CLASS #2: MEASURING THE ECONOMY

Boring! but...what makes the difference between economics and sociology, or political science? Measurement Economists test their theories using data, and that allows them to use the tools from statistics to analyze their information. Other social sciences rely only on informal observations and generalizations.

THREE APPROACHES FOR MEASURING GDP

• Product Approach: the market value of output produced, excluding intermediate goods (Value Added)
• Income Approach: the amount of income received by the producers
• Expenditure Approach: the amount of spending by the ultimate purchasers

They all lead to the same answer because:

total production = total income = total expenditures

• market value of item Y is equal to $XXX only because somebody is willing to spend $XXX on it $\longrightarrow$ product = expenditures
• the $XXX that is spent on item Y must be received as income by the person who sells it $\longrightarrow$ expenditures = income
• transitivity: product = income

(''fundamental identity of national income accounting'')

• Why three approaches to measure the same thing?

 

Table: Example: the Orange Economy

Orange Inc
wages paid to employees		$15,000
taxes paid to the gvmt		5,000
revenues from sales of oranges		35,000
of which: to public		10,000
..............: to Juice Inc		25,000
Juice Inc
wages paid to employees		$10,000
taxes paid to the gvmt		2,000
oranges purchased from Or.Inc		25,000
revenues from sales of juice		40,000

PRODUCT APPROACH

• Market Value: same unit of measurement for different goods and services, but...many services are not marketed:

clean air, raising children within the family underground economy

• only newly produced goods and services (sale of a used car is not included)
• only final goods and services: no intermediate goods
• capital goods are not intermediate goods: not used up in the same period they are produced.
• Inventories (unsold items) are counted as final goods.

Decomposition of GDP by sectors: the product approach

	USA	Mexico	Mexico
	(1992)	(1985)	(1996)
agriculture	2%	7.1%	5.8%
mining	2	1.6	1.4
manufacturing	19	18.5	18.7
construction	5	4.9	4
electricity		1.5	1.6
transportation	9	9	9.3
and communication
commerce, hotels, etc.	16	22	18.3
services	35	23.7	37
government	12

GNP and GDP

• GNP: gross national product: market value of final goods and services newly produced by domestically owned factors of production
• GDP: gross domestic product: market value of final goods and services newly produced by domestically located factors of production (regardless of ownership)

EXPENDITURE APPROACH Income-Expenditure identity

Y=C+I+G+NX

• CONSUMPTION: consumer durables, non durables, and services
• INVESTMENT: business fixed investment, equipment, residential investment, inventories
• GOVERNMENT PURCHASES: government consumption (bureaucracy, police...) and investment (roads...)

no transfers!

• NET EXPORT

Decomposition of GDP by expenditure

	Y	C/Y	G/Y	I/Y	NX/Y
Canada	577.9	59.7	19.6	17.5	2.5
France	1544.7	60.2	19.3	18	2.4
Germany	2354.2	57.1	19.5	21.7	.0
Italy	1204.3	61.4	16.3	17	4.2
Japan	4578.2	60.1	9.7	28.5	1.5
UK	1140.2	63.7	21.3	15.1	-.8
US	7576	68	18.6	14.7	-1.3
Mexico	315.3	72.7	10.4	16	2.9

INCOME APPROACH

• National Income

compensation of employees (59%) proprietors' income - unincorporated (7%), rental income (1.7%) corporate profits (9%) net interest (5%)

• + indirect taxes (sales, etc.) (7.4%) = Net National Product
• + net factor payments (.1%) = Net Domestic Product
• + depreciation (11.3%) = GDP

SAVINGS AND WEALTH

Is Income enough to assess the well-being of a household? of a nation? Wealth! What does wealth ultimately depend upon? Saving! the rate of accumulation of wealth STOCK (balance sheet: measured at a point in time) FLOW (income statement: measured per unit of time)

• Private Saving

private saving = private disposable income - consumption

S_p=(Y+NFP-T+TR+INT)-C

• Government Saving
  
  S_g=(T-TR-INT)-G
  
  

Budget deficits or surpluses

• National Saving
  
  $$\begin{eqnarray*}S &=&S_p+S_g \\ \ &=&Y+NFP-C-G \\ \ &=&GNP-C-G \end{eqnarray*}$$
  
  

What can you do with the money you save?

Either you invest it... or you lend the money to someone else!

$$\begin{eqnarray*}S &=&I+(NX+NFP) \\ &=&I+CA \end{eqnarray*}$$

Uses-of-saving identity:

S_p=I-S_g+CA

Twin Deficits!

NATIONAL WEALTH

may change because of:

• change in the value of assets (risk)
• saving

The gross national product does not allow for the health of our children, the quality of their education, or the joy of their play. It does not include the beauty of our poetry or the strength of out marriages, the intelligence of public debate or the integrity of public officials: it measures neither our courage, nor our wisdom, nor our devotion to country. It measures everything, in short, except that which make life worthwhile, and it can tell everything about America except why we are proud to be Americans. Senator Robert F. Kennedy, 1968