Lecture Notes I: Introduction to Macroeconomics and National Income Accounting

Jai Leonard I. Carinan

Lecture Notes 1

Introduction to Macroeconomics and National Income Accounting

Macroeconomics

the study of the economy as a whole
it deals with broad aggregates
but uses the same style of thinking about economic issues as in
microeconomics.

Some key issues in Macroeconomics

Inflation
o the rate of change of the general price level
Unemployment
o a measure of the number of people looking for work, but who are
without jobs
Output
o real gross national product (GNP) measures total income of an
economy
it is closely related to the economy's total output
Economic growth
o increases in real GNP, an indication of the expansion of the
economys total output
Macroeconomic policy
o a variety of policy measures used by the government to affect the
overall performance of the economy
taxes
government spending
money supply
interest rates
exchange rates

Main Macroeconomic Variables

GDP/GNP
Inflation
Interest Rates
Exchange Rates
Unemployment Rate
Stock Market







Lecture Notes I: Introduction to Macroeconomics and National Income Accounting
Jai Leonard I. Carinan
The Circular flow Model

Assumptions

Factor income = household spending
o all income is spent
The value of output = spending
o all goods are sold
value of output = households income
o profits, wage or rent to households


















Firms
Households
Services of
productive factors
Factor Incomes
Goods & Services
Spendings on
Goods & services
Lecture Notes I: Introduction to Macroeconomics and National Income Accounting
Jai Leonard I. Carinan
Investment and Saving

Investment
o is the purchase of new capital goods by firms
Saving
o is that part of income which is not spent buying goods and
services


National Income Accounting

National Income Accounting is a branch of macroeconomics that captures the
total flows of income as well as of goods and services within a certain period.

GDP and GNP

Gross domestic product (GDP)
Gross Domestic Product is the market
value of all final goods and services
produced within a country within a
year.

Gross national product (GNP)
o measures the total income earned by domestic citizens
GNP = GDP + net income from abroad
Y : GDP
C: households spending on consumption
S: saving
S Y - C or Y C + S
Y or GDP by expenditure
Firms
Households
Goods & Services
Spendings on
Goods & services
Services of
productive factors
Factor Incomes

Investment
spending

Saving

Lecture Notes I: Introduction to Macroeconomics and National Income Accounting
Jai Leonard I. Carinan
Y C +I or
Y C + I = C + S
thus S I


Over any given period of time, the National Income Accounting Definitions are
such that the amount of Investment Spending must be exactly equal to the
amount of Household Saving (in the simple economy so far considered).


The circular flow of income, expenditure and output






Government in the circular flow
Government
o collects direct taxes on factor income
wages, profit, rent Td
o collects indirect taxes (sales taxes) on sales Te
in Turkey KDV (katma deger vergisi)
o Spends on goods and services G
wages of civil servants, military expenses, health,
education, all equipment

Y
Households Firms
C + I
I
C
S
Lecture Notes I: Introduction to Macroeconomics and National Income Accounting
Jai Leonard I. Carinan

Three Measures of National Output

A. Expenditure Approach
the sum of expenditures in the economy
Y = C + I + G + X Z

Components of GDP

Consumption expenditures are for
Durable goods, products that last more than one year (cars,
appliances)
Nondurable goods, products that last less than one year (food,
clothing)
Services (medical care, insurance)

Investment includes:
Business Fixed Investment
Nonresidential - business purchases of plant and
equipment
Residential - construction of new houses
Change in Business Inventories
The difference between what a firm produces and what it
sells within the year
Economic investment does not include purchases of stocks,
bonds, and other financial assets

Government Spending
Y
C + I + G
I
C
S
Households Firms Government
C + I + G
- T
e

T
G
B - T
d
Y + B
T
Lecture Notes I: Introduction to Macroeconomics and National Income Accounting
Jai Leonard I. Carinan
Government expenditures may also be classified as consumption
and investment spending.
Government transfer payments are not included in GDP.

Net Exports
+ Spending by foreigners on local production
- Spending by local consumers, businesses, government on foreign
production.

B. Income Approach
the sum of incomes paid for factor services

Components of National Income

Compensation of Employees
Wages and salaries paid to individuals and employer contributions
for social security and other pension and health funds
Proprietors Income
Earnings of sole proprietorships and partnerships
Rental Income
Income from property, received by households
Net Interest
Income private businesses pay to households that have lent them
money
Corporate Profits
Revenue left after compensation to employees, rents, and interest
have been paid

C. Output Approach
the sum of output (value added) produced in the economy
Measures economic activity from the product side. It focuses on
the value added within a country. Gross value added is the sum of
all output values corrected for intermediate inputs

D. Personal Disposable Income
Personal Disposable Income (PDI) is the amount of income
individuals have left after paying all personal taxes.
PDI is the amount of income individuals have to spend on goods
and services.

E. Welfare Considerations
Legal nonmarket activities are excluded from GDP.
Illegal nonmarket activities are excluded from GDP.
Resource depleting activities are included in GDP.






Lecture Notes I: Introduction to Macroeconomics and National Income Accounting
Jai Leonard I. Carinan
In terms of formulae

We know from the expenditure approach that everything produced in a country
in a period is consumed, in the wider sense, as private consumption,
government consumption, investment, and net exports. This can be expressed
in a basic formula:

GDP= Y= C+ I+ G + (X-M)

Approaching from the income side, we see that all income is spent on
consumption, savings, or taxes. Accordingly, we receive:

GDP= Y= C + S + T

Both are identities that have to hold all the time. We can therefore always
combine them to get

C + S + T= C+ I+ G + (X-M)

which can obviously be rewritten as

(S-I)+ (T-G)= (X-M)


NOTE:
In a closed economy: X-M=0 Private savings are invested or pay a
government budget deficit

Without a government: T-G=0 Private savings are invested at home or
abroad

Closed economy without government: S=I!

References

Dornbusch, R., Fischer, S. and Startz, R., Macroeconomics, 7
th
edition,
1998.

Colander, David C. Macroeconomics, 6
th
edition, Wall Street Journal
Edition, Irwin/McGraw Hill.