
(
v
e
3
)
I
n
Financial mar
k
ets
I
P
e
r
s
4
)
m
o
n
a
l
c
o
n
s
u
m
p
t
i
o
n
(
p
o
r
t
s
(
5
)
)
(
5
t
s
r
o
p
E
x
Other countr
ies
58
Two Approaches to Calculating GDP

• The Income Approach

59
Two Approaches to Calculating GDP

• The Income Approach
• The income approach is shown on the top half of
  the circular flow.

60
Two Approaches to Calculating GDP

• The Income Approach
• National income is the total income earned by
  citizens and businesses in a country in one year.

61
Two Approaches to Calculating GDP

• The Income Approach
• Firms make payments to households for supplying
  their services as factors of production.

62
Two Approaches to Calculating GDP

• The Income Approach
• These factors are broken up into employee
  compensation, rent, interest, and profits.

63
Two Approaches to Calculating GDP

• The Income Approach
• These factors are broken up into employee
  compensation, rent, interest, and profits.
• Employee compensation is payments for labor such
  as salaries and wages.

64
Two Approaches to Calculating GDP

• The Income Approach
• These factors are broken up into employee
  compensation, rent, interest, and profits.
• Rents are payments for use of land and buildings.

65
Two Approaches to Calculating GDP

• The Income Approach
• These factors are broken up into employee
  compensation, rent, interest, and profits.
• Interest includes payments for loans by
  households to firms.

66
Two Approaches to Calculating GDP

• The Income Approach
• These factors are broken up into employee
  compensation, rent, interest, and profits.
• Profits are payments to the owners of firms.

67
Two Approaches to Calculating GDP

• The Expenditure Approach

68
Two Approaches to Calculating GDP

• The Expenditure Approach
• The expenditure approach is shown on the bottom
  half of the circular flow.

69
Two Approaches to Calculating GDP

• The Expenditure Approach
• Specifically, GDP is equal to the sum of the four
  categories of expenditures.

70
Two Approaches to Calculating GDP

• The Expenditure Approach
• Specifically, GDP is equal to the sum of the four
  categories of expenditures.
• GDP C I G (X - M)

71
Two Approaches to Calculating GDP

• The Expenditure Approach
• Consumption

72
Two Approaches to Calculating GDP

• The Expenditure Approach
• Consumption
• When individuals receive income, they can spend
  it on domestic goods, save it it, pay taxes, or
  buy foreign goods.

73
Two Approaches to Calculating GDP

• The Expenditure Approach
• Consumption
• This is the largest and most important of the
  flows.

74
Two Approaches to Calculating GDP

• The Expenditure Approach
• Investment

75
Two Approaches to Calculating GDP

• The Expenditure Approach
• Investment
• The portion of their income that individuals save
  leaves the income stream and goes into financial
  markets.

76
Two Approaches to Calculating GDP

• The Expenditure Approach
• Investment
• Business spending on equipment, structures, and
  inventories is counted as investment.

77
Two Approaches to Calculating GDP

• The Expenditure Approach
• Government consumption and investment

78
Two Approaches to Calculating GDP

• The Expenditure Approach
• Government consumption and investment
• When individuals pay taxes, those taxes are
  either spent by government on goods and services
  or are returned to individuals in the form of
  transfer payments.

79
Two Approaches to Calculating GDP

• The Expenditure Approach
• Government consumption and investment
• The connection drawn between the government and
  the financial markets is there because if the
  government runs a deficit, it must borrow from
  financial markets to make up the difference.

80
Two Approaches to Calculating GDP

• The Expenditure Approach
• Net exports

81
Two Approaches to Calculating GDP

• The Expenditure Approach
• Net exports
• Spending on foreign goods escapes the system and
  does not add to domestic production, thus
  spending on imports are subtracted from total
  expenditures.

82
Two Approaches to Calculating GDP

• The Expenditure Approach
• Net exports
• Exports to foreign nations are added to total
  expenditures.

83
Two Approaches to Calculating GDP

• The Expenditure Approach
• Net exports
• Exports to foreign nations are added to total
  expenditures.
• These flows are usually combined into net exports.

84
Two Approaches to Calculating GDP

• Equality of Income and Expenditure

85
Two Approaches to Calculating GDP

• Equality of Income and Expenditure
• Income and expenditures must be equal because of
  the rules of double-entry bookkeeping.

86
Two Approaches to Calculating GDP

• Equality of Income and Expenditure
• Income and expenditures must be equal because of
  the rules of double-entry bookkeeping.
• Profit is the balancing item.

87
Two Approaches to Calculating GDP

• Equality of Income and Expenditure
• The national income accounting identity allows
  GDP to be calculated either by adding up all
  values of final output or by adding up the values
  of all earnings or income.

88
Using GDP Figures

• Comparing GDP Among Countries

89
Using GDP Figures

• Comparing GDP Among Countries
• GDP is important since we can compare one country
  with another and one year's production with
  another year's.

90
Using GDP Figures

• Comparing GDP Among Countries
• Per capita GDP is another measure often used to
  compare nations' GDP.

