7 - 2Assessing the Economy’sAssessing the Economy’sPerformancePerformanceNational Income Accounting:National Income Accounting:•Health of the EconomyHealth of the Economy•Comparisons Over TimeComparisons Over Time•Formulation of Public PolicyFormulation of Public Policy
7 - 3√√ The idea was created byThe idea was created by Simon KuznetsSimon Kuznets (1901-1985)(1901-1985)beginning in 1930 shortly after the beginning of thebeginning in 1930 shortly after the beginning of theGreat Depression.Great Depression. He received the Nobel Prize inHe received the Nobel Prize inEconomics in 1971 for his effort.Economics in 1971 for his effort.√√ TheThe tools of collectiontools of collection of the data were developed byof the data were developed bythe team led by Dr. Kuznets.the team led by Dr. Kuznets.√√ TheThe Bureau of Economic AnalysisBureau of Economic Analysis (part of the(part of theCommerce Department) compiles the numbersCommerce Department) compiles the numbers(http://www.bea.gov/).(http://www.bea.gov/).National Income accounting:National Income accounting:measuring overall performancemeasuring overall performanceof the economyof the economy
7 - 4GROSS DOMESTIC PRODUCTGROSS DOMESTIC PRODUCTMarket ValueMarket Value of theof the totaltotalgoods and servicesgoods and servicesproducedproduced within thewithin theboundaries of the USboundaries of the USwhetherwhether by Americans orby Americans orforeignersforeigners in one year.in one year.Defining…Defining…
7 - 5•• uses monetary measureuses monetary measure√√ attach a “price tag” to productsattach a “price tag” to productsproducedproduced√√ use market value ofuse market value of FINALFINAL goodsgoodsand servicesand services•• avoid multiple counting-avoid multiple counting-√√ ignore transactions involvingignore transactions involvingintermediateintermediate goods.goods.GROSS DOMESTIC PRODUCTGROSS DOMESTIC PRODUCT
7 - 6• Excludes Non-productive Transactions• Financial Transactions•Public Transfer Payments•Private Transfer Payments•Security Transactions• Secondhand SalesGROSS DOMESTIC PRODUCTGROSS DOMESTIC PRODUCT
7 - 8GDP = C + G + IGDP = C + G + Igg + X+ XnnConsumption SpendingConsumption SpendingGovernment SpendingGovernment SpendingInvestment SpendingInvestment SpendingNet Export SpendingNet Export Spending
7 - 9C for Consumption SpendingC for Consumption SpendingLargest portion of GDP — about 65%Largest portion of GDP — about 65%√√ Durables consumptionDurables consumption(more than 3 yrs use)(more than 3 yrs use)√√ Non durable consumptionNon durable consumption(less than 3 yrs use)(less than 3 yrs use)√√ ServicesServices
7 - 10G for Government SpendingG for Government SpendingFederal SpendingFederal SpendingState and Local SpendingState and Local Spending
7 - 11IIgg for Investment Spendingfor Investment Spending4. change in business4. change in businessinventoriesinventories2. new commercial construction2. new commercial construction3. tools and machines3. tools and machines1. new residential construction1. new residential construction
7 - 12Net InvestmentNet InvestmentGross InvestmentGross InvestmentDepreciationDepreciation——==Stock ofStock ofCapitalCapitalConsumptionConsumptionandandGovernmentGovernmentSpendingSpendingStock ofStock ofCapitalCapitalDepreciationDepreciationNetNetInvestmentInvestmentJanuary 1January 1 Year’s GDPYear’s GDP December 31December 31IncreasedIncreasedGrossGrossInvestmentInvestment
7 - 13XXnn for Net Export Spendingfor Net Export Spending√√ ImportsImports (goods and services from(goods and services fromother countries purchased by Americanother countries purchased by Americancitizens)citizens)√√ ExportsExports (goods and services from(goods and services fromAmerica purchased by citizens of otherAmerica purchased by citizens of othercountries.countries.XXnn = Exports-Imports= Exports-Imports
7 - 15• Compensation of EmployeesCompensation of Employees• RentsRents• InterestInterest• Proprietors’ IncomesProprietors’ Incomes• Corporate ProfitsCorporate Profits•Corporate Income TaxesCorporate Income Taxes•DividendsDividends•Undistributed Corporate ProfitsUndistributed Corporate ProfitsTHE INCOME APPROACHTHE INCOME APPROACHNational IncomeNational Income
7 - 16From National Income, subtract:From National Income, subtract:•Indirect Business Taxes•Consumption of Fixed Capital(Depreciation)•Net Foreign Factor IncomeTHE INCOME APPROACHTHE INCOME APPROACHFrom National Income to GDPFrom National Income to GDP
7 - 17Net Domestic ProductNet Domestic ProductBy subtracting DEPRECIATIONBy subtracting DEPRECIATIONor Consumption of Fixed Capitalor Consumption of Fixed Capitalfrom the GDP, a figure for the truefrom the GDP, a figure for the trueamount of new goods and servicesamount of new goods and servicescan be determined.can be determined.
