CH1-National Income Accounting

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CH1-National Income Accounting

• HK Certificate of Education Examination

2
National Economic Objectives

• Attaining full employment
• Attaining economic growth
• Stabilizing the general price level

3
National Income Accounting

• By measuring national income of the economic
  territory of an economy, one can estimate how
  well his economy performs in achieving its
  national economic objectives.

4
Stock Concept

• A stock is any measurement at a particular point
  of time.
• Example On 14th August 2004, Peters total
  wealth was 200,000.

5
Flow Concept

• A flow is any measurement that spreads over a
  certain period of time.
• Example Peter earns 8,000 as his monthly income.

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Stock or Flow?
Peter earns an interest of 10 from his 100,000 saving in HK Bank for a month. Flow
On 31st August 2004, Welcomes total stock of goods in Long Ping Estate was 1 million. Stock
A secondary school teacher earns 16,000 per month. Flow
HKs GDP for the year of 2003 was 20,000 billions. Flow
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Intermediate Vs. Final Goods

• Intermediate goods are goods and services
  produced for assisting further or other
  production.
• Final goods are goods for final use or
  consumption.
• A good can be an intermediate good or a final
  good, depending on how it is being used.

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Intermediate or Final Goods?
Flour bought by Golden Apple Cake shop. Intermediate
Lobster cooked by mom for celebrating your pass in Econ test. Final
Fish steamed by the cook of a fish stall for his workers. Final
An ice-cream you bought from McDonalds. Final
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Basic Circular Flow Model
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We consider the basic circular flow of a certain
economy.
Goods Services
200
300
20
Total market value of all final goods 20
300 200 520

• Firms

Households
Factors of Production
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We consider the basic circular flow of a certain
economy.
Goods Services
200
300
20
Total market value of all final goods 20
300 200 520

• Firms

Households
National Product or National Output
Factors of Production
12
On the other hand, we consider the households
total expenditure on these goods.
Real Flow
Goods Services
A
A
200
300
20

• Firms

Households
Factors of Production
13
On the other hand, we consider the households
total expenditure on these goods.
Real Flow
Goods Services
A
A
200
300
20
Households

• Firms

Total Expenditure on these goods 20 300
200 520
Factors of Production
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On the other hand, we consider the households
total expenditure on these goods.
Real Flow
Goods Services
A
A
200
300
20
B
B
Expenditure on Final Goods Services
Households

• Firms

Total Expenditure on these goods 20 300
200 520
National Expenditure
Factors of Production
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Those households who provide factors services in
the production would receive income from the
firms.
Money Flow
Households total income 200 50 150
120 520
B
B
Expenditure on Final Goods Services

• Firms

Households
Factor Income
C
C
Rental Income
Wages
Interest
Profit
200
50
120
150
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Those households who provide factors services in
the production would receive income from the
firms.
Money Flow
Households total income 200 50 150
120 520
National Income
B
B
Expenditure on Final Goods Services

• Firms

Households
Factor Income
C
C
Rental Income
Wages
Interest
Profit
200
50
120
150
17
Real Flow
Money Flow
Goods Services
A
A
200
300
20
B
B
Expenditure on Final Goods Services

• Firms

Households
C
C
Factor Income
Rental Income
Wages
Interest
Profit
200
50
120
150
Factors of Production
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From the above analysis, we find that
Real Flow
The total market values of final goods services
Money Flow
Goods Services
A
A
200
300
20
B
B
The total expenditures on the final goods
services
Expenditure on Final Goods Services

• Firms

Households
Factor Income
C
C
Rental Income
The total income of the households
Wages
Interest
Profit
200
50
120
150
Factors of Production
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That is
Real Flow
Money Flow
Goods Services
National Product
A
A
200
300
20
National Expenditure
B
B
Expenditure on Final Goods Services

• Firms

Households
Factor Income
C
C
National Income
Rental Income
Wages
Interest
Profit
200
50
120
150
Ex 1 TB/P.8/MCQ1
Factors of Production
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National Output and

• National Output (NO) is the measure of total
  market value of all final goods services.
• National Expenditure (NE) is the measure of total
  expenditure on final goods services.
• National Income (NI) is the measure of
  households total income.
• NO NE NI

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Gross Domestic Product (GDP)

• Definition GDP is an aggregate measure of the
  total value of production of all resident
  producing units within the economic territory of
  an economy in a specified period, usu. a quarter
  or a year.

