MACROECONOMIC

ENVIRONMENT

2. THE DATA OF
MACROECONOMICS
 Introduction : National Income
Accounts
• National income and product accounts are
an accounting system used to measure
aggregate economic activity.

• The measure of aggregate output in the

national income accounts is gross domestic
product, or GDP.

• Output measured as GDP = value of all final

goods and services produced within a country
over a particular period of time (a year).
 Introduction : National Income
Accounts
• Why do we study the national income accounts?
1. National income accounting provides structure for
our macroeconomic theory models.
2. Introduces statistics that characterize the economy.

• Output defined in three ways

1. Production side: output produced which also
involves payments to workers in wages, capital in
interest and dividends, and profits (i.e income side).
2. Demand side: output = purchases by different
sectors of the economy.

- As per accounting, output measured via demand and

production & income equal in equilibrium.
The Components Of
The Macroeconomy

The circular flow

diagram shows the
income received and
payments made by
each sector of the
economy.
The Components Of The Macroeconomy
Everyone’s
expenditure is
someone else’s
receipt. Every
transaction must
have two sides.
 The Components Of
The Macroeconomy

• Transfer payments are payments made

by the government to people who do not
supply goods, services, or labor in
exchange for these payments.
GDP Definition : As Per Expenditure
Approach

GDP is the value of the final goods and

services produced in the economy during
a given period (of one year).
• A final good is a good that is destined for final
consumption.
• An intermediate good is a good used in the
production of another good.
 Different Approaches For Calculating
GDP (at Market Price)
1. Expenditure Approach
2. Production (or Value Added) Approach
3. Income Approach

• The three methods yield the same result

because total expenditures on goods and
services is equal to the value of goods and
services produced which is equal to the total
income paid to the factors that produced the
goods and services.
GDP: Expenditure Approach
• There are three ways of computing GDP
1. Expenditure Approach –
It measures GDP (at market prices) using final
sales approach

GDPMP = C + Ig + G + NX

C = consumption spending of individuals

Ig = investment spending by business
G = government expenditures
NX= net exports (exports – imports)
 GDPmp
GDPmp == CC ++ Ig
Ig ++ G
G ++ NX
NX
Totaldemand
Total demand Investment
Investment
fordomestic
for domestic isiscomposed
composed spendingby
spending by
output(GDP)
output (GDP) of
of businesses.
businesses.
Netexports
Net exports
ornet
or netforeign
foreign
Consumption Government
Government demand.
demand.
Consumption
spendingby
spending by purchasesof
purchases ofgoods
goods
households.
households. andservices.
and services.

This is the called the national income accounts identity.

1) To compute the total value of different goods and
services, the national income accounts use market
prices (GDP at market prices).

2) Used goods are not included in the calculation of

GDP.

3) Change in inventories is added to GDP. If the goods

are stored, their value is added in GDP. If they spoil,
GDP remains unchanged. When the goods are finally
sold out of inventory, they are considered used goods
and the negative change in inventories is added to
GDP.
4) Intermediate goods are not counted in GDP–
only the value of final goods. Reason: the value
of intermediate goods is already included in the
market price.

5) Some goods are not sold in the marketplace

and therefore don’t have market prices and are
not counted in GDP. For example, a housewife
doing household chores and not charging
anything for it.
 More Rules
• NGO services like education, health.

• Investing in stocks/shares.

• own construction activities

• black market activities.

 2. GDP: Value Added Approach (Production
Approach)
2. GDP is the sum of value added in the economy during
a given period.
Value Added = Value of output – Value of Intermediate
consumption
VA is the extra value created at each stage of the
production process.
Value of Output = Value of the total sales of goods and
services + Value of changes in the inventories.
The sum of Value Added in various economic activities
(minus production taxes plus production subsidies) is
known as GDP at factor cost.
GDP at factor cost plus indirect taxes less subsidies is
GDP at Market Price.
 Income Approach GDP, GNP, NNP, NI

• GNPMP = GDPMP – payments of factor incomes to rest of the world + receipts of

factor income from rest of the world.

• GNPMP – depreciation = NNPMP

• NNPMP – product taxes + product subsidies = NNP BP

• NNPBP – production taxes + production subsidies = NNP FC

• NNPMP – indirect taxes + subsidies = NNPFC = NI

• NI – IEBNR + IRBNE = PI
• PI – direct taxes = YD

• NI – direct taxes + transfers = YD (disposable income).

