National Income Accounting (NIA)

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National Income Accounting (NIA)

• Outline
• Functions of NIA
• Gross Domestic Product (GDP)
• The Value Added approach to GDP
• The Expenditure Approach to GDP
• The Factor Payments Approach to GDP
• Real versus Nominal GDP
• Problems with GDP

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National income accounting (NIA) is the
measurement of aggregate or total economic
activity.
NIA is useful for assessing the performance of
the macroeconomy. NIA is also helpful in
evaluating the effectiveness of policy
initiatives such as the Reagan tax cuts.
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Stocks vs. Flows
We measure stockvariables at a specific point
intime whereasflows are measuredper unit of
time.
Flows include

• Income
• Sales revenue
• Output

Stocks include
We measure economicactivity as aflow.

• Checking account balance
• Balance owed on student loans
• Inventories

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Gross Domestic Product (GDP)
GDP is the market value of new goods and
services produced in the economy in one year
within the nations borders.
GDP is our basicmeasure of economicactivity
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Three approaches to measuring GDP

• The value-added approach
• The expenditure approach
• The factor payments approach

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Value-added is the increase in the market value
of a good that takes place at each stage of the
production -distribution process.
Value-Added
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Example

• Stage 1 Farmer grows wheat, sells it to the
  Miller for 55 cents.
• Stage 2 Miller mills the wheat, sells it to the
  Baker for 85 cents--hence value-added at the
  milling stage is 30 cents.
• Stage 3 Baker bakes the bread--sells it to the
  supermarket for 1.45--hence value-added at the
  baking stage is 60 cents.
• Stage 4 Supermarket sells the bread to the
  consumer for 1.65--hence value added at the
  retailing stage is 20 cents.

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Stages of Production
5.00NotebookPaper
3.50NotebookPaper
2.25NotebookPaper
1.50Raw Paper
1.00Wood Chips
Office SuppliesManufacturer
Lumber Mill
Paper Mill
Wholesaler
Retailer
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Summing the value-added at each stage
Stage Value Added
Lumber milling 1.00
Paper processing .50
Office Supply Manufacturing .75
Wholesaling 1.25
Retailing 1.50
Total 5.00
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Don't double count!
?To count the notebook in GDP, we count the final
transaction only. Otherwise, we would be counting
value added twice.
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Here we simplyadd up allexpenditures fornew
goods and services in oneyear
The expenditure approach
GDP C I G NX
Where, C is personal consumption expenditureI
is gross private domestic investmentG is
government expenditure (local, state, and
federal) andNX is net exports, or Exports minus
Imports
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Consumption

• Household spending for newly-produced goods and
  services is defined as consumption. We
  distinguish between 3 categories or types
• Spending for consumer durables
• Spending for consumer nondurables
• Spending for consumer services.

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Consumer Spending by Type, 1999 (in billions)
Total spending byU.S. householdsin 1999 was
astaggering 6.3trillion
Source Economic Report of the President
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www.bls.gov
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What is investment?

• All spending by business firms for newly built
  equipment and business structures.
• All changes in business inventories of raw
  materials, semifinished articles, and finished
  goods.
• All spending by households for newly constructed
  residential housing

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Investment does NOT include

• The purchase of stocks, bonds, or other financial
  assets.
• Secondhand sales

Remember that investment only happens when there
is production of new tangible capital goods
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Definitions

• Capital consumption allowance (CCA)A monetary
  measure of the depreciation of the capital stock
  in a year due to normal wear and tear, fires, or
  other accidents.
• Net Investment Gross Investment minus CCA.
• Indirect business taxes taxes collected by
  businesses for government units, such as taxes on
  entertainment, motels, groceries, liquor,
  cigarettes, or gasoline taxes. Also called excise
  taxes.
• Net income earned abroad Income earned by
  domestic residents in foreign factor markets
  minus income earned by foreigners in domestic
  factor markets.

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The Factor Payments Approach
This mainly involves summing up incomeearned in
factor markets
GDP Employee compensation interest
rent profits - net income earned abroad CCA
indirect business taxes
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Two Approaches to U.S. GDP, 1999
1Includes the capital consumption allowance and
statistical discrepancy
Source Bureau of Economic Analysis (www.bea.gov
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Relation of GDP to GNP, NNP, National Income, and
Personal Income, 1999
All data in billions of current dollars
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From National Income to Personal Income
All data in billions of dollars
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Personal disposable income (PDI)
Personal income 7,792Less
Personal tax payments
1,152Equals PDI
6,640
PDI is the obviously one measureof ready
spending powerof the household sector
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Real versus Nominal GDP

• We use money to measure the market value of new
  goods and services produced produced in the
  economy.
• The value (or purchasing power) of money is
  subject to change over time.
• Hence we need to adjust nominal GDP (that is, GDP
  measured at current prices) for changes in the
  value of money.
• GDP adjusted for changes in the value of money is
  called real GDP.

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Price ? Quantity Market Value of
Output
.50
100 oranges
Year 1(base year)
16,350
1.00
300 coconuts
8.00
2,000 pizzas
Nominal GDP Real GDP
.50
110 oranges
Year 2(quantities increase 10)
17,985
1.00
330 coconuts
8.00
2,200 pizzas
Nominal GDP increases, Real GDP increases
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Price ? Quantity Market Value of
Output
.55
100 oranges
Year 3(prices increase by 10)
17,985
1.10
300 coconuts
8.80
2,000 pizzas
Nominal GDP increases, Real GDP remains constant
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Example
Nominal GDP in 1990 is computed by
Goods ServicesProduced in 1990 (in units)
Market Prices in 1990
5,748.3 billion
Nominal GDP in 1991 is computed by
Goods ServicesProduced in 1991 (in units)
Market Prices in 1991
5,916.7 billion
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The problem is this How do we know if the change
in GDP (from 90 to 91) is due to a change in
actual production of goods and services? That is,
the increase in nominal GDP might be explained by
an increase in prices.
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GDP in the United States (in millions)
www.bea.gov
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GDP per Person in the United States
www.economagic.com
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GDP in the U.S. (millions of chained 1996 dollars)
Recessions are shaded
www.bea.gov
Notice that real GDP decreased in 1991
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Problems with GDP

• GDP does not take full account of qualitative
  changes in output.
• GDP does not take account of the underground
  economy.
• GDP does not account for nonmarket
  productionthat is, goods produced but not sold
  in the marketplace.