of 34 Copyright 2008 Pearson Education Canada 1 Chapter 20 The
Measurement of National Income
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of 34 Copyright 2008 Pearson Education Canada 2 In this chapter
you will learn 1. how the concept of value added solves the problem
of double counting when measuring national income. 3. the
difference between real and nominal GDP and the meaning of the GDP
deflator. 2. the income approach and the expenditure approach to
measuring national income.
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of 34 Copyright 2008 Pearson Education Canada 3 In this chapter
you will learn 4. about the many important omissions from official
measures of GDP. 5. why real per capita GDP is a good measure of
average material living standards but an incomplete measure of
overall well-being.
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of 34 Copyright 2008 Pearson Education Canada 4 Production
occurs in stages most firms produce outputs that are other firms
inputs - intermediate products - final products 20.1 NATIONAL
OUTPUT AND VALUE ADDED Each firms contribution to total output is
its value added = revenues - non-labour costs
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of 34 Copyright 2008 Pearson Education Canada 5 Total value
added in the economy is called Gross Domestic Product (GDP).
Summing value added avoids the problem of double counting when
measuring total output. APPLYING ECONOMIC CONCEPTS 20-1 Value Added
Through Stages of Production
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of 34 Copyright 2008 Pearson Education Canada 6 20.2 NATIONAL
INCOME ACCOUNTING: THE BASICS total value added from domestic
production total expenditures on domestic output total income
generated by domestic production Three methods for measuring
national income (output): Because of the circular flow of income,
these three measures yield the same total GDP.
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of 34 Copyright 2008 Pearson Education Canada 7 Domestic
Households Domestic Firms Factor income: wages, rents, profits
Revenue from sales of final G & S Start with a very simple
economy mfc2007mfc2007mfc2007mfc2007mfc2007mfc2007
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of 34 Copyright 2008 Pearson Education Canada 8 Domestic
Households Domestic Firms Factor income: wages, rents, profits
Revenue from sales of final G & S How does household income
actually get used up? Taxes Savings Imports Consumption
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of 34 Copyright 2008 Pearson Education Canada 9 Domestic
Households Domestic Firms Factor income: wages, rents, profits
Revenue from sales of final G & S Do any other agents buy final
G & S from Cdn firms? Governments Investment Foreigners
(Exports) Consumption
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of 34 Copyright 2008 Pearson Education Canada 10
Slide 11
of 34 Copyright 2008 Pearson Education Canada 11 GDP from the
Expenditure Side Actual consumption expenditure (C a ) includes
expenditure on all final goods during the year. Consider adding up
the expenditures needed to purchase the final output produced in
any given year. There are four broad expenditure categories: -
consumption - investment - government purchases - net exports
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of 34 Copyright 2008 Pearson Education Canada 12 Actual
investment expenditure (I a ) is expenditure on the production of
goods not for present consumption, including: Actual government
purchases (G a ) are the purchases of currently produced goods and
services by the government - excluding transfer payments.
inventories plant and equipment residential housing
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of 34 Copyright 2008 Pearson Education Canada 13 Actual net
exports (NX a ) is the difference between exports and imports: NX a
= (X a - IM a ) Exports are purchases of Canadian-produced goods
and services by foreigners. We subtract imports because they are
not produced in Canada. Since total domestic output must equal
total expenditure on domestic output, we have: GDP = C a + I a + G
a + NX a
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of 34 Copyright 2008 Pearson Education Canada 14 Ca + Ia + Ga +
(Xa - IMa) = GDP mfc2007mfc2007mfc2007mfc2007mfc2007mfc2007
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of 34 Copyright 2008 Pearson Education Canada 15 Does the
accounting identity GDP = Ca + Ia + Ga + (Xa - IMa) imply that
everything that firms produce each year is automatically sold to
customers? NO! INVENTORIES! INVENTORIES!
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of 34 Copyright 2008 Pearson Education Canada 16
Category$billion% of GDP Consumption Government purchases
Investment Net exports Statistical discrepancy Total GDP from the
Expenditure Side: 2005 $761.955.7 254.418.6 297.621.7 54.34.0
0.70.0 $1368.9100.0 Source: Statistics Canada website:
www.statcan.ca. Go to Canadian Statistics and click on Economic
Conditions and then National accounts.
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of 34 Copyright 2008 Pearson Education Canada 17
Slide 18
of 34 Copyright 2008 Pearson Education Canada 18 GDP from the
Income Side GDP is also the sum of factor incomes and other claims
on the value of output. Factor incomes include: - wages - rent,
interest, and profits Non-factor payments include: - indirect taxes
(net of subsidies) - depreciation of existing physical capital net
domestic income
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of 34 Copyright 2008 Pearson Education Canada 19 GDP from the
income side is therefore equal to: GDP = Net domestic income +
Indirect taxes (less subsidies) + Depreciation EXTENSIONS IN THEORY
20-1 Arbitrary Decisions in National Income Accounting
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of 34 Copyright 2008 Pearson Education Canada 20 GDP from the
Income Side: 2005 Billions of $ % of GDP 61.2 4.5% 1033.2 75.5%
Factor Incomes Wages, salaries and supplementary income Interest
and miscellaneous investment income Business profits (including net
income of farmers and unincorporated businesses) Net Domestic
Income at factor cost Non Factor Payments Depreciation Indirect
taxes less subsidies Statistical discrepancy Total 1368.9 100.0 %
678.949.6% 293.1 21.4% 181.413.3% 154.711.3% -0.4 -0.0% Source:
Statistics Canada website: www.statcan.ca. Go to Canadian
Statistics and click on Economic Conditions and then National
accounts.
