Download Lecture 6 (revised) - Noémi Giszpenc Fitzpatrick

Economics for CED
Noémi Giszpenc
Spring 2004
Lecture 6: Macro: Measurement
of the National Economy
April 6, 2004
• Before Adam Smith… there was
François Quesnay (1694-1774),
physician in the court of Louis XV
– Argued that the wealth of a nation lies in
the size of its net product
– The “natural state” of economy
conceived as balanced circular
flow of income between economic
sectors (and thus social classes)
which maximized the net product.
• In these concepts, Quesnay saw
analogies to the circulation of human
blood and the homeostasis of a body.
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Simon Kuznets (1901-1985)
• Life’s work was collection and
organization of the national
income accounts of the U.S.
• Prior to WWI, measures of GNP (gross
national product) were rough guesses.
– No government agency collected data to compute GNP; neither did any
private economic researcher.
• He broke GNP down by industry, final product, & use.
• Measured the distribution of income between rich & poor.
• Helped the U.S. Dept of Commerce standardize GNP
measurement.
• Wanted the dept to measure the value of unpaid housework.
– The department refused, and still does.
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International Relations
and Economic power
• “In that setting we tend to think about
three different concepts of power:
(1) military power, (2) political power,
and (3) economic power. Ultimately, the
first two of these depend on the third for
their strength.”
– G. Edward Schuh, “Remarks on Economic Power”
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WWII and GDP
• A well established predictor of military
victory in “great power” warfare is GDP
(Gross Domestic Product).
• The GNP index was originally devised
to measure the mobilization of arms
production during WW II
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What is Robinson Crusoe's
National Income?
• His income is what he produces:
–
–
–
–
coconuts he gathers,
fish he catches,
objects he makes, furniture & tools.
a stockade.
• He allocates production between:
– Consumption goods & services
– Capital goods (tools, fishing raft)
– Government (stockade).
• Moral of the story:
– Crusoe's opportunities to consume, invest, and defend are
limited by his ability to produce!
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Measuring national income
• Bureau of Economic Analysis (BEA)
responsible for national income and
product accounts (NIPA)
• 2 main measure of national income:
– Gross domestic product (GDP)
• Measures production in the country
• Data quality better
– Gross national product (GNP)
• Measures income accruing to country’s residents
– Difference between GDP/GNP is small (~1%) for
US. Can be bigger for small countries.
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3 ways to measure
•
BEA collects data from numerous sources:
IRS, surveys, customs, etc.
Constructs GDP using 3 methods:
•
1.
2.
3.
–
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The expenditure method
Income method
Value added method
In theory all 3 measures should give same value
for GDP, but there are statistical discrepancies.
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The expenditure method
GDP = consumption + investment +
government purchases + net exports
• Consumption: spending by households on:
– New durable goods
– Non-durable goods
– Services
• Investment: spending by firms on:
– Fixed investment: plant, equipment
• Divided into residential (new housing) & non-residential
– new inventory (decreases in inventory are
minuses)
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Expenditure method continued
• For investment: Note that we do NOT include
spending on materials (including intermediate
processed goods) or labor.
– Doing so would be double counting
• Government purchases: gov’t spending on:
goods and services
– Not equal to total gov’t spending, because it does
not include transfer payments
• If gov’t buys cheese and gives away, count,
if gov’t gives money for person to buy cheese, don’t
count. (but then count the cheese purchase)
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Expenditure method continued
• Net exports = exports of goods and service to
the rest of the world, minus imports
• All of these should add up to the total spent-and therefore purchased from the country-during the time period.
– Therefore should also add up to the total earned
during the time period--the national income.
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The income method
• This method attempts to add up the net income of all
employees and businesses, before taxes.
Composition of national income, 1995, $billions
Wages & salaries
4,209
} labor’s share, 73%
Owner’s income
Rental income
Corporate profits
478
122
589
Net interest earned
National income
401
5,799
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profit’s share, 27%
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The value-added method
• Value added by a firm is the difference between
the revenue a firm earns by selling its products
and the amount it pays for the products of other
firms it uses as intermediate goods.
– Example: firm buys $1,000 of wheat, mills and
bakes it using $1,000 of labor. The firm sells the
bread for $2,500, making $500 profit.
The value added is $1,500 ($2,500 - $1,000).
(Income is $1,000 to labor plus $500 profit.)
(Expenditure is $2,500 by consumers of bread.)
• Only last measures for whole economy; 1st 2 just for firm
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Size does matter, but…
•
•
What raw GDP tells us is limited.
Only shows what was produced by entire
country in one time period.
Doesn’t answer:
•
1. Will country be better able to produce in future?
2. How many people must that production support?
3. Does it actually support all those people? How?
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1. Costs of production
• The “gross” in GDP/GNP means that these
are measures before costs (such as
depreciation) are counted.
– Adding in depreciation yields Net national product-a more accurate (but less precise) measure
– Depreciation of capital reduces ability to produce
later
• Especially important from point of view that wealth is
created by both man-made capital and natural capital
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2. Population
• The same GDP/GNP divided among
more or fewer people can mean very
different things about residents’ quality
of life or purchasing power
– So we talk about per capita GDP when we
are measuring “average income” in nation
– This may not be the best way to measure
national standard of living…
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3. Inequality
• The same GNP distributed differently
has very different meanings for
economic welfare.
• Remember from last class on
insurance, most people have a
diminishing marginal utility of wealth:
– therefore we can fairly safely assume that
a more equal distribution produces more
utility than an unequal one
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How does GNP change over time?
•
You may have noticed that value of GNP is
measured in dollars, not stuff.
–
•
Measured using prices of goods&services.
Therefore GNP can go up in three ways:
1.
2.
3.
•
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More stuff produced
Prices rise with no change in quality
Prices rise with increase in quality
BEA treats the last two differently. This will be
the topic of the next lecture!
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