Chapter Focus
Gross Domestic Product (GDP), and the two approaches to calculating it
The components of GDP
Per capita GDP, and how it may be used to compare GDPs of different years or different countries
Recall
Recall that businesses track revenues and expenditures in their accounts thereby allowing managers and owners to pinpoint ways improving a businesses performance
Statistics Canada keeps track of the Canadian economy via national income accounts
of all of all
Breakdown Approach
of
the
Income
Made up of 7 categories
1. Wages and Salaries 2. Corporate Profits 3. Interest Income 4. Proprietors Incomes and Rents These form the basis of GDP calculated using the income approach
the
Income
Indirect Taxes Depreciation Statistical Discrepancy These are added on by Statistics Canada in order to balance GDP calculated by the income approach with GDP calculated by the expenditure approach Using the income approach, GDP is the sum of all 7 categories
Corporate Profits
Includes all of the profits declared to the government by corporate businesses such as the profits paid as corporate income tax, the profits paid out to corporate shareholders as dividends and retained earnings
Retained Earnings: profits kept by businesses for new investment
Interest Income
Includes interest paid on business loans and bonds and income such as royalty payments (the latter occurring less frequently) Includes adjustments to the value of businesses unsold products Does not include interest payments made by consumers and government because these are viewed as transfers of purchasing power
Indirect Taxes
Taxes that are charged on products rather then be applied to households or businesses (i.e.: P.S.T) Not included in the GDP with the income approach, but rather with the expenditure approach To balance the results from the 2 approaches, taxes -- subsidies that businesses receive are added to income-based GDP
Depreciation
Like indirect taxes, must also be added to the income approach
Includes durable assets such as buildings, equipment and tools that eventually wear out and need to be replaced Considered a cost of business and shows up in the expenditure approach
Statistical Discrepancy
GDP figures are actually estimates due to businesses/persons records being faulty or missing The discrepancy between the two approaches is known as the statistical discrepancy This can be seen in Figure 10.3
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
Ex: Flour that is bought by a household for home baking is a final product. Flour that is bought by a bakery to make bread to be sold is an intermediate product
Double Counting
This occurs when the values of all products, both final and intermediate are included in the GDP calculations
Would cause estimates to be too high & not reflect the real activity in the economy
End of Day 1
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Value Added
In order to prevent double counting, the concept of value added is applied to the GDP Value Added: the extra worth of product at each stage in its production; a concept used to avoid double counting in calculating GDP Figure 10. 4 uses a pad of paper at each level of production, the results of double counting and how the concept of vales added deals with it
Categories of Purchases
Recall that expenditure -based GDP is calculated on the basis of almost all purchases in the Canadian economy
Few products are excluded Those that are included, fall under 4 distinct categories
Excluded Purchases
There are two types of excluded purchases: financial exchanges and second-hand purchases
These are excluded because they are not related to current production
Financial Exchanges
This includes a gift of money between family members and is not included in the GDP This is a transfer of of purchasing power from one party to another Also excluded are bank deposits and purchases of stock
Second-Hand Purchases
A.K.A, used goods Excluded from GDP because they have been accounted for previously in their very first transaction to their original owner (first consumer) In brief, if they were included, GDP would double count and thus overestimate
Included Purchases
Included in the GDP calculations
1. Personal consumption (C) 2. Gross investment (I) 3. Government purchases (G) 4. Net exports (X-M) Each contribute to the the economy
Expenditure Equation
GDP = C + I + G + ( X - M )
Personal Consumption
Household spending on goods and services.
Make up 60% of the GDP Goods include: nondurable and durable Nondurable: goods that are consumed just once. Ex: food Durable: goods that are consumed repeatedly over time. Ex: bikes and CDs
Gross Investment
Purchases of assets that are intended to produce revenue. Makes up 15-25% of the GDP year-year Most important spending in this category is on capital goods (machines etc) used by businesses Also included are expenditures by government agencies into capital goods
Government Purchases
Include current spending by all levels of government on goods and services Make up 20% of GDP Ex: The federal government buying a battleship for the Navy, or a municipality hiring a paving company to repair roads Fig. 10.7 shows the role of government in the economys circular flow of money
Net Exports
Final category of purchase and includes the purchases of Canadian goods and services by foreigners, or exports This is calculated via the exports -- imports This is done because while exports include an American furniture store buying Canadian softwood, imports include a Canadian paintball player buying an American paintball gun Represented as net exports, they make up a small % of GDP, yet viewed independently of each other, they each make up about 25% of the GDP
Inflation Adjustments
Takes into account the effects of inflation when analyzing the economic well-being within a country Done by using real GDP GDP expressed in constant $ from a given year Per capita real GDP is calculated the same way as per capita GDP but using the real GDP
End of Day 2
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Limitations of GDP
Recall: GDP is a measure of the total $ value of all final goods and services produced in an economy over a given period Indicates economic activity and living standards (to some extent) Has quantitative and qualitative limitations Does not tell us about what is purchased or produced
Excluded Activities
GDP does not include some types of productive activities meaning that the GDP can actually understate economic activity and living standards Non-market activities: productive activities that take place outside the market place such as housework, unpaid child care and the work of do-it-yourselfers Have vital impact on our living standards
Product Quality
With the introduction of new technology and an increase of living standards, the quality of our goods has increased dramatically over the years GDP can only add up selling prices, cannot fully capture these quality improvements
Composition of Output
Refers to the different uses of GDP between countries A country that dedicates its GDP towards to health care and education would have a much higher standard of living than a country that dedicated its GDP towards military uses
Income Distribution
Recall that incomes may be distributed differently throughout the population the richest 1 per cent alone owned 40 per cent of global assets in the year 2000.
Leisure
Many people consider this important to living standards Despite the fact that we are able to work every hour of the day, people do not The hours worked per week has decreased dramatically over the past century
Leisure Cont.
GDP has no way of representing this change in working hours per week This would indicate in increase in the standard of living Furthermore, leisure is not a commodity and thus cannot be bought or sold on the market
The Environment
GDP does not differ between economic activities that harm the environment, and those that dont May not accurately represent spillover costs and benefits Ex: the cleaning up of an oil spill would be added to GDP, the creation of a new nature preserve would likely not be added
Calculating GNP
1. Income earned from Canadian investments by foreigners is deducted from GDP i.e.: interest payments on a Canadian government bond held in Japan 2. Income earned from foreign investments by Canadians is added to GDP i.e.: a stock dividend from an American company paid to a Canadian sharholder
Personal Income
The income households actually received by
Transfer Payments
Government income payments to net domestic
Received by households
Excluded from net domestic income, but are part of households personal income
Income
to
Recall how foreigners invest into Canada and is represented by a net investment account
This net investment income must subtracted to give personal income be
The income payments are post of GDP and net domestic income
Disposable Income
and
Discretionary
Disposable Income: household income minus personal taxes and other personal transfers to government Used to buy necessities such as food, housing and clothing Discretionary Income: disposable income -- purchases of necessities
End of Day 3
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