Measures of Economic Activity By: May Leung, Kenif Tse, Kent Yip, Alvan Au & Carol Lam
What is Gross DomesticProduct? Total dollar value at current prices of all final goods and services produced in Canada over given period (typically 1 year)
The Importance of GDP • national income accounts: accounts showing levels of total income and expenditures in Canadian economy • Allow us to evaluate performance of economy
Calculation of GDP What is Gross DomesticProduct? What is Gross DomesticProduct? • Calculated with two approaches: • Income approach: sum of all incomes in economy • Expenditure approach: sum of all spending in economy • Total dollar value at current prices of all final goods and services produced in Canada over given period (typically 1 year) • Total dollar value at current prices of all final goods and services produced in Canada over given period (typically 1 year)
The GDP Identity • GDP expressed as total income ≡ GDP expressed as total expenditures • Expressions on either side are identical
The Income Approach • GDP expressed as total Canadian income = sum of 4 income categories and 3 balancing categories • Income: Wages, Profit, Interest, Rent • Balances: Indirect Taxes, Depreciation, Statistical Discrepancy
Wages (Income) • Wages and salaries represent close to 60% of GDP; includes direct payments to workers in both business and gov’t, as well as employee benefits such as pension funds
Profit (Income) • All corporate profits declared to the gov’t, including profits paid as corporate income tax, profits paid out to shareholders as dividends, and profits put back into business (retained earnings)
Interest (Income) • Income made from interest paid on business loans, bonds, royalties, etc.
Rent (Income) • Proprietor’s incomes include earnings of sole proprietorships and partnerships; received by owners for supplying various types of resources to their businesses
Indirect Taxes (Balance) • Charged on products rather than levied against households or businesses, included in expenditure approach; therefore must be added to income approach
Depreciation (Balance) • Shows up in expenditure approach, and must therefore be added to income approach
Statistical Discrepancy (Balance) • To balance income and expenditure figures, half of the difference is added to the lower amount and half of the difference is subtracted from the higher amount
The Expenditure Approach GDP found using the expenditure approach is the sum of purchases in product markets
Categories of Products • Final Products: products that will not be processed further and will not be resold • Intermediate Products: products that will be processed further or will be resold
Double Counting • If values of final and intermediate products are added double counting occurs. • To avoid double counting, the concept of value added is applied (the extra worth of a product at each stage in its production)Refer to figure 10.4
Categories of Purchases • These purchases are NOT included in the calculation of GDP: • There are two types: financial exchanges and second-hand purchases. They are excluded because they are not related to current production.
Financial Exchanges • A simple transaction that shifts purchasing glower from one party to another. Ex.) Gifts of money from family, bank deposits, purchases of stocks • Note:payments for financial services such as bank service charge etc are included in GDP
Second-Hand Purchase • Second-hand or used goods are excluded to avoid overstatement, because they were already counted at first sale
Categories of Products • Purchases which are INCLUDED in the calculation of GDP: • Expenditure Equation: GDP= C + I + G+ (X-M)
(C) Personal Consumption • Household spending on goods and services. • Non-durable goods (use up) and Durable goods (repeated use) • Make up largest component (about 60%) of GDP
(I) Gross Investment • Purchases of assets that are intended to produce revenue • Usually between 15-25 % of GDP • Includes inventory (intended to be sold) • Construction of buildings (including houses etc) are included because they could be rented
(I) Gross Investment ctn’d • Capital stock (total value of productive assets that provide a flow of revenue) – Annual depreciation = Net Investment (gross investment- depreciation) See Figure 10.5 pg 289 • Source of investment could be businesses’ retained earnings or households’ personal savings (S). See Figure 10.6
(G) Government Purchases • Include current spending by all levels of government on goods and services. Ex) Road repairs • Typically 20% of GDPDoes NOT include expenditures by government-owned agencies on income producing assets because already counted in gross investment
(X-M) Net Exports • Net Exports = Exports (X) – Imports (M) • Exports INCLUDED- products purchased by foreigners were still made in Canada • Imports EXCLUDED- money spent by Canadians on foreign products that were not made in Canada does not reflect Canadian production.
