| 1. |
National income accounting
consists of concepts which enable those who use them to measure the economy’s output
to compare it with past outputs
to explain its size and the reasons for changes in its
size
and to formulate policies designed to increase it.
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| 2. |
The market value of all final goods and
services produced in the economy during the year is measured by the gross domestic product
(GDP).
- GDP is measured in dollar terms rather than in
terms of physical units of output.
- To avoid multiple counting
GDP includes only
final goods and services (goods and services that will not be processed further during the
current year).
- Nonproduction transactions are not included in
GDP; purely financial transactions and second-hand sales are therefore excluded.
- Measurement of GDP can be accomplished by either
the expenditures or the income method
but the same result is obtained by the two methods.
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| 3. |
Computation of the GDP by the expenditures
approach requires the addition of the total amounts of the four types of spending for
final goods and services.
- Personal consumption expenditures (C) are the
expenditures of households for durable and nondurable goods and for services.
- Gross private domestic investment (Ig) is the sum
of the spending by business firms for machinery
equipment
and tools; spending by firms
and households for new buildings; and the changes in the inventories of business firms.
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- A change in inventories is included in investment
because it is the part of output of the economy which was not sold during the year.
- Investment does not include expenditures for
stocks or bonds or for second-hand capital goods.
- Gross investment exceeds net investment by the
value of the capital goods worn out during the year.
- An economy in which net investment is positive
(zero
negative) is an expanding (a static
a declining) economy.
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- Government purchases (G) are the expenditures
made by all governments in the economy for products produced by business firms and for
resource services from households.
- Net exports (Xn) in an economy equal the
expenditures made by foreigners for goods and services produced in the economy less the
expenditures made by the consumers
governments
and investors of the economy for goods
and services produced in foreign nations.
- In equation form
C 1 Ig 1 G 1 Xn 5 GDP.
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| 4. |
Computation of GDP by the income approach
requires adding the income derived from the production and sales of final goods and
services. The five income items are
- Compensation of employees (the sum of wages and
salaries and wage and salary supplements).
- Rents.
- Interest (only the interest payments made by
business firms are included
and the interest payments made by government are excluded).
- Proprietors’ income (the profits or net
income of unincorporated firms).
- Corporate profits which are subdivided into
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- Corporate income taxes
- Dividends
- Undistributed corporate profits
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- Three additions are made to the income side to
balance it with expenditures.
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- Indirect business taxes are added because they
are initially income that later gets paid to government.
- Depreciation
or the consumption of fixed
capital
is added because it is initially income to businesses that later gets deducted in
calculating profits.
- Net foreign factor income is added because it
reflects income from all domestic output regardless of the foreign or domestic ownership
of domestic resources.
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| 5. |
In addition to GDP
four other national income
measures are important in evaluating the performance of the economy. Each has a distinct
definition and can be computed by making additions to or deductions from another measure.
- NDP is the annual output of final goods and
services over and above the capital goods worn out during the year. It is equal to the GDP
minus depreciation (consumption of fixed capital).
- NI is the total income earned by U.S. owners of
land and capital and by the U.S. suppliers of labor and entrepreneurial ability during the
year. It equals NDP minus net foreign factor income earned in the United States and minus
indirect business taxes.
- PI is the total income received – whether it
is earned or unearned – by the households of the economy before the payment of
personal taxes. It is found by adding transfer payments to and subtracting social security
contributions
corporate income taxes
and undistributed corporate profits from the NI.
- DI is the total income available to households
after the payment of personal taxes. It is equal to PI less personal taxes and also equal
to personal consumption expenditures plus personal saving.
- The relations among the five income-output
measures are summarized in Table 7-4.
- Figure 7-3 is a more realistic and complex
circular flow diagram that shows the flows of expenditures and incomes among the
households
business firms
and governments in the economy.
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| 6. |
Because price levels change from year to year
it is necessary to adjust the nominal GDP (or money GDP) computed for any year to obtain
the real GDP before year-to-year comparison between the outputs of final goods and
services can be made.
- There are two methods for deriving real GDP from
nominal GDP. The first method involves computing a price index.
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- This index is a ratio of the price of a market
basket in a given year to the price of the same market basket in a base year
with the
ratio multiplied by 100.
- To obtain real GDP
divide nominal GDP by the
price index expressed in hundredths.
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- In the second method
nominal GDP is broken down
into prices and quantities for each year. Real GDP is found by using base-year prices and
multiplying them times each year’s physical quantities. The GDP price index for a
particular year is the ratio of nominal to real GDP for that year.
- In the real world
complex methods are used to
calculate the GDP price index. The price index is useful for calculating real GDP. The
price index number for a reference period is arbitrarily set at 100.
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- For years when the price index is below 100
dividing nominal GDP by the price index (in hundredths) inflates nominal GDP to obtain
real GDP.
- For years when the price index is greater than
100
dividing nominal GDP by the price index (in hundredths) deflates nominal GDP to
obtain real GDP.
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- The consumer price index (CPI) is a fixed-weight
price index that measures the ratio of the current price of a fixed
base-period market
basket to the base period price of the same market basket
multiplied by 100. It is
designed to measure the cost of a constant standard of living.
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| 7. |
The GDP is not
for the following reasons
a
measure of economic well-being.
- It excludes the value of final goods and services
not bought and sold in the markets of the economy.
- It excludes the amount of leisure the citizens of
the economy are able to have.
- It does not record the improvements in the
quality of products which occur over the years.
- It does not measure changes in the composition
and the distribution of the domestic output.
- It is not a measure of per capita output because
it does not take into account changes in the size of the economy’s population.
- It does not record the pollution costs to the
environment of producing final goods and services.
- It does not measure the market value of the final
goods and services produced in the underground sector of the economy.
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