• YD = C + S

• YD is the amount of money that households have available for spending and
saving after income taxes have been accounted for.
Income, Expenditure And the Circular Flow

Compensation for services of economic

resources (NNPFC)

Indirect taxes

Household Direct taxes Govt Business

sector on income sector sector

Govt expen-
diture (G)

Consumer spending(C)

Household saving=investment spending(I)

NNPMP = NNPFC (i.e Y) + indirect taxes = C + In + G

 Components of Demand
• Total demand for domestic output is made
up of four components:
1. Consumption spending by households (C)
2. Investment spending by firms (I)
3. Government spending (G)
4. Foreign demand for our net exports (NX)

- The fundamental national income accounting identity is

-
Y C  I  G  NX
 Consumption
• Consumption = purchases of goods and services by the
household sector.
– Includes spending on durable (eg. Cars), non-durable
(eg. Food), and services (eg. Medical services).
– Consumption is the primary component of demand.

• Consumption as a share of GDP varies by country.

• In India, it comprises approximately 60% of GDP (2019).

• In Japan, it is 56% of GDP (2018), in USA it is 68% of GDP
approximately(in 2018); in UK it is 65% of GDP (in 2019).
China's Private Consumption accounted for 39.4 % of its
Nominal GDP in Dec 2018.
 Consumption
• Imputed rent
• Payments and fees to govt to obtain
permits and licenses.
• House construction & valuables
• Agricultural output for own consumption
• Maids, drivers etc.
• Consumption of resident households.
 Government
• Includes Government (centre plus state govts)
purchases of goods and services required for providing
govt output such as national defence, police, fire,
education, parks, roads etc

• Government also makes transfer payments = payments

made to people without their providing a current service
in exchange.
– Eg. Social security, unemployment benefits
– Transfer payments are NOT included in GDP since
they are not a part of current production.
– i.e total Government expenditure = transfers +
purchases (but transfers are not included in GDP
computation).
 Government
• G = output of administrative deptts

= total current expenditure of admin

deptts for producing govt services.

= compensation of employees + net

purchase of goods & services.
 Investment
• Investment = additions to the physical stock of
capital (i.e. building machinery, construction of
factories, additions to firms inventories).

• In the national income accounts, investment is

associated with business sector’s adding to the
physical stock of capital, including inventories.
– Household’s building up of inventories is
considered consumption, although new home
constructions are considered part of I, not C.

• Gross investment is included in GDP measure,

which is net investment plus depreciation.
 Net Exports
• Accounts for domestic purchases of foreign goods
(imports) and foreign purchases of domestic goods
(exports) : NX = Exports – Imports.
– We subtract imports from GDP since we are
accounting for total demand for domestic production.

• NX can be >, <, or = 0

India NX has always been negative  trade deficit. Its
CAB/GDP was -2.8% in 2009-10, -4.2% in 2011-12,

-4.6% in 2012-13, -1.7% in 2013-14, -1.7% in 2014-15,

-0.7% in 2016-17, -2.6% in 2018-19, 1.5% in 2019-20.
Base year is 2011-12 Eco survey, 2019-20
Economic survey 2013-14
Eco survey, 2013-14 : key indicators
 Nominal and Real GDP
• Nominal GDP is the sum of the quantities of final goods
produced times their current price.

• Nominal GDP increases over time because:

1. The production of most goods increases over time.
2. The prices of most goods also increase over time.

• Real GDP is constructed as the sum of the quantities of

final goods times constant (rather than current) prices.
 Nominal and Real GDP
• Nominal GDP is also called rupee GDP or GDP in
current rupees.

• Real GDP is also called GDP in terms of goods, GDP in

constant rupees, GDP adjusted for inflation, or GDP
in 2004-05 rupees.

• This conversion from nominal to real units allows us to

eliminate the problems created by having a measuring
stick (rupee value) that essentially changes length over
time, as the price level changes.