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of 34 Copyright 2008 Pearson Education Canada 21 Ca + Ia + Ga +
(Xa - IMa) Wages + Rent + Interest + Profits + Indirect taxes +
Depreciation mfc2007mfc2007mfc2007mfc2007mfc2007mfc2007
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of 34 Copyright 2008 Pearson Education Canada 22 What goes into
the firms revenue must come out as wages, rent, interest, profits,
indirect taxes or depreciation. The total revenue of all Canadian
firms (the total expenditure on Canadian final goods and services)
must equal the total value of factor payments plus indirect taxes
and depreciation. Therefore as accounting identities it must be
true that: Ca + Ia + Ga + (Xa - IMa) = Wages + Rent + Interest +
Profits + Indirect taxes + Depreciation
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of 34 Copyright 2008 Pearson Education Canada 23 A measure of
national output closely related to GDP is Gross National Product
(GNP). The difference between GDP and GNP is the difference between
income produced and income received. GDP and GNP 20.3 NATIONAL
INCOME ACCOUNTING: SOME EXTRA ISSUES Income produced in Canada
versus income received by Canadians
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of 34 Copyright 2008 Pearson Education Canada 24 GDP is
superior as a measure of domestic economic activity. GNP is
superior as a measure of living standards of residents. A more
refined measure is disposable personal income: It equals GNP minus:
- any part not actually paid to households - personal income taxes
- plus transfer payments received by households
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of 34 Copyright 2008 Pearson Education Canada 25 Real and
Nominal GDP GDP that is valued at constant base-period prices is
real national income. GDP Deflator = Nominal GDP Real GDP x 100 The
GDP deflator is a very comprehensive index of prices because it
includes the prices of all goods and services produced in the
country.
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of 34 Copyright 2008 Pearson Education Canada 26 Do the CPI and
the GDP Deflator Move Together? Broadly, the two price indexes move
together, due to underlying inflationary forces. But because one
tracks consumer prices and the other tracks the prices of goods
produced in Canada, there will be some differences. APPLYING
ECONOMIC CONCEPTS 20-2 Calculating Nominal and Real GDP
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of 34 Copyright 2008 Pearson Education Canada 27
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of 34 Copyright 2008 Pearson Education Canada 28 Output and
Well Being The rise in real GDP over the past century has had two
main causes: 1. The increase in the amount of land, labour, and
capital used in production, and 2. An increase in the amount of
output produced per unit of input. Per capita output is the amount
of output per person it is computed by dividing GDP by total
population. It measures the average output (and income) per person
(but tells us nothing about how that income is distributed across
people). GDP per capita in 2005 was $42,548
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of 34 Copyright 2008 Pearson Education Canada 29 Changes in
overall living standards are better reflected by changes in
productivity than by changes in GDP per capita. A better way of
assessing average living standards is to consider measures of
productivity. For example, GDP divided by the number of employed
persons tells us the average output per employed person. This is
one measure of labour productivity. GDP and related measures of
national income must be interpreted with their limitations in mind.
What are these limitations? GDP divided by the total number of
hours worked measures output per hour of labour input, and provides
a second measure of labour productivity. GDP per worker in 2005 was
$79,868 GDP per hour worked in 2005 was $45.99
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of 34 Copyright 2008 Pearson Education Canada 30 Omissions from
GDP National income accountants cannot measure economic activity
that takes place outside of regular, legal markets: illegal
activities Leisure (consumption of non-work time) the underground
economy (tax & regulation avoidance) home production
(non-market activity) economic bads (pollution)
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of 34 Copyright 2008 Pearson Education Canada 31 Well-being is
a broader concept than material living standards: - GDP is not a
complete measure of economic well- being - but income is a very
important part of well-being and GDP is a good measure of income.
GDP and Living Standards Unless the unmeasured economic activity
changes rapidly, changes in GDP will do a reasonable job of
measuring changes in material living standards.
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of 34 Copyright 2008 Pearson Education Canada 32 How useful are
the various measures of GDP? They are very useful for tracking the
year-to-year changes in the level of economic activity (market
activity). They are useful in tracking changes in economic
activity, productivity, etc. over the longer term in a given
country. But remember, GDP measures only what goes through markets
what is bought and sold.
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of 34 Copyright 2008 Pearson Education Canada 33 How useful are
the various measures of GDP? Are they good measures of the level of
human wellbeing (happiness) in a society? Only in a limited sense
material, market activity, with no consideration of things like
pollution. Are they good measures of the change in the level of
material wellbeing over time? Maybe, but care must be taken in
making such an interpretation. (war, more labour force
participation, degree of marketization, etc.) Do they provide the
basis for comparing the level of material wellbeing across
different countries? Only if the counties are of very similar in a
deeper structural sense (Canada and the US or France maybe ok but
Canada and Nigeria or Bolivia probably not.
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