Macroeconomic Analysis and Policy

Biswa Swarup Misra

Session-4

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In these Sessions, we look for the answers
to these questions:

▪ GDP at 2011-12 base

▪ Methodological Changes in GDP at 2011-
12 Base
▪ Questions on GDP
▪ Basis for Growth Projections

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 GDP of India at
2011-12 Base

MEASURING A NATION’S INCOME B.S.Misra 2

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 GDP in 2012 base
▪ GDP at factor cost=GVA at factor cost=payment to all
factors of production excluding government. In this
concept we don’t use any form of tax or subsidies
for adjustment
▪ GVA at basic price= GVA at factor cost + production
tax-production subsidy.
▪ GDP at market price=Payment to factors of
production + production tax+ product tax-
production subsidy-product subsidy
▪ =payment to all factors of production including
government
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 GDP in 2012 base
▪ Before the product is sold to the consumer, the
distributor or wholesaler purchases the product
from the producer.
▪ The producer charges the distributor not only the
payment to factors of production but also the
amount paid to government on production like
license fee, land revenue, stamp duty and
registration fees .
▪ The retailer while sells the product to the consumer
also collects sales tax for the government from the
consumer.
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 GDP in 2012 base
▪ Production taxes or subsidies are paid or received
with relation to production and are independent of
the volume of actual production. Some examples are:
▪ Production Taxes - Land Revenues, Stamps and
Registration fees and Tax on profession
▪ Production Subsidies - Subsidies to Railways,
Subsidies to village and small industries,
Administrative subsidies to corporations or
cooperatives, etc.

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 GDP in 2012 base
▪ Product taxes or subsidies are paid or received on
per unit of product. Some examples are:
▪ Product Taxes: Excise Tax, Sales tax, Service Tax
and Import and Export duties
▪ Product Subsidies: Food, Petroleum and fertilizer
subsidies, Interest subsidies given to farmers,
households etc through banks, Subsidies for
providing insurance to households at lower rates

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 Methodological Changes in GDP at 2011-12 Base

▪ Two kinds of approaches - establishment and

enterprises- are used in calculating manufacturing
production.
▪ Till now, only establishment approach was used
which means calculating production plant by
plant. On the other hand, in enterprises approach
the activities at headquarters are taken into
account.
▪ For instance, after an item is produced, various
marketing and sales promotion efforts go at
headquarters level.
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 Methodological Changes in GDP at 2011-12 Base

▪ Change in headline to GDP at market prices from

GDOP at factor cost.
▪ The headline GDP includes indirect taxes but
excludes subsidies.
▪ Earlier, GDP growth was estimated at factor cost,
which excludes indirect taxes but included
subsidies.
▪ Expenditure on Research & Development (R&D) in
public sector is now considered as part of capital
formation. These were earlier treated as current
expenditure 11
 Methodological Changes in GDP at 2011-12 Base

▪ Corporate Sector-In the 2004-05 series, the Private Corporate

Sector was being covered using the RBI Study on Company
Finances, wherein estimates were compiled on the basis of
financial results of around 2500 companies.
▪ In the new series, comprehensive coverage of Corporate Sector
has been ensured in mining, manufacturing and services by
incorporation of annual accounts of companies as filed with the
Ministry of Corporate Affairs (MCA) under their e-governance
initiative, MCA21.
▪ Accounts of about 5 lakh companies have been analysed and
incorporated for the years 2011-12 and 2012-13, while the
number of common companies (companies for which accounts
are available for the year 2012-13) is around 3 lakh for the
year 2013-14. 12
 Methodological Changes in GDP at 2011-12 Base

➢ The activities, ‘Recycling of metal waste and scrap + non-metal

waste and scrap’, which was earlier part of manufacturing and
‘Sewerage and other waste management services’ have been
clubbed to form the category ‘Remediation and other utility
services’, and will be reflected in the group ‘Electricity, gas,
water supply and other utility services’.
➢ ‘Repair of computers’, which was earlier part of computer
related activities, to be a part of ‘Repair of personal and
household goods” and reflected in ‘Trade & Repair Services’.
➢ ‘Recording, Publishing and Broadcasting Services’ to form a
new category, and reflected in the group ‘Communication &
Services related to broadcasting’.
➢ Sewage activities removed from services sector and made a
part of Electricity, Gas, Water Supply and Utility Services. 13
 Questions with
Answers on GDP

MEASURING A NATION’S INCOME B.S.Misra 14

Exercise 1:
GDP and its components
In each of the following cases, determine how much GDP and each of
its components is affected (if at all).
A. Abhinav spends Rs.200 to buy his friend dinner
at Mayfair, the finest restaurant in Bhubaneswar.
B. Aditi spends Rs.1800 on a new laptop to use in his business. The
laptop was built in China.
C. Barnali spends Rs.1200 on a computer to use in her business.
She got last year’s model on sale for a great price from a local
manufacturer.
D. Tata Motors builds Rs.500 million worth of cars,
but consumers only buy Rs.470 million worth of them.