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Resident Producing Unit (RPU)

• A resident producing unit maintains her centre of
  economic interests in the economic territory of
  an economy.
• A RPU therefore ordinarily operates in the
  economic territory.

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Resident Producing Unit or Not?

• A factory producing toys in HK

Yes!
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Resident Producing Unit or Not?

• A fast food shop in HK

Yes!
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Resident Producing Unit or Not?

• An Citibank Corporation in HK

Yes!

• An Citibank Corporation in USA

No!
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Resident Producing Unit or Not?
Yes!
It depends
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Gross National Product (GNP)

• Definition GNP is a measure of the total income
  earned by residents of an economy from engaging
  in various economic activities, irrespective of
  whether the economic activities are carried out
  within the economic territory or outside.
• GNP is identical to Gross national income (GNI),
  which is a contemporary term.

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Residents of an Economy

• Residents maintain their center of economic
  interests in an economy.
• Resident individuals refer to those who normally
  stay in the economic territory of the economy for
  at least 12 months or longer, or intend to do so,
  irrespective of their nationality.
• Resident organizations (or RPUs) refer to those
  which ordinarily operate in the economic
  territory.

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Residents or Not?
A foreign domestic helper working in HK Yes
A branch of a foreign bank operating in HK Yes
A solicitor coming to HK to work on a short-term 3-month contract for a local company No
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GDP Versus GNP
GDP GNP
Value of production (Factor) income earned
By resident producing unit By residents
Factors are owned by residents or non-residents Factors are owned by residents only
Within the economic territory Within or outside the economic territory
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GDP Versus GNP

• GDP is more relevant for analysis related to
  production activities within the economy, e.g.
  employment, productivity, industrial output,
  investment in equipment structure.
• GNP is useful for analyzing economic situations
  relating to income of residents, investment
  behavior, domestic demand inflation.

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Being Included in GDP or GNP?
Mr. Chan is now living in HK. He has a toy factory here and earns 2 million this year. HKs GDP
Mr. Chan also has a garment factory in China and earns 1.2 million this year. HKs GNP
A Filipino maid in HK usually gets a long-term contract of two years. She earns 22,000 this year. HKs GNP
A retired old man who is a resident of HK and earns a rental income of 50 000 this year from his house in Australia. HKs GNP
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From GDP to GNP

• GNP GDP (Factor income earned by
• residents from outside the
• economic territory Factor
• income earned by non-residents
• from within the economy)
• GDP Net factor income from
• abroad or External Factor Income
• Flows

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From GDP to GNP

• Factor Income
• investment income compensation of employees
• Investment income
• direct investment income(e.g. dividends)
  portfolio investment income(e.g. security
  interest) other investment income(e.g. deposits
  interest)

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From GNP to GDP

• GDP GNP (Factor income earned by
• residents from outside the
• economic territory Factor
• income earned by non-residents
• from within the economy)
• GNP Net Factor Income from
• Abroad or Net External Factor
• Income Flows

Ex 2 TB/P.26/MCQ 6 7 Ex 3 TB/P.27/MCQ8
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More About National Income Statistics

• GDP at factor cost GDP at market price
  indirect business taxes subsidies

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More About National Income Statistics

• GDP at factor cost GDP at market price
  indirect business taxes subsidies
• GDP at market price GDP at factor cost
  indirect business taxes - subsidies
• GDP per capita GDP/population size
• Net Domestic Product, NDP GDP - depreciation

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More About National Income Statistics

• Net National Product, NNP GNP - depreciation
• National Income, NI W I R ?

