National Income Accounting

1. National Income Accounting • Measures the economy’s overall performance. • Assess the overall health of the economy • Growing? Declining? Constant? • The #’s determine policies • GDP (Aggregate output): the total market value of all final goods and services produced in a given year.

2. GDP • GDP compares this year with previous years output. • Intermediate goods/final goods • Value added: market value of a firms output less the value of the inputs the firm bought from others. • Non-production transactions: Financial/second hand sales

3. Non-Production Transactions • Public transfer payments: Social security payments, welfare payments. (not counted) • Private transfer payments—gifts • Stock market transactions—(not counted) • Second hand sales: used cars, etc. (not counted) • Two GDP approaches: • Expenditures approach • Income approach

4. GDP -- Ch.7 • Expenditures Approach: • Household expenditures + • Investment expenditures by businesses + • Government purchases + • Expenditures of foreigners = GDP

5. GDP • Income approach: • Wages + • Rents + • Interest + • Profits + • Statistical adjustments = GDP

6. Expenditures Approach • Personal consumption (C) • Durable goods and nondurable goods • Gross private domestic investment ( Ig) • Machines, equipment, construction, change in inventories • Inventories can increase or decrease • Investment is not: Paper transactions—stocks, bonds, existing houses, etc.

7. Gross investment/net investment Gross investment: ALL private investment goods which includes new “additional” buildings plus new buildings that replace old worn out buildings and machinery. (replacement capital + added or new capital). Net investment: Gross investment – depreciation ( Ig)

8. The Expenditures Approach, cont’d • Government Expenditures: (G) • Purchases of goods and services that the government consumes while providing public services. • Expenditures for “social capital”, schools, highways, (things that last) • Does not include transfer payments

9. The expenditures approach, cont’d • Net Exports– (Xn) • Net exports (Xn) = exports (X) – imports (M) • 2000: Net exports (Xn) = - 370 Billion $ • GDP = C + Ig + G + Xn

10. Nominal vs. Real GDP • Nominal GDP: Output in current prices • Real GDP: Output prices are adjusted for inflation. • Ex. 5% increase in output/no change prices OR • Prices increase by 5% but no change in output • Difference in Nominal GDP______? • NDP-Net Disposable Product=GDP minus consumption of fixed capital (depreciation)

11. Shortcomings of GDP • Non-market transactions (homemakers) • Leisure (Understates value of ) • Improved Product Quality (Quantity v.Quality) • The Underground Economy(Off the books) • Environmental Damage—GDP overstates • Clean up costs are added to GDP

12. The Income Approach • Dividends: corporate profits paid to stockholders. (used in the income approach) • Undistributed corporate profits: Retainedearnings. (used in the income approach). • National Income: all the income that flows to American supplied resources, whether here or abroad.

13. The Income approach • 1. Indirect business taxes: sales taxes, excise taxes, business property taxes, license fees, customs duties. • Why do we add? • The 5% sales tax added by government must be added back to the price (adjustment to price of the product that was sold).

14. The Income approach • 2. Consumption of fixed capital: The life of private capital equipment last much longer than one year so not to understate in year 1 and to avoid overstating profit in later years, the cost of the equipment must be allocated over its lifetime. (Depreciation)! • Consumption of fixed capital: $ set aside to replace equipment that is used up in producing this years GDP.

15. The Income approach • 3. Net Foreign Factor Income—Last step in balancing the national income account; • National income is the total income of Americans, whether it was earned in the United States or abroad. • GDP is a measure of domestic output—total output produced within the United States. • Net foreign factor income: foreign owned resources in the U.S. earnings less U.S. owned resources earnings abroad.

16. Price of 1993-1995 market basket in any given year = x 100 CPI Price of the same market basket in 1982-1984 NOMINAL GDP vs. REAL GDP • Consumer Price Index

17. NOMINAL GDP vs. REAL GDP • Nominal Values • Deflate GDP when prices rise • Inflate GDP when Prices fall • Nominal GDP • Calculating Real GDP

18. Economic Well Being • Per Capita Output: • 300 million people in our country • GDP approx. 1 trillion $ • 1 trillion/300 million = $33,000 each • If population grows faster than GDP % then our standard of living falls! NOT GOOD! • Ex. GDP grows 2.3% and Population grows 3.1%, results???

19. Per Capita GDP • U.S. Real GDP: $10 Trillion • China Real GDP: $10 Trillion • U.S. Population: 300 Million people • China Population: 1.5 Billion people • U.S. per capita GDP: $30,000 • China per capita GDP: $6,666 • Who is better off? Higher standard of living?

20. GLOBAL PERSPECTIVE The Underground Economy as a Percent of GDP 0 5 10 15 20 25 30 Greece Italy Spain Portugal Belgium Sweden Germany France Holland United Kingdom Japan United States Switzerland Source: The Journal of Economic Literature, 2000