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Exercise 1:
Answers
A. Abhinav spends Rs. 200 to buy his friend dinner
at Mayfair.
Consumption and GDP rise by Rs. 200.

B. Aditi spends Rs.1800 on a new laptop to use in his

business. The laptop was built in China.
Investment rises by Rs.1800, net exports fall
by Rs.1800, GDP is unchanged.

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Exercise 1:
Answers
C. Barnali spends Rs.1200 on a computer to use in her
business. She got last year’s model on sale for a great
price from a local manufacturer.
Current GDP and investment do not change, because the
computer was built last year.

D. Tata Motors builds Rs.500 million worth of cars, but

consumers only buy Rs.470 million of them.
Consumption rises by Rs.470 million,
inventory investment rises by Rs.30 million,
and GDP rises by Rs.500 million.

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How Will the following Events Affect
GDP and Why?
a. An earthquake destroys part of Rajasthan.

b. You sell your old macroeconomics

textbook to another student.
c. You sell your holdings of Infosys stock.
d. A retired worker gets an increase in
Pension benefits.

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 Answers
▪ a. When an earthquake destroys property, wealth is
affected. If a significant amount of the capital stock is
destroyed, then less can be produced in the time period
under study, leading to a decrease in GDP. On the other
hand, the rebuilding of destroyed property means that
increased economic activity will take place, leading to an
increase in GDP.
b. The sale of your old textbook will not constitute an official
market transaction. In addition, the textbook has already
been used and is not currently produced. Therefore GDP
will not be affected.

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 Answers
▪ c. The sale of existing stock holdings is a transfer of wealth
and, as such, does not affect GDP. Any fees that you may
have to pay your broker for his or her services, however,
constitute payment for services rendered. GDP will
increase by that amount.

▪ d. Transfer payments that do not arise from productive

activity are not counted in GDP. Thus GDP will not be
affected when pension benefits are paid. (Only later, when
these payments are spent, will consumption increase.)

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 Exercise-1
Using the following data, calculate the GDP and NDP.
Calculate under closed and open economy.

▪ Gross Investment $46

▪ Exports 9
▪ Consumption 180
▪ Government Purchases 84
▪ Consumption of Fixed Capital 52
▪ Imports 12

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 Solution-1
▪ Under Open Economy
▪ GDP = C + I + G + NX
▪ = $180 + $46 + $84 + ($9 - $12)
▪ = $307
▪ NDP = GDP – Consumption of Fixed Capital
▪ = $307 - $52
▪ = $255

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 Solution-1
▪ Under Closed Economy
▪ GDP = C + I + G
▪ = $180 + $46 + $84
▪ = $310
▪ NDP = GDP – Consumption of Fixed Capital
▪ = $310 - $52
▪ = $258

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 Exercise-2
▪ Using the following data, derive GDP, NDP, National
Income, Personal Income, Personal Disposal Income, GNP,
and NNP. Which economic indicator is higher, GDP or GNP?
Why?
Personal Consumption Expenditures $490 Indirect Business Taxes 70
Interest 40 Imports 30
Corporate Profit 70 Proprietor’s Income 55
Government Purchases 150 Income Tax 100
Depreciation 40 Income Earned but not received 60
Rent 20 Income Received but not earned 70
Gross Private Domestic Investment 50 Factor Incomes to Overseas 25
Compensation of Employees 420 Exports 50
Factor Incomes from Overseas 30

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 Solution-2
▪ 2. Expenditure Approach
▪ GDP = C + I + G + NX= $490 + 50 + 150 + (50-30)= $710
▪ GDP@ factor cost =GDP@ market price + S - IT=710-70=640
▪ GNP@MP=GDP@MP+NFIA=710+(30-25)=715
▪ NI=NNP@FC=NNP@MP+S-IT=(GNP@MP-DEP)+S-IT=715-40-
70=605
▪ PI=NI+IRNE-IENR=605+70-60=615
▪ PDI=PI-IT=615-100=515
▪ NNP=GNP-DEP=715-40=675
▪ NDP= GDP – Depreciation= $710 - $40= $670
▪ Since the NFIA is positive GNP>GDP.
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 Solution-2
National Income = Employees Compensation (Wages and
Salaries) + Corporate Profits + Sole Proprietor’s Income +
Net Interest Income + Rental Income
▪ = $420 + 70 + 55 + 40 + 20
▪ = $605
▪ Personal Income = National Income – Income earned but
not received + Income received but not earned
▪ = $605 - $60 + $70 = $615
Personal Disposable Income = Personal Income – Income Tax
▪ = $605 - $100
▪ = $515
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 Solution-2
▪ Income Approach
▪ GDP = National Income + Depreciation + Indirect Business
Taxes + Net Factors Payments (factors incomes/payments
to overseas – factor incomes/payments from overseas)
▪ = $605 + $40 + $70 + ($25 - $30)
▪ = $710
▪ GNP = GDP – Net Factor Payments to the rest of the world
= $710 – ($25 - $30) = $715
Since the net factor payments to the rest of the world is
negative, therefore GDP<GNP.

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 Exercise-3
The following information is given:

Personal Consumption Expenditures $500 Indirect Business Taxes 105

Interest 40 Imports 30
Corporate Profit 85 Proprietor’s Income 50
Government Purchases 150 Income Tax 120
Depreciation 45 Income Earned but not received 80
Rent 25 Income Received but not earned 90
Gross Private Domestic Investment 70 Factor Incomes to Overseas 50
Compensation of Employees 400 Exports 80
Factor Incomes from Overseas 30
Using the following information, calculate the GDP (using the
expenditure approach), NDP, National Income, Personal Income,
Disposable Income, GNP, and NNP. Which economic indicator is
higher, GDP or GNP? Why?
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 Solution-3
▪ Expenditure Approach
▪ GDP = C + I + G + NX
▪ = $500 + 70 + 150 + (80-30)
▪ = $770
▪ NDP = GDP – Depreciation
▪ = $770 - $45
▪ = $725
▪ National Income = Employees Compensation (Wages and
Salaries) + Corporate Profits + Sole Proprietor’s Income +
Net Interest Income + Rental Income
▪ = $400 + 85 + 50 + 40 + 25
▪ = $600 29
 Solution-3
▪ Personal Income = National Income – Income earned but
not received + Income received but not earned
▪ = $600 - $80 + $90= $610
▪ Personal Disposable Income = Personal Income – Income
Tax
▪ = $610 - $120 = $490
▪ GNP= GDP + Net Factor Payments to the rest of the world=
$770 + ($30-$50)= $750
▪ GDP = NI + IBT + CCA + NFP
▪ = $600 + $105 + $45 + 20 = $770
▪ Since the net factor payments to the rest of the world is
positive, therefore GDP>GNP.
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 GDP by
Purchasing Power
Parity

MEASURING A NATION’S INCOME B.S.Misra 31

 Big Mac Index: The Economist
▪ Looks at the prices of a Big Mac burger in McDonald's
restaurants in different countries.
▪ If a Big Mac costs US$4 in the U.S. and GBP£3 in Britain, the
PPP exchange rate would be £3 for $4.
▪ The Big Mac Index is presumably useful because
• it is based on a well-known good
• whose final price, easily tracked in many countries
• includes input costs from a wide range of sectors in the
local economy, such as agricultural commodities labour,
advertising, rent and real estate costs, transportation,
etc.
• The Big Mac Index is inaccurate in certain cases because
of the different market conditions that exist in differing
McDonald's locations. 32
 Why PPP Exchange Rates?
▪ Currencies are traded for purposes other than trade in goods
and services, e.g., to buy capital assets whose prices vary
more than those of physical goods.
▪ Also, different interest rates, speculation, hedging or
interventions by central banks can influence the foreign-
exchange market.
▪ A purchasing power parity exchange rate equalizes the
purchasing power of different currencies in their home
countries for a given basket of goods.
▪ It is often used to compare the standards of living between
countries, rather than a per-capita gross domestic products
comparison at market exchange rates

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