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Measuring GDP(1) The Product or Output Approach

• GDP is total market values of all final goods and
  services produced by the resident producing units
  of an economy within a specified period.
• Intermediate goods are excluded to avoid the
  problem of double counting.
• In reality, it is hard to distinguish between
  final and intermediate goods.
• thus, value-added method is adopted

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By Value Added Approach

• (From C.S.D.)GDP is an aggregate measure of the
  total value of net output of all resident
  producing units of a country or territory in a
  specified period.
• Net output is measured by value added
• Value added value of gross output value of
  intermediate consumption
• Intermediate consumption is the value of goods
  services used up during production.

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By Value Added Approach

• value added sales revenue - input cost
• By value added approach,
• GDP summation of value added in ALL stages of
  production indirect business taxes (IBT)
  subsidies (S)

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Stage 1 Growing wheat Input cost
(wheat seeds) 0.0 Sales revenue
(wheat) 2.0
Value added (2.0 - 0.0) 2.0
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Stage 2 Milling wheat Input cost
(wheat) 2.0 Sales revenue
(flour) 3.5
Value added (3.5 - 2.0) 1.5
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Stage 3 Baking bread Input cost
(flour) 3.5 Sales revenue
(bread) 6.0
Value added (6.0 - 3.5) 2.5
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Measuring GDP
Given final good bread (6.0)
Intermediate goods wheat (2.0)
flour (3.5)

• By Output Approach,
• GDP 6.0

• By Value Added Method
• GDP (2.0 - 0.0) (3.5 - 2.0)
• (6.0 - 3.5) 6.0

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Items Being Excluded from GDP
Items Reasons
Non-marketed or self-sustained products No market value involved
Reference TB/P.21/Closer Look Reference TB/P.21/Closer Look
Ex 4 TB/P.13/Q2.1 Ex 5 TB/P.18/MCQ4
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Measuring GDP(2) The Expenditure Approach

• GDP C I G (X - M)
• while (C I G X) total final demand

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Measuring GDP(2) The Expenditure Approach

• on C only expenditure on consuming final
  products counted
• on I I gross domestic fixed capital
  formation change in stocks
• gross domestic fixed capital formation
  expenditure on land, buildings construction,
  plant, machinery, equipment related expenses
• change in stocks unsold goods (values of raw
  materials work-in-progress)

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Measuring GDP(2) The Expenditure Approach

• net investment gross investment depreciation

• Ex 6 Why should the changes in inventories be
  included in GDP?
• TB/P.15/Closer Look

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Measuring GDP(2) The Expenditure Approach

• on G including payments to civil servants
  expenditure on final products while excluding
  transfer payments
• on X-M net exports
• net exports of goods net exports of services
• domestic exports of goods re-exports of
  goods imports of goods exports of services
  imports of services

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Why M is deducted from the total final demand?

• The value of imports has to be removed because
  EACH of the components of C, G, I X has import
  contents (both direct and indirect import
  contents) but it is not possible to remove such.
  They are therefore removed collectively by the
  subtraction of M.
• Hence, GDP C G I X - M

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Items Being Excluded from GDP
Items Reasons
Unreported transactions No data is available
Illegal transactions No data is available
Second-handed goods No current production involved
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Items Being Excluded from GDP
Items Reasons
Expenditure on stocks, i.e. shares bonds -no production involved -a mere transfer of ownership
Expenditure on welfare payments No production involved

Ex 7 TB/P.11/MCQ2 EX 8 TB/P.17/Q2.2
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Measuring GDP(3) The Income Approach

• By income approach, GDP is calculated as the sum
  of incomes for the factors of production
  distributed by the resident producing units in a
  country or territory, as rewards to their
  production of goods and provision of services.
• In other words, GDP is the sum of factors income
  (arising from production) provided by the
  resident producing units in an economic territory
  in a specified period.

