Principles of National Accounting

1. Principles of National Accounting Presented by: Gurnain Kaur Pasricha Sept 8, 2006

2. Overview • National Income Accounting Relationships/Identities: • Three measures of GDP. • Domestic and National Product • Domestic/National Product and Disposable Income • Savings-Investment Gap and the Current Account • Current Account Balance and Net Lending/Borrowing • Measures of Government Deficit. • Real vs. Nominal Measures

3. Gross Domestic Product GDP • A commonly used measure of standard of living. (Other measures: GNI, GNDI all in ‘real terms’) • Market value of final goods and services produced in the territory of an economy, in a given time period.

4. ‘Final goods and services’ : Those that are available for final uses in the given time period. • Final uses: Consumption, capital formation and export • ‘Territory’: includes territorial waters, embassies and missions abroad.

5. Circular Flow of Income Factor Payments ( I ) Factor Services Producers Households G&S Goods & Services (O) Payments for Goods & Services (E)

6. I. Expenditure Approach GDP = Final Consumption Expenditure of households (Ch) + Final Consumption Expenditure of General Government (Cg) + Final Consumption Expenditure of NPISH (Cn) + Gross Capital Formation ( I ) + Exports – Imports (NX = X - M)

7. I.I Final Consumption Expenditure of Households • Includes consumption of all durable and non-durable goods except own construction or improvement of residential housing • Services of owner occupied dwellings counted through imputed rent • Estimated using retail trade and household surveys for non-census years.

8. I.II FCE of General Government • General Government: • Central government • State governments • Local governments • Social security funds • Non-Profit Institutions serving the government Excluded: Government agencies that can charge market prices or prices that cover over 50 % of their costs.

9. I.II FCE of General Government • Output of the General Government = Current Expenditures on goods and services to produce government services + Compensation of employees + Consumption of Fixed capital + Own major construction + Own major repairs = Own-account capital formation

10. I.II FCE of General Government

11. I.III FCE of Non-Profit Institutions Serving Households • Non-market output other than own account capital formation = Production Costs – Incidental Sales • Expenditure on market goods and services supplied without transformation and free of charge.

12. I.IV Gross Capital Formation = Gross Fixed Capital Formation Additions to produced capital goods and improvements to non-produced assets (e.g.. Land) + Change in Inventories + Acquisition less disposals of valuables

13. I.V Net Exports • Exports and Imports are transactions involving an exchange of goods and services between residents and non-residents of an economy. • Exclude transactions in non-movable non-produced assets (e.g. Land), buildings and in financial assets.

14. Residents vs. Non-Residents • A resident of an economy is an economic agent whose center of economic interest is in the economy in question. • Center of interest identified by • length of stay – usually a year or more. • Ownership of land or structures • Treatment of : • Students • International organizations • Military personnel and civil servants

15. I. Expenditure Approach GDP = Final Consumption Expenditure of households (Ch) + Final Consumption Expenditure of General Government (Cg) + Final Consumption Expenditure of NPISH (Cn) + Gross Capital Formation (GCF) + Exports – Imports (NX = X - M)

16. II. Output Approach • GDP = Output less Intermediate Consumption plus Net Indirect Taxes • Net Indirect Taxes = Taxes on goods and services less Subsidies = Gross Value Added

17. ‘Output’ Includes: Services of Owner occupied housing Services of paid domestic staff Agricultural production for sale or own consumption Illegal and hidden goods Own account development of software* Natural growth of cultivated forests ‘Output’ Excludes: Waste and losses in production Transfer payments (eg. Birthday presents, social security payments) Goods and services produced in the household for own consumption II.I Output Approach

18. III. Income Approach GDP = Primary incomes generated in the domestic economy = Compensation of Employees + Other taxes less subsidies on production + Consumption of fixed capital + Net Operating Surplus + Net Indirect Taxes Gross Value Added

19. GDP by Income Approach = GVA + NIT = Output – Intermediate Consumption + NIT = GDP by Output Approach

20. Total Supply = Output - Intermediate Consumption + NIT + Imports Total Uses = Final Consumption + Gross Capital Formation + Exports => GDP by Output Approach = GDP by Expenditure Approach

21. GDP to GNI GNI = Value of final goods and services produced by residents of the economy = GDP + Primary Income receivable by residents from abroad - Primary income payable to non- residents NFIA

22. Gross National Disposable Income (GNDI) = GNI + Current Transfers from ROW - Current Transfers to ROW Net Current Transfers

23. Data Source: WDI / GDF Central

24. Data Source: WDI / GDF Central

25. Data Source: WDI / GDF Central

26. The Current Account CAB = Trade Balance (NX) + NFIA + Net Current Transfers from ROW

27. Current Account Balance, US Source: BEA

28. Saving-Investment Gap and the Current Account GNDI ≡ Gross Savings + Final Consumption • C + I + NX + NFIA + Net Current Transfers ≡ S + C • I + CAB ≡ S • CAB ≡ S - I

29. Uses Gross Capital Formation Net acquisition of non-financial, non-produced assets from ROW Net Lending (+) or Net Borrowing (-) from ROW (∆NFA ) Resources Gross Saving Net Capital Transfers Capital Account

30. Change in Financial Assets Change in Financial Liabilities Net Lending (+) Or Net Borrowing (-) (∆NFA) Financial Account

31. Revenue Taxes Social Contributions Other Revenue (Includes Sales, Central Bank Profits) Grants Expenditure & Net Lending Current: Wages and Salaries Goods and Services Consumption of Fixed Capital Subsidies Social Benefits Interest Payments Other Expense Grants Capital Net Lending(+)/Borrowing(-) (Fiscal Balance) Government Finances

32. Government Finances Fiscal Deficit = Total government outlays ( G + iD ) - Revenue (T) = Primary Deficit (G - T) + Interest Payments ( iD ) = Net borrowing (∆D)

33. Government Finances For ratio of govt. debt to GDP to be constant, Primary Surplus = (i - g) D/GDP

34. Government Finances & Current Account CAB = S – I = Sp + Sg – Ip – Ig = Sp – Ip + Sg – Ig = Sp – Ip +Fiscal Balance If Sp = Ip, then CAB = Fiscal Balance

35. Real vs. Nominal • Nominal GDP: • Real GDP: • GDP Deflator:

36. Comparison across countries • Conversion using market exchange rates • PPP: An exchange rate between currencies that equalizes their purchasing power. • Eg: A Liter of Pepsi costs $2 in US and €2.5 in Germany, then the PPP exchange rate for Pepsi is €1.25/$. • PPP for product groups computed as geometric average of within-group price relatives • Aggregated using expenditure weights for product groups in GDP.

39. “The wisest mind has something yet to learn.” George Santayana (1863 - 1952)