• Eg: price index of base year (2004-05) = 100

price index of current year (2005-06) = 110
Real GDP(2005-06) = nominal GDP of 2005-06 x 100
110
 Calculating Real GDP
Let’s see how real GDP is calculated in a simple apple & orange
economy. For example, if we wanted to compare output in 2002
and output in 2003, we would obtain base-year prices, such as
2002 prices.
Real GDP in 2002 would be:
(2002 Price of Apples  2002 Quantity of Apples) +
(2002 Price of Oranges  2002 Quantity of Oranges).
Real GDP in 2003 would be:
(2002 Price of Apples  2003 Quantity of Apples) +
(2002 Price of Oranges  2003 Quantity of Oranges).
Real GDP in 2004 would be:
(2002 Price of Apples  2004 Quantity of Apples) +
(2002 Price of Oranges  2004 Quantity of Oranges).
GDP : Expansions And Recessions

• GDP growth equals:

(Yt  Yt  1 )
X 100
Yt  1
 Periods of positive GDP growth are called
expansions.

 Periods of negative GDP growth are called

recessions.
 Economic Growth and Fluctuations
Short Run Business Cycle

• A recession is a period during which aggregate output

declines. Two consecutive quarters of decrease in
output signal a recession.

• A prolonged and deep recession becomes a

depression.

• An expansion is a period during which real GDP

increases.
 The Business Cycle and the Output Gap

• Business cycle is the pattern of expansion and contraction

in economic activity about the path of trend growth in the
SR.
– Trend path of GDP is the path GDP would take if
factors of production were fully utilized-potential output.
• Deviation of output from the trend is referred to as the
output gap.
– Output gap = actual output – potential output.
– Output gap measures the magnitude of cyclical
deviations of output from the potential level.
Expansion and Contraction:
The Business Cycle
• An expansion, or boom, is the
period in the business cycle from a
trough up to a peak, during which
output and employment rise.
(or potential
output)

• A contraction, recession,
or slump is the period in
the business cycle from a
peak down to a trough,
during which output and
employment fall.
 Economic Growth and Fluctuations

• Potential GDP is the value of real GDP when all

the economy’s labour, capital, land, and
entrepreneurial ability are fully employed – trend
rate of growth.

• Potential GDP shows productive capacity of a

nation.
 What GDP REVEALS

• Per capita GDP tells us whether average

citizen is better off or worse off.
 What GDP Does Not Reveal
• It does not tell us anything about environmental
damage &/or depletion of non renewable natural
resources.

• It does not tell us anything about health, education,

standard of living of residents or anything about
gender equality.

• It does not capture equality/inequality of distribution

of GDP among residents.
 The Other Major
Macroeconomic Variables

• GDP is obviously the most important

macroeconomic variable. But two
other variables tell us about other
important aspects of how an economy
is performing:

1. Unemployment
2. Inflation
 Unemployment
• Unemployment is a state in which a person does not
have a job but is available for work, willing to work, and
has made some effort to find work within the previous
four weeks (ILO definition).

• The labor force is the total number of people who are

employed and unemployed.

• The unemployment rate is the percentage of the people

in the labor force who are unemployed.

• A discouraged worker is a person who is available for

work, willing to work, but who has given up the effort to
find work.
 U rate in India
• In India, the unemployment rate measures the
number of people actively looking for a job as
a percentage of the labour force as per NSSO.

• U rate (Feb 2019) = 7.2%

• U rate (Feb 2018) = 5.9%
• U rate (April 2020) = 23.5%
• U rate (Sept 2020) = 6.7%
• U rate (August 2021) = 8.3%
• U rate (September 2021) = 6.9%
 Types of Unemployment

•cyclical u;

•structural u;

•classical u;

•frictional u
 The Inflation Rate;
• Inflation is a sustained rise in the
general level of prices—the price level.

• The inflation rate is the rate at which

the price level increases.

• Deflation is a sustained decline in the

price level, or a negative inflation rate.
 The GDP Deflator
Pt = nominal GDP x 100
real GDP
• The GDP deflator is what is called an index number—set
equal to 100 in the base year.

• The rate of change in the GDP deflator equals the rate of

inflation:
( Pt  Pt  1 )
Pt  1
 The Consumer Price Index
• The GDP deflator measures the average
price of output, while the consumer price
index (CPI) measures the average price
of consumption, or equivalently, the cost
of living.

