Measuring National Income and Output

 

Flashback! Anyone recall this model?

 

Relationship Between Outcome and Income

The Circular Flow Model shows two distinct monetary flows.  Households offer factors of production to firms in return for household income.    Households then use this income to make expenditures on goods and services. 

Example: Mr Teacher offers his labour to CIS in return for (not that much) money.  Mr. Teacher uses this income to buy (not a lot of) goods and services.

Important Point!

The income flow from firms to households (Mr. Teacher's salary) = the expenditures of Mr. Teacher for goods and

services.

Income from the factors of production must equal the expenditures by households on goods and services.  

In addition, the income flow and the expenditure flow will be equal to the value of total output produced by firms.  

So the income flow= expenditure flow=value of output

Leakages and Injections 

Leakages

Leakages occur when people take actions that decrease the flow of money through the

circular flow diagram.  

What effect does this have on the size of the economy?

Can you recall a few of the types of leakages that you learned about last year?

Injections

Injections occur when people take actions that increase the flow of money through the

circular flow diagram.  

What effect does this have on the size of the economy?

 Can you recall a few of the types of leakages

that you learned about last year?

Leakages

Saving money is a leakage to the circular flow because it is money that could have been used to buy goods and

services.  

Taxes are a leakage because they too represent money that might have been spent on goods and services.  Instead of buying a new car, I have to pay taxes. :(

Imports are also a leakage because money spent on foreign goods represent expenditures that could have been

made at home in the domestic economy.

Injections

Investing money is an injection to the circular flow because it is money that is invested by firms to purchase additional

capital goods.

Government spending is an injection because the government uses tax money to purchase many goods and

services

Exports are an injection because we are selling goods to foreigners who might have purchased domestically

produced goods instead.

Leakages and InjectionsIf leakages exceed injections, the economy shrinks!

 

Leakages and Injections

If injections exceed leakages, the economy expands

 

National Income Accounting

The Circular Flow Model shows us that the value of total output is equal to the total income generated in producing that output is equal to the expenditures made to purchase

that output.

National Income Accounting is the way we measure an economy's output.  It allows us to:

• assess the performance of the economy• compare one economy with another

• help create economic policies

Value

When measuring the size of an economy, we refer to the value of the output that the economy has created.  Why don't we just measure the quantity of output created?

There are three ways to measure the value of aggregate output:

 • the expenditure approach

 • the income method 

 • the output method

    

The Expenditure MethodThe expenditure approach measures the total amount

of spending on final goods and services within a country during a period of time.  Sound familiar?

What are intermediate goods and why are they not included in this method?

Can you recall the four components of the expenditure approach?  They should roll right off your

C + I + G + (X-M)

Consumption--by households of all final goods (durable and non-durable) and services

Investment--by firms on capital goods and all new spending on construction

Government--all spending on goods and services by the government at all levels

Net Exports--Value of all exports - value of all imports.  May be a negative value!

So C + I + G + (X-M)=GDP!

The Income Method

The Income method adds up all income earned by the factors of production within a country in a given

time period.

Included in this is wages earned by labour, rent from land use, interest earned from capital goods, and

profits earned by entrepreneurs.

When we add up all these levels of income we arrive at national income, which when adjusted for

depreciation and other things becomes equivalent to GDP

The Output Method

The Output method measures the value of each good and service produced in the economy over a

particular time period, and then adds them all up to obtain the value of output produced.  

This method also includes only final goods and services to avoid double counting.  This method

calculates output by particular sector so we know how each sector is performing.

Nominal vs. Real

Anybody remember the difference between nominal and real figures? I bet you do...........(think nominal GDP vs. real GDP)

Nominal vs. Real

Nominal figures are at present day prices, not adjusted for inflation.

Real figures are adjusted for inflation by referring back to a base year which all following years are

compared to.

When we wish to compare year to year, we must use real figures to get an accurate comparison. Let's take

a look out a handout so we remember how to calculate nominal GDP and real GDP.

Gross Domestic ProductWhat's gross about GDP?

Gross Investment

One of the components of GDP is investment, which is spending on capital goods.  Some investment is on new capital goods, while other investment is to replace older capital goods.

  So gross investment can be divided into two parts:

• net investment (spending on new capital goods) 

• depreciation (spending on worn out capital goods)  

Gross investment = depreciation + net investmentGross investment - depreciation = net investment

Two More Formulas

Net Domestic Product (NDP) = C + I(n) + G + (X-M)

where I(n) = new investment, so

NDP= GDP - depreciation

GDP and GDP per capita

GDP figures tell us the size of a country's economy without really telling us anything about the amount of income received

by the people of that country.  For instance, India and Italy might have similar GDPs, but with India's population 15X that of

Italy, the numbers are deceiving!

GDP per capita

GDP per capita takes a country's GDP and divides by the total population, giving us a better idea of the standard of living for the people in those countries.  So if Chad and Nigeria had GDP of $500,000,000 we can calculate both GDP per capita:

Nigeria GDP per capita = $500M/100M = $5

Chad GDP per capita = $500M/1M = $500

While these countries have the same GDP, their GDP per capita is vastly different.  But this too is an imperfect statistic, isn't it?

GDP vs GNP

GDP includes all income earned within a country's borders, regardless of who the owners of the factors of production are.  Therefore, if Toyota operates a plant in the U.S.A., that would

count as part of the GDP of the U.S.A.

GNP includes all income earned by citizens of a country regardless of where they happen to be living or working.

 Therefore, the Toyota plant operating in the U.S.A. would be counted in Japan's GNP statistics.