Chapter 2

1. Chapter 2 National Income and Product Accounts

2. Difference Between National and Personal Income • National Income – earned by all factors of production • Personal income – received by individuals, includes transfer payments. Capital gains income not included at all. • Difference between GDP and NI is primarily depreciation and indirect business taxes

3. Basic Concepts of NIPA • Product Side – all goods and services purchased for final demand (except inventory investment) • No intermediate goods or services included, since that would be double counting • Income Side – all income earned by various factors of production • No transfer payments are included

4. Components of GDP • Consumption Durables Nondurables Services • Investment Capital Spending (Plant and Equipment) Residential Construction Inventory Investment • Net Exports Exports Imports • Government purchases (NOT expenditures) National defense Other Federal State and Local (mainly wages and salaries)

5. Consumer Spending • Durable goods: last 3 years or more Mainly motor vehicles and appliances • Nondurables: used up quickly Mainly food, gasoline, household supplies Clothing is in between, has more characteristics of a durable but not listed in that category • Services: mainly housing and utilities, transportation, medical, and recreational • Housing is on a rent-equivalency basis; not the actual mortgage payments

6. Investment – Capital Spending • Producers Durable Equipment High-Tech Equipment Computers Software Telecommunications Industrial Equipment Transportation Equipment Includes leased cars Other Equipment Natural resources Office equipment • Nonresidential Construction Buildings Utilities Oil drilling Most roads, etc. in the public sector

7. Investment – Residential Construction • New Single-Family Homes • New Multi-Family Homes • Major Additions and Alterations • Brokerage Commissions

8. Inventory Investment • Actually not final demand, but included in GDP because factors of production have already been paid to produce these items. • Only about 1% of GDP, but accounts for more than 50% of the fluctuations in real GDP during recessions. In the 2001 recession, it accounted for more than 100%, meaning that final sales continued to rise during the downturn.

9. Intermediate Goods and Services • Mostly parts and materials used in the production of final goods • For example, steel for autos, lumber for housing, natural gas for petrochemicals. • Office supplies (paper clips) but not capital equipment, which is part of final demand • Some intermediate services as well • For example, airline travel and restaurant meal expenditures by businesses. If an individual made the same purchase, it would be part of final demand

10. National Income • Wages and salaries • Supplements to wages and salaries Employer contributions to social security Contributions to pension plans • Proprietors income • Net interest income • Rental income • Corporate profits adjusted for IVA and CCA

11. Different Measures of Corporate Profits • BEA tries to measure “economic profits”, which are defined as profits from ongoing operations • Excludes one-time writeoffs • Excludes capital gains or losses • Excludes inventory profits or losses due to changes in prices • Measures depreciation on an economic rather than accounting basis

12. Difference Between GDP and GNP • GDP includes profits from all plants located in the U.S., whether owned by U.S. or foreign entities • GNP includes profits from all plants owned by U.S. entities, whether or not they are located in the U.S. • GDP is the better measure. When Daimler-Benz bought Chrysler there was no change in economic activity or production, and no change in GDP, but GNP fell.

13. Components of Personal Income • NOT the same as the amount of income that individuals receive. • Capital gains or losses are excluded • Contributions to pensions plans are part of PI, but people generally receive and spend the money after retirement. Those payments are not included in PI. • Money from refinancing your home is not included. • Most interest income is not interest received on bank accounts or bonds, but the buildup of interest income in pension plans. • Most of the changes in farm income are changes in physical quantities of inventories • Better to use wages and salaries as a measure of spendable power than the BEA figures for personal income

14. What is the Personal Saving Rate? • It should be the percentage of income that consumers save. • However, because so many items are excluded from PI, it is a deficient measure. • BEA figures show the personal saving rate declined sharply during the 1990s. However, BLS figures, based on survey data, show no change over the same period. The BLS figures probably provide a better indication of what really happened to consumer saving patterns.

15. The Concept of Value Added • NIPA is a double-entry system, but there is also a third method of calculation. • That is the “value added” at each stage of production. Value added for all industries in the economy is equal to GDP except for the statistical discrepancy. • More important in Europe, where a specific portion of value added is taxed at each state of production.

16. Items Excluded from GDP and NI • All income from transfers of assets • All capital gains and losses • Barter of goods and services • Actual mortgage payments are replaced by an estimate of what the rental value of the house would be if it were rented • The underground economy. Illegal and unreported transactions. While no one knows the exact size, most estimates are put at 5% to 10% of GDP in the US, or $500 billion to $ 1 trillion.

17. How Useful is GDP to Business Managers? • It is the single figure most often quoted to measure the performance of the economy • However, quarterly changes include a large random element, and revisions are usually in the range of 1% to 2%. That means a 1% increase might be revised to a 1% decrease. • Severe budget cutbacks in recent years have decimated the data collection effort and the quality of the data have deteriorated.