Measurement of National Income


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Measurement of National Income

  2. 2. Measurement of NIA• The national income accounts are an accounting framework used in measuring current economic activity.• Almost all countries have some form of official national income accounts.• In Pakistan, NIA are prepared and released by the Federal Bureau of Statistics.• The coverage is on National basis and Annual data.
  3. 3. Measurement of NIA• The national income accounts are based on the idea that the amount of economic activity (Gross Domestic Product – GDP) that occurs during a period of time can be measured in terms of : – The amount of output produced, excluding output used up in intermediate stages of production (the product approach); – The incomes received by the producers of output (the income approach); and – The amount of spending by the ultimate purchasers of output (the expenditure approach).
  4. 4. Measurement of NIA• Each approach gives a different perspective on the economy.• However, the fundamental principle underlying national income accounting is that, except for problems such as incomplete or misreported data, all three approaches give identical measurements of the amount of current economic activity.
  5. 5. GDP and GNP• GNP is the market value of final goods and services newly produced by domestic factors of production during the current period (as opposed to production taking place within a country, which is GDP).• We define net factor payments from abroad (NFP) to be income paid to domestic factors of production by the rest of the world minus income paid to foreign factors of production by the domestic economy.• Using this concept, the relationship between GDP and GNP can be expressed as: GDP = GNP – NFP
  6. 6. Measurement of GDP: The Product Approach• It measures GDP by adding the market values of goods and services produced, excluding any goods and services used up in intermediate stages of production.• This approach makes use of the value-added concept. The value added of any producer is the value of its output minus the value of the inputs it purchases from other producers.• The product approach computes economic activity by summing the value added by all producers; i.e., GDP =  VA of all sectors
  7. 7. Measurement of GDP:The Product Approach • Market Value: Goods and services are counted in GDP at their market values, that is, at the prices at which they are sold. The advantage of using market values is that it allows adding the production of different goods and services. – A problem with using market values to measure GDP is that some useful goods and services are not sold in formal markets. Ideally, GDP should be adjusted upward to reflect the existence of these goods and services. However, because of the difficulty of obtaining reliable measures, some nonmarket goods and services simply are ignored in the calculation of GDP.
  8. 8. Issues with Market Value• Some nonmarket goods and services are partially incorporated in official GDP measures. An example is activities that take place in the so- called underground economy.• A particularly important component of economic activity that does not pass through markets are the services provided by government, such as defence, public education and building and maintenance of roads and bridges. The fact that most government services are not sold in markets implies a lack of market values to use when calculating the government’s contribution GDP.• Addition thru cost estimates.
  9. 9. Newly Produced G&S• As a measure of current economic activity, GDP includes only goods or services that are newly produced within the current period.• GDP excludes purchases or sales of goods that were produced in previous periods. – Thus, although the market price paid for a newly constructed house would be included in GDP, the price paid in the sale of a used house is not counted in GDP. Value of service of Real Estate Agent will be included.
  10. 10. Final Goods and Services• G&S produced during a period of time may be classified as either intermediate G&S or final G&S. – Intermediate G&S are those used up in the production of other G&S in the same period that they themselves were produced.• Another subtle distinction between intermediate and final goods arises in the treatment of inventory investment. Inventories are stocks of unsold finished goods, goods in process, and raw materials held by firms.• Inventory investment is treated as final good, thus becomes part of GDP.
  11. 11. The Expenditure Approach to Measuring GDP• A different perspective on the components of GDP is obtained by looking at the expenditure side of the national income accounts.• The expenditure approach measures GDP as total spending on final G&S produced within a nation during a specified period of time.• The four major categories of spending are consumption, investment, government purchases of G&S, and net exports of goods and services.
  12. 12. The Expenditure Approach to Measuring GDP• In symbols, if – Y = GDP = total production (or output) = total income = total expenditure; – C = consumption; – I = investment; – G = government purchases of goods and services; – NX = net exports of goods and services.• We can express the expenditure approach to measuring GDP as Y = C + I + G + NX – This equation is one of the basic relationships in macroeconomics. It is called the income – expenditure identity. Remember imports are converted to local currency by using REER
  13. 13. The Components of Expenditure• Consumption. Consumption is spending by domestic households on final G&S, including those produced abroad.• It is the largest component of expenditure usually accounting for about two thirds of GDP.• Consumption expenditures are grouped into three categories: – Consumer durables, which are long-lived consumer items, such as cars, televisions, etc (but not houses, which are classified under investment); – Nondurable goods, which are shorter-lived items, such as food, clothing, and fuel; and – Services, such as education, health care, financial services, and transportation.
  14. 14. The Components of Expenditure• Investment. Investment includes both spending for new capital goods, called fixed investment, and increases in forms’ inventory holdings, called inventory investment. Fixed investment in turn has two major components: – Business fixed investment, which is spending by businesses on structures (factories, warehouses, and office buildings, for example) and equipment (such as machines, vehicles, and furniture); and – Residential investment, which is spending on the construction of new houses and apartment buildings. Houses and apartment buildings are treated as capital goods because they provide a service (shelter) over a long period of time.
  15. 15. The Components of Expenditure• Government Purchases of Goods and Services include any expenditure by the government for a currently produced good or services, foreign or domestic, is the third major component of spending.• Not all the cheques written by the government are for purchases of goods and services. – Transfers, a category that includes government payments for Social Security and Medicare benefits, unemployment insurance, welfare payments, and so on, are payments (primarily to individuals) by the government that are not made in exchange for current goods or services. As a result, they are excluded from the government purchase category and are not counted in GDP as calculated by the expenditure approach. – Similarly, interest payments on the national debt are not counted as part of government purchases.
  16. 16. The Components of Expenditure• Net Exports are exports minus imports. Net exports are positive if exports are greater than imports and negative if imports exceed exports.• Net exports are added to total spending because they represent spending (by foreigners) on final G&S produced in a country. Subtracting imports ensures that total spending reflects spending only on domestically produced output.
  17. 17. The Income Approach to Measuring GDP• The third and final way to measure GDP is the income approach. It calculates GDP by adding the incomes received by producers, including profits, and taxes paid to the government.• A key part of the income approach is a concept known as national income. National income is the sum of five types of income. – Compensation of employees – Proprietors’ income – Rental income of persons – Corporate profits – Net interest
  18. 18. Examples• Expenditure Approach to Measuring GDP• Income Approach to Measuring GDP
  19. 19. Private Sector and Government Sector Income• The income of the private sector, known as private disposable income, measures the amount of income the private sector has available to spend. – In general, the disposable income of the private sector as a whole equals income received from private-sector activities, plus payments received by the private sector from the government, minus taxes paid to the government. Thus Private disposable income = Y + NFP + TR + INT – T• The net Government income equals taxes minus transfers and interest payment on govt. debt, i.e., T – TR - INT
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