GDP and Living Standards Per capita GDP: GDP per person Per capita GDP is frequently used as a measure to evaluate the living standards in Canada today compare with the past living standards. It also shows how Canadian economics’ performance compares with other countries’. Per capita GDP = GDP Population
Adjustments to Per Capita GDP • Depending on how per capita GDP is to be used, either of two adjustments can be made to it: inflation adjustment or exchange-rate adjustments.
Inflation Adjustments • This adjustment is done by using real GDP, which is GDP expressed in constant dollars from a given year. • When a country’s real GDP is divided by its population, the result is per capita real GDP, which is GDP per person expressed in constant dollars from a given year.
Inflation Adjustments ctn’d • Inflation adjustments allow comparisons to be made between per capita GDP despite changes in price. • Per capita real GDP = Real GDP Population
Exchange-Rate Adjustments • To compare various countries’ per capita GDP for a given year, we must adjust for the different currencies. • This is done by expressing all countries’ GDPs in one currency, the standard being this American dollar
Limitations of GDP • GDP does indicate economic activity and to some extent, living standards. Like all indicators, it has quantitative and qualitative limitation.
Excluded Activities • GDP does not include some types of productive activities. Excluding these activities means that GDP can understate economic activity and living standard • Nonmarket activities:productive activities that take place outside the marketplace. • Underground economy: all the productive transactions that go unreported.
Product Quality • GDP can only add up selling prices, cannot fully capture the quality improvements
Composition of Output • The dollar value basis of GDP is that it tells us nothing about what is produced and purchased
Income Distribution • Citizens in two countries with the same per capita GDP may have very different living standards if one country’s income is equally distributed
Leisure & Environment • Leisure is not bought and sold in the market, so it can’t accounted for by GDP • GDP does not adequately represent another factor: the environment
Other Economic Measures • Gross National Product (GNP) • Gross Domestic Product focuses on incomes made in Canada • Gross National Product is the total income acquired by Canadians internationally
Deduct (a) income earned from Canadian investments by foreigners Net investment income to foreigners Add (b) income earned from foreign investments by Canadians Gross National Product • Two adjustments to GDP in order to have GNP:
Net Domestic Income (NDI) • It represents what is earned by household supplying resources • To obtain NDI, subtract those amounts that are not earned currently • E.g. (I) indirect taxes, (II) depreciation allowances and the (III) statistical discrepancy
Add (1) Government transfer payments (2) Other payments to persons PI Deduct (3) Earnings not paid out to persons (4) Net investment income to foreigners Personal Income (PI) • This is the income actually earned by the households • Several adjustments to NDI are needed to get PI:
Disposable Income (DI) • This is the income that household can actually spend • To get DI, personal taxes and other personal transfers to government have to be subtracted
Discretionary income • This income is either being saved or spent on nonessential items
Deriving Other Income Measures • Gross Domestic Product (GDP) 710.7 • Deduct: Indirect taxes (-)89.4 • Depreciation (-)84.5 Statistical discrepancy (-)2.4
Net Domestic Income (NDI) Net Domestic Income 534.4 Add: Gov’t transfer payments 112.8 Other payments to persons 72.7Deduct: Earnings not paid out to persons (-)59.8Net investment income to foreigners (-)24.7
Personal Income (PI) Personal Income 635.4 Deduct: Personal taxes & other personal transfer to government (-)145.6 Disposable income (DI) 489.8 Deduct: Purchases of necessities (-)XX.X Discretionary income XXX.
Article Hazel Henderson
1. Discretionary income may either be saved or spent on _______ items. A. fun B. non-essential C. stinky D. worthless
2. According to a United Nations report which country is the best place to live in? A. Canada B. Switzerland C. Japan D. Norway
3. Per Capita GDP is frequently used as a measure of ___________. A. Living Standards B. Temperature C. Weight D. Shoe Size