3.1 Measuring national income
Circular flow of income –
Factor
Markets
Firms
Governments
Households
Financial
Institutions
Product
Markets
Methods of measurement – income, expenditure and output
Income- sum of all factors of income
GDP - Factor of Payments to foreigners + factor payments from foreigners = GNP
GNP – capital consumption allowance = NNP (net national product)
NNP – indirect business taxes = National income
National income + transfers – direct taxes = disposable personal income
Expenditure- sum of the monetary values of all final goods and services
GDP = C + I + G + (X-M)
= Consumption + Investment + Government expenditure + (exports – imports)
Consumption- personal consumption expenditures
~ Final goods and services, non durable and durable goods.
Investment - gross private domestic investment
~ Expenditures that add to (or replace) the economy's capital stock (plants, equipment,
structures, and inventories).
~ Investment is not an intermediate good because it is not completely used up
Two main categories of investment
1. Inventory investment - increase or decrease (disinvestment) in the value of the
stocks of inventories that businesses have on hand.
2. Fixed investment -- addition of new plants, equipment, commercial buildings, and
residential structures
Government- local, state, federal purchases of final goods and services.
~final goods and services by convention
~valued at the cost of supply because they are not sold to final consumer therefore
government expenditures
~does not include: transfer payments - recipients who have not supplied current goods or
services in exchange for these payments (do not represent current output), produce no
income or output
Net exports- exports minus imports
~exports- goods and services that are produced domestically but sold to foreigners.
Dollars in, goods out.
~Imports- goods and services produced by foreigners but purchased by domestic
consumers. Dollars out, goods in.
Output- finds the total output of a nation by finding the total of all goods and services
that a nation produces.
~ Only the final value of goods and services produces are counted, helps avoid double
counting
Distinction Between:
Gross and net
Gross output- equal to the value of net output or GDP plus intermediate consumption.
Represents the total value of sales by producing enterprises in an accounting period
before subtracting the value of intermediate goods used up in production.
Net Output- is equivalent to the gross value added during to an accounting period when
producing enterprises uses imports to produce outputs.
National and Domestic
National- everything and everyone outside the political boundaries of the domestic
economy.
Domestic- Anything that has to do with activity within the boundaries of a nation.
Nominal and Real
Nominal- the effects of inflation have not been counted for.
Real- the effects of inflation have been factored in.
Total and per capita
Total- the total for every one in a country.
Per capita- per a single person in a country.
3.2 Introduction to development
 Economic growth: an increase in the value of a country’s income or
expenditures, in other words, an increase in GDP.
 Economic development: an improvement in the welfare and standard of living
of a society.
 Key differences between the two:
Increases in economic growth do not necessarily translate into increases in
economic development. Although economic progress is necessary for a better
standard of living, a better standard of living does not always result from an
increase in GDP. For example, a country may ignore the negative externalities of
production like pollution, and thereby achieve a greater GDP. However, the
pollution may cause health problems, effectively decreasing the standard of living.
Another aspect of a society’s “standard of living” that goes unaccounted for in
GDP is leisure time. If the members of an economy work long hours, the input of
labor is greater than if they worked shorter hours, and therefore the GDP is
greater. However, although the GDP would be greater, society would not
necessarily be better off. They could have more goods and services, but they would
lack the leisure time to enjoy them.
 Measures of growth
o Gross Domestic Product (GDP):
 The market value of all goods and services produced within a
country in a given time period. Gross domestic product is
calculated as the sum of a country’s consumer spending,
investment spending, government spending, and net exports
(exports minus imports):




GDP = C + I + G + NX
GDP is real or nominal. Real GDP takes into account inflation,
while nominal GDP does not. Real GDP is calculated by taking
the prices from a base year in order to determine the value of
goods and services in the years since.
o Gross National Product (GNP): the total income earned by a nation’s
permanent residents, or nationals. It differs from GDP by including
income that domestic citizens earn abroad and excluding income that
foreigners earn domestically. For example, if a French citizen comes to
the United States and temporarily starts making and selling his own
cheese, his production is part of the US GDP, but part of the France
GNP.
Purchasing power parity provides an allowance for differences in purchasing
power when comparing welfare between countries. Purchasing power parity is
the theory of exchange whereby a unit of any given currency should be able to
buy the same quantity of goods in all countries. For the purchasing power of a
given currency to be the same in two countries:
1/P = e/P*
Where the price level of one country is P, of the other country, P*, and e
equals the nominal exchange rate.
Other methods (besides GDP, purchasing power parity) to measure welfare
between countries:
o Life expectancy: length of the average lifespan in a country
o GDP per capita: GDP divided by the number of people in a country
o Adult literacy: percentage of the adult population that is literate
o Internet usage: percentage of the adult population with internet access
o Human development index (HDI): a statistic developed by the United
Nations which takes into account various indicators of standard of
living including literacy rate, life expectancy, GDP per capita and
educational attainment
Some problems of measuring development include the following:
o No one measurement offers a comprehensive look at the welfare of an
entire economy. However, GDP offers arguably the best view, and is
the most widely used indicator of the well-being of a country’s economy
and its citizens. Therefore we consider the problems in measuring GDP:
 The contribution of the housing market to GDP is difficult to
measure. Economists address this issue by estimating the value
at which homeowners are “renting their house out to
themselves.”




GDP excludes goods and services sold on the black market like
illegal drugs. It also excludes items that people make and
consume themselves, like home-grown vegetables.
GDP does not include transactions involving goods that were
produced and counted in the GDP in the past, for example, used
cars.
GDP does not include the production of American citizens in
foreign countries.
GDP must be “seasonally-adjusted,” meaning the statistics
must be adjusted as not to reflect the time of the year in which
the data was collected. For example, consumption is higher in
December than during other times of the year in preparation for
the holidays.
Mini-IA: Section 3.2
“Singapore economy shrinks 4.2 prc in 4th quarter”
http://www.google.com/hostednews/ap/article/ALeqM5ixM7Qrota6NUElM_rCNT0jwuJ7wD96J6U6G0
Singapore’s economy has been severely weakened by the global economic
downturn, as evidenced by a 4.2 % decline in GDP for the October-December quarter, a
rate higher than last month’s estimates. The decrease in GDP results from a sharp decline
in the demand for exports, down 35 % since only last month. While GDP is the sum of
consumer, investment, and government spending, along with net exports (exports minus
imports), Singapore’s economy is more dependent than most on net exports, with NX
constituting 2/3 of their GDP. When the housing crisis in the United States sparked an
international economic slump, Singapore was especially hit hard because of its openness
and dependence on international trade: “‘open economies as Singapore will continue to
be tossed around in stormy economic waters.’” Of the three industries the article
mentioned that were hit particularly hard by bad economic times, finance, manufacturing
and tourism, tourism would be the most affected by the global slowdown, because
foreigners lack the money to be able to vacation and travel. The article also mentions an
impending government stimulus plan, which, (since it constitutes government spending),
might reduce the decline in GDP that Singapore is presently undergoing. It is difficult to
accurately analyze what the decline in GDP means for Singapore’s current economy
because this statistic reflects the October-December quarter. This lag time is one of the
difficulties with calculating and analyzing GDP. The statistic is, however, “seasonallyadjusted,” meaning that it is not affected by the time of the year in which the data was
collected. Since the statistic includes the month of December, when consumer spending is
likely to be larger than during the rest of the year due to the holidays, this seasonal
adjustment is important.