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Measuring GDP(3) The Income Approach

• Factor incomes compensation of employees
  (including wages, salaries other employee
  benefits) gross operating surplus of enterprises

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Measuring GDP(3) The Income Approach

• By income approach, GDP
• compensation of employees gross
• operating surplus of enterprises
• indirect business taxes subsidies
• W I R ? depreciation allowance
• indirect business taxes subsidies

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Items Being Excluded from GDP
Items Reasons
Income from gifts, gambling lucky draw No production involved

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Comparison of the 3 Approaches
Expenditure Approach
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Comparison of the 3 Approaches
Expenditure Approach
GDP at factor cost
GDP at market price
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GDP at Current Market Prices

• GDP at current market prices/Money GDP/Nominal
  GDP measures the market value of final goods and
  services at current market prices.
• Nominal GDP P x Q

63
GDP at Constant Market Prices

• GDP at constant market prices/Real GDP measures
  the market value of final goods and services at
  the prices of a particular chosen year called
  base year(with constant general price, i.e. P
  1).
• Real GDP P x Q 1 x Q Q real output (in
  current year)
• Therefore, ? Real GDP ? Real output ? Real
  living standard

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Nominal GDP Vs. Real GDP

• As nominal GDP P x Q
• ? nominal GDP ? P x Q or
• P x ?Q or
• ? P x ? Q
• Thus, ? nominal GDP ? ? real output
• Thus, ? nominal GDP ? ? real living standard

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Find Real GDP by Implicit GDP Deflator

• As (price index of the base year/price index of
  the current year) (real GDP/money GDP) and
  price index of the base year 100
• implicit GDP deflator (money GDP/real GDP)x100
• thus, implicit GDP deflator price index of the
  current year
• thus, real GDP money GDP x (100/price index of
  the current year)

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Money GDP, Prices Real GDP
If ?money GDP gt ?P ?real GDP
If ?money GDP lt ?P ?real GDP
If ?money GDP ?P real GDP
If ?money GDP ?P ?real GDP
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Money GDP, Prices Real GDP
If ?money GDP ?P ?real GDP
If ?money GDP gt ?P ?real GDP
If ?money GDP lt ?P ?real GDP
If ?money GDP ?P real GDP
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Money GDP, Prices Real GDP
If ?money GDP gt ?real GDP ?P
If ?money GDP lt ?real GDP ?P
If ?money GDP ?real GDP P
If ?money GDP ?real GDP ?P
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Money GDP, Prices Real GDP
If ?money GDP ?real GDP ?P
If ?money GDP gt ?real GDP ?P
If ?money GDP lt ?real GDP ?P
If ?money GDP ?real GDP P
Ex 9 TB/P.28/MCQ9 Ex 10
TB/P.30/MCQ10
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The Growth Rate of GDP

• GDP growth rate (GDP of current period GDP
  of last period)/GDP of last period x 100
• Real GDP growth rate (real GDP of current
  period real GDP of last period)/real GDP of
  last period x 100

Ex 11 TB/P.31/MCQ11 Ex 12 TB/P.32/MCQ12
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Uses of National Income Statistics

• as a measurement of living standard
• as a basis for international comparison of
  welfare or living standard
• as a basis for formulating government policies
• as a basis for formulating business decisions
• as an indicator of economic progress

Ex 13 TB/P.37/MCQ13
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Limitations of National Income Statistics

• nominal GDP neglects the effects of price change
• real GDP is preferred

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Limitations of National Income Statistics

• real GDP neglects the effects of population size
• real GDP per capita is preferred

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Limitations of National Income Statistics

• real GDP per capita ignores the problem of income
  distribution
• uneven distribution of income implies the problem
  of widening income gap

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Limitations of National Income Statistics

• real GDP per capita ignores the effects of
  self-sustained products, non-marketed goods
  unreported transactions
• real GDP per capita underestimates the real
  standard of living

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Limitations of National Income Statistics

• real GDP per capita ignores the desirable and
  undesirable effects of production
• real GDP per capita neglects the effects of
  composition of GDP
• larger portion of consumer goods supports a
  higher present living standard while larger
  portion of capital goods implies a higher future
  living standard

Ex 14 TB/P.38/MCQ14
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Factors Affecting National Income

• Demand-side Factors
• consumption (C) demand
• investment (I) demand
• government expenditure (G) demand
• net exports (X-M) demand

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Factors Affecting National Income

• Supply-side Factors
• labor productivity
• amount of capital (goods)
• amount of land
• level of entrepreneurship
• level of technology

Ex 15 TB/P.39/MCQ15 Revision Ex TB/P.43