7 - 18Personal IncomePersonal IncomeSubtracting losses to income (SocialSubtracting losses to income (SocialSecurity contribution, corporateSecurity contribution, corporateprofits and retained earnings) andprofits and retained earnings) andadding a source of income (transferadding a source of income (transferpayments) to the National Income, apayments) to the National Income, afigure is determined that shows thefigure is determined that shows thepersonal income available to thepersonal income available to thenation.nation.
7 - 19Disposable IncomeDisposable IncomeBy subtracting from Personal Income,By subtracting from Personal Income,the dollars lost to taxes, we have thethe dollars lost to taxes, we have theDisposable Income.Disposable Income.This is the “bottom” line of nationalThis is the “bottom” line of nationalincome accounting.income accounting.This figure of Disposable IncomeThis figure of Disposable Incomegives us the funds available forgives us the funds available forspending and/or saving.spending and/or saving.
7 - 20Gross Domestic ProductGross Domestic Product $10,446$10,446 (GDP)(GDP)Consumption of fixed capitalConsumption of fixed capital -1,393-1,393Net Domestic ProductNet Domestic Product $9,053$9,053 (NDP)(NDP)Net foreign factor income earnedNet foreign factor income earnedin the U.S.in the U.S. - 10- 10Indirect business taxesIndirect business taxes -695-695National IncomeNational Income $8,348$8,348 (NI)(NI)Social security contributionsSocial security contributions -748-748Corporate income taxesCorporate income taxes -213-213Undistributed corporate profitsUndistributed corporate profits -141-141Transfer paymentsTransfer payments +1,683+1,683Personal IncomePersonal Income $8,929$8,929 (PI)(PI)Personal TaxesPersonal Taxes -1,113-1,113Disposable IncomeDisposable Income $7,816$7,816 (DI)(DI)U.S. GDP, NDP, NI, PI, & DI, 2002U.S. GDP, NDP, NI, PI, & DI, 2002
7 - 21NOMINAL GDP vs. REAL GDPNOMINAL GDP vs. REAL GDPNominal GDPNominal GDP…… reflects the current price levelreflects the current price levelof goods and services and ignoresof goods and services and ignoresthe effect of inflation on thethe effect of inflation on thegrowth of GDP.growth of GDP.…… this measure is called Currentthis measure is called CurrentDollar GDP.Dollar GDP.
7 - 22Real GDPReal GDP…… measures the value of goods and servicesmeasures the value of goods and servicesadjusted for change in the price level. It willadjusted for change in the price level. It willreflect the real change in output.reflect the real change in output.…… This measure is called the Constant DollarThis measure is called the Constant DollarGDP.GDP.…… indicates what the GDP would be if theindicates what the GDP would be if thepurchasing power of the dollar has not changedpurchasing power of the dollar has not changedfrom what it was in a base year. Thefrom what it was in a base year. Thegovernment currently uses 2000 as its base yeargovernment currently uses 2000 as its base yearfor Real GDP measurement.for Real GDP measurement.NOMINAL GDP vs. REAL GDPNOMINAL GDP vs. REAL GDP
7 - 23Nominal Values• Deflate GDP when prices rise• Inflate GDP when prices fallNOMINAL GDP vs. REAL GDPNOMINAL GDP vs. REAL GDP112233445555778810101111$ 10$ 102020252530302828100100200200250250----$ 50$ 50140140200200----$ 50$ 5070708080----(2)(2)PricePricePizzaPizzaPer UnitPer Unit(1)(1)Units ofUnits ofOutputOutputYearYear(3)(3)Price IndexPrice IndexYear 1 =Year 1 =100100(4)(4)Unadjusted,Unadjusted,or Nominal,or Nominal,GDP,GDP,(1)x(2)(1)x(2)(5)(5)Adjusted,Adjusted,Or Real,Or Real,GDPGDPCalculating Real GDP
7 - 24GDP Price IndexGDP Price IndexPrice IndexPrice Indexin a givenin a givenyearyear==Price of market basketPrice of market basketin specific yearin specific yearPrice of same marketPrice of same marketbasket in base yearbasket in base yearx 100x 100Real GDPReal GDP ==Nominal GDPNominal GDPPrice IndexPrice Index(in hundredths)(in hundredths)Price Index(in hundredths)=Nominal GDPReal GDPAn Alternative MethodAn Alternative MethodNOMINAL GDP vs. REAL GDPNOMINAL GDP vs. REAL GDP
7 - 25GDP Index NumbersGDP Index NumbersYearYear GDP IndexGDP Index20002000 100.00100.0020012001 102.402102.40220022002 104.097104.09720032003 106.003106.0032004 Q2004 Q33 108.551108.551