91
Using GDP Figures

• Comparing GDP Among Countries
• Per capita GDP is another measure often used to
  compare nations' GDP.
• Per capita can be a poor measure of the various
  living standards in various nations.

92
Using GDP Figures

• Comparing GDP Among Countries
• Per capita GDP is another measure often used to
  compare nations' GDP.
• To get around the problems of per capita GDP,
  economists use purchasing power parity, which
  adjusts for different relative prices among
  nations before making comparisons.

93
Using GDP Figures

• Economic Welfare Over Time

94
Using GDP Figures

• Economic Welfare Over Time
• Comparing output over time is best done with real
  output which is nominal output adjusted for
  inflation.

95
Using GDP Figures

• Real and Nominal GDP

96
Using GDP Figures

• Real and Nominal GDP
• Nominal GDP is GDP calculated at existing prices.

97
Using GDP Figures

• Real and Nominal GDP
• Real GDP is nominal GDP adjusted for inflation.

98
Using GDP Figures

• Real and Nominal GDP
• Real GDP is nominal GDP adjusted for inflation.
• Real GDP is important to society because it
  measures what is really produced.

99
Using GDP Figures

• Real and Nominal GDP
• Real GDP is nominal GDP adjusted for inflation.
• By dividing nominal GDP by the GDP deflator, we
  arrive at real GDP.

100
Using GDP Figures

• Real and Nominal GDP
• Real GDP is nominal GDP adjusted for inflation.
• By dividing nominal GDP by the GDP deflator, we
  arrive at real GDP.

101
Some Limitations of National Income Accounting

• GDP measures market activity, not welfare.

102
Some Limitations of National Income Accounting

• GDP measures market activity, not welfare.
• GDP does not measure happiness, nor does it
  measure economic welfare.

103
Some Limitations of National Income Accounting

• GDP measures market activity, not welfare.
• Welfare is a complicated idea, very difficult to
  measure.

104
Some Limitations of National Income Accounting

• Measurement Errors

105
Some Limitations of National Income Accounting

• Measurement Errors
• GDP figures do not measure all market economic
  activity.

106
Some Limitations of National Income Accounting

• Measurement Errors
• GDP figures do not measure the following market
  activities

107
Some Limitations of National Income Accounting

• Measurement Errors
• GDP figures do not measure the following market
  activities
• Illegal drug sales.
• Under-the-counter sales of goods to avoid income
  and sales taxes.
• Work performed and paid for in cash.

108
Some Limitations of National Income Accounting

• Measurement Errors
• GDP figures do not measure the following market
  activities
• Unreported sales.
• Prostitution, loan sharking, extortion, and other
  illegal activities.

109
Some Limitations of National Income Accounting

• Measurement Errors
• Estimates of the size of the underground economy
  range from1.5 to 20 percent of GDP.

110
Some Limitations of National Income Accounting

• Measurement Errors
• A second type of measurement error occurs in
  adjusting GDP for inflation.

111
Some Limitations of National Income Accounting

• Measurement Errors
• A second type of measurement error occurs in
  adjusting GDP for inflation.
• If the price and the quality of a product go up
  together, has the price really gone up?

112
Some Limitations of National Income Accounting

• Measurement Errors
• A second type of measurement error occurs in
  adjusting GDP for inflation.
• Is it possible to measure the value of quality
  increases?

113
Some Limitations of National Income Accounting

• Misinterpretation of Subcategories

114
Some Limitations of National Income Accounting

• Misinterpretation of Subcategories
• For example, the line between investment and
  consumption is often fuzzy.

115
Some Limitations of National Income Accounting

• Misinterpretation of Subcategories
• For example, the line between investment and
  consumption is often fuzzy.
• Buying a steam iron would be consumption, and if
  it is used to iron team T-shirts sold by a home
  business, it would still be counted as
  consumption.

116
Some Limitations of National Income Accounting

• Misinterpretation of Subcategories
• For example, the line between investment and
  consumption is often fuzzy.
• Investment includes private housing units, but
  they do not usually add to our stock of
  productive tools.

117
Some Limitations of National Income Accounting

• Misinterpretation of Subcategories
• For example, the line between investment and
  consumption is often fuzzy.
• Investment includes private housing units, but
  they do not usually add to our stock of
  productive tools.
• The garages and spare bedrooms might if they are
  used in an income-producing capacity.

118
Some Limitations of National Income Accounting

• Misinterpretation of Subcategories
• Some social scientists have developed
  alternatives to GDP such as the Gross Process
  Indicator (GPI).

119
Some Limitations of National Income Accounting

• Misinterpretation of Subcategories
• Some social scientists have developed
  alternatives to GDP such as the Gross Process
  Indicator (GPI).
• The GPI tries to measure pollution, education,
  health concerns, as well as GDP.

120
GDP Is Worth Using Despite Its Limitations

• National income accounting should be used with
  sophistication.

121
GDP Is Worth Using Despite Its Limitations

• It is a powerful economic tool that informs
  average citizens about the direction the economy
  is moving.

122
National Income Accounting

• End of Chapter 8