• The CPI and the GDP deflator move

together most of the time.
 CPI Versus The GDP Deflator
The GDP deflator measures the prices of all goods produced,
whereas the CPI measures prices of only the goods and
services bought by consumers. Thus, an increase in the price
of goods bought by firms or the government will show up in the
GDP deflator but not in the CPI.
Also, another difference is that the GDP deflator includes only
those goods and services produced domestically. Imported
goods are not a part of GDP and therefore don’t show up in the
GDP deflator.
The final difference is the way the two aggregate the prices in
the economy. The CPI assigns fixed weights to the prices of
different goods every year, whereas the GDP deflator assigns
changing weights.
 Exchange Rate
• Each country has its own currency in which prices are quoted. In the U.S., prices
are quoted in U.S. dollars, in Japan in yen, in most of Europe prices are quoted in
euro, in India in rupees.

• Exchange rate = the price of one country’s currency in relation to another

country’s currency. It is needed for international trade, foreign travel etc.
– In India 1$ = 75.04Rs; 1Euro = 86.6076Rs; 1Pound=102.4757Rs
(01/11/2021).
- The pound is worth U.S. $1.3679; 1 Euro = $1.1555.
- 1$=6.4007CNY

• Floating (or flexible) exchange rate: when two countries agree to let international
market forces of supply and demand determine their ex. rate. It fluctuates
depending on exports and imports of a country.

• Most countries today use floating ex. rates within relatively fixed limits.

• Fixed exchange rate: when two countries agree to keep their ex. rate fixed
through use of monetary policy.
– Bermuda dollar fixed at 1USD=1.0 BMD (01/11/2021).
– Namibia (N dollar), Lesotho (Loti), Swaziland (Lilangeni) (part of common
currency area) have their currency fixed to SA rand.
– 1 Namibian dollar = 1 SA rand;
 National Accounting System In India
• The Central Statistical Organisation is responsible for coordination
of statistical activities in the country, and evolving and maintaining
statistical standards.

• Its activities include National Income Accounting; conduct of Annual

Survey of Industries, Economic Censuses and its follow up surveys,
compilation of Index of Industrial Production, as well as Consumer
Price Indices for Urban, rural employees and combined CPI, Human
Development Statistics, Gender Statistics, imparting training in
Official Statistics, Five Year Plan work relating to Development of
Statistics in the States and Union Territories; dissemination of
statistical information, work relating to trade, energy, construction,
and environment statistics, revision of National Industrial
Classification, etc.

• The CSO is located in Delhi. Some portion of Industrial Statistics

work pertaining to Annual Survey of industries is carried out in
Calcutta.
National Accounting System In India
• National Sample Survey Office (NSSO) {under
Ministry Of Statistics And Programme Implementation}
conducts nationwide sample surveys on various socio-
economic issues in successive rounds, each round
covering subjects of current interest in a specific survey
period. The organisation has four divisions :

(i) Survey Design and Research Division (SDRD)

(ii) Field Operations Division (FOD)
(iii) Data Processing Division (DPD) and
(iv) Co-ordination and Publication Division (CPD)

• NSS 66th round (2009-10)

• Latest NSS 78th round (2021-22).
 Other Sources Of India Data
• RBI : money supply, roi, BOP data, exchange rates.
• Ministry Of Finance, DEA; CSO; RBI; Planning
commission : GDP data.
• Dept Of Industrial Policy and Promotion(Ministry of
commerce and industry) : WPI.
• Dept Of Industrial Policy and Promotion, Labour Bureau :
CPI-IW; CPI-AL
• CSO : CPI(urban), CPI(rural), CPI(combined)
• NSSO, Ministry Of Labour & Employment : employment,
unemployment data
• Ministry of Finance, Planning commission : budget
documents, economic survey.
• DGCIS, Kolkata : exports, imports data (directorate
general of commercial intelligence & statistics).
• Office of the Registrar General Of India; Ministry of
Home Affairs : Population data
 EXERCISE
2(a). In the small country of Eurasia people do salmon
fishing, they produce canoes and also grow corn. In 2003
they produced 5000 canoes using labour and natural
materials only, but sold only 4000, as the economy
entered a recession. The cost of producing each canoe
was $1000, but the ones that sold were priced at $1250.
They fished $30 million worth of salmon. They used $3
million of the salmon as fertilizer for corn. They grew and
ate $55 million of corn. What was Eurasia’s GDP in 2003?
Explain your methodology.
 Exercise
• Given Indirect taxes = Rs 35 lks; YD = Rs
5100 lks; direct taxes = Rs 900 lks.
Calculate NNPmp.
