National Income Gross Domestic Product

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					   National Income
National Income Accounting

National income accounting provides us
with ex-post data about national income,
it cannot explain the level and
determinants of national income. The
following identities are true for any level
of income. In order to explain and
predict the level of national income,
models are constructed.

         Factor Market             Product Market

        Factor services            Goods & services
                           Real Flow

Factor Owners              Firm              Consumers

                          Money Flow
    Factor Income        Cost     Revenue   Expenditure

 The flow of economic activities in a 2-sector economy

           GNP v.s. GDP
Gross National Product (GNP)
The total value at market prices of final goods
and services produced by the citizens in an
economy in a specified period.
Gross Domestic Product (GDP)
The total value at market prices of final goods
and services produced within the domestic
boundary of a territory in a specified

             GNP & GDP
Flow concept
Resale of existing houses   
Sale of used cars / existing shares   
Commission / Brokers’ fee   
Imputed rents of owner-occupied dwellings 
Capital gain is not income (Irving Fisher)
Only the interest earned from the capital gain
is considered as income
  Real GNP & Nominal GNP
      & Per capita GNP

Real GNP=(Nominal GNP/GNP Deflator)*100

Per capita GNP = GNP / Population size

 Measurement of National
Income Approach
 NNP at factor cost OR National Income
Output Approach
 GDP at factor cost
Expenditure Approach
 GDP at market Prices

   Expenditure Approach
   C+I+G+X-M                    GDP at market price
                                 Indirect sales tax
                                 Indirect subsidies
                                 GDP at factor cost        Output Approach
Factor Income- Factor Income
from abroad paid abroad         Net income from abroad
                                 GNP at factor cost
                                                         Income Approach
                                 NNP at factor cost        W+I+R+P

NNP at factor cost
Retained profits
Social insurance / Mandatory Provident Fund
Direct business Tax
Transfer payments
Personal income
Direct personal taxes
Disposable personal income - Consumption = Saving
        Income Approach
W+I+R+P = NNP at factor cost
Profits are stated net of depreciation /
capital consumption allowances
If the figures exclude net income from
abroad, NDP at factor cost can be
NDP at factor cost + Net income from abroad =

            Output Approach
The total value of the final goods and services
produced by the primary / secondary / tertiary
In order to avoid double counting, the value-added
method is adopted to exclude intermediate goods.
GDP at factor cost + Indirect Taxes – Indirect Subsidies =
Distinguish between Indirect / Direct / Business /
Personal Taxes

    Expenditure Approach
People spend their income. Thus, the total
expenditure on final goods and services must
be equal to the total value of final goods and
services produced domestically.
Any output that is not sold to consumers is
bought by producers in the form of
unintended inventory investment.
C+I+G+(X-M) = Aggregate / Total expenditure

           Expenditure Approach
  Private Consumption Expenditure (C)
  Gross Investment Expenditure (I)
  Firms : plant (in progress) / unused raw materials
  Households : residential building
  Inventory investment : intended unintended (reduce information cost)
  - gross domestic fixed capital formation*
  - change in stocks & work in progress
*gross national fixed capital formation GNP        at market prices
  Government Expenditure (G)
  roads/education/medical & health services/law & order/public works/…
  salary to civil servants, NOT transfer payments
  at the cost to taxpayers, NOT at market prices
  Net Exports (X-M)
  the value of imports is included in C, I, G, X
  Exports include domestic exports & re-exports
Items excluded from National
    Income Accounting
Second-hand goods
Intermediate goods
Non-marketed goods / services
Volunteer work / Housework
Unreported / Illegal market transactions

  Merits & Uses of National
      Income Statistics
Reflecting & comparing the standards of
living of different countries
Per capita real GNP  standard of living
Providing information to the government and
firms for economic planning
Reflecting the economic growth of a country
% change in real GNP over a period of time

Limitations of National Income
 Factors that may understate the
 standard of living / the welfare
 Exclusion of the value of leisure
 Same Q produced with fewer working hours
  higher welfare
 Exclusion of non-marketed / unreported

Limitations of National Income
 Factors that may overstate the standard
 of living / the welfare
 Undesirable Side-effects of Production
 Air pollution / traffic congestion /…
 Understate the real / social costs to
 society  externality /divergence
 between social costs & private costs

 When comparing economic performances
    using national income statistics,
Price Level
use real GNP  eliminate the effect of inflation
Size of Population
 use per capital GNP
Income Distribution
more even distribution  higher welfare
Composition of National income
more consumption, less national defence  higher welfare
Exchange Rates
expressed in the same currency
whether the exchange rates reflects the purchasing power
of the 2 currencies
A general and sustained increase in the prices
of all goods and services
GNP deflator / GDP deflator
Consumer Price Index (CPI)
Producer Price Index (PPI)
When constructing price indices
different weighting will be given to different
commodities reflecting their relative
importance on the consumers’ expenditure
A base year is chosen during which the
economy experiences no economic crisis

            Calculating a Price Index
Item        Expenditure Weight   Prices   Price       Prices Price
            1991                 1991     Relatives   1992 Relatives
                                          1991               1992
            1000       10        15       100         15    100
            2000       20        100      100         100 100
            3000       30        500      100         650 130
            4000       40        200      100         220 110

  Calculating a Price Index
Price Index in 1991
Price Index in 1992
The general price level in 1992 has increased
by        %
Only persistent increase in the price indices
implies inflation
   Consumer Price Indices
Only consumer goods are included
Persistent increase in the CPI implies an
increase in the cost of living unless there is a
compensating rise in money income
CPI(A), CPI(B), HSCPI are constructed to
measure the change in the cost of living of
different income groups since they have
different consumption patterns. Different
weights are assigned to different categories
of goods to reflect their relative importance.

             Uses of the CPI
    In the following table, the real income is
 increasing, this implies that the standard of
  living is also increasing for a typical citizen
Year        CPI    Nominal Real income
1991        90     7650        8500
1992        100    8820        8820
Base year                      =
1993        105    9555        9100
     Limitations of the CPI
Only consumer goods are included
 CANNOT reflect the inflation rate accurately
Change in consumption pattern
 the weights are fixed  misleading
Change in quality of goods
 CPI due to better quality  overstate inflation
Possibility of Substitution
  overstate the impact of inflation if consumers
substitute cheaper goods for dearer goods

       Implicit GNP Deflator
To measure inflation, this is a better indicator
 as it has a wider coverage of commodities
Year   GNP deflator Inflation Rate
                    between ….
1990   90

1991   100              1991 &1992
1992   121              = 21%

Working Population OR Labour Force
Working Population=Employed+Unemployed+Self-employed
Un-employment Rate
=(Unemployed/Labour Force)*100%
Under-employment Rate

      Method of Analysis
Endogenous variable
the value of the variable is determined
inside the model ( x, y)
Exogenous variable
the value of the variable is determined
by forces outside the model ( m, c)
any change is regarded as autonomous

C                C                 C

             Y                 Y             Y
C                I                 I

             Y                 Y
    C=f(Y)   C=a     C=a+cY        C=a+c’Y   C=c*Y
    I=f(Y)   I=I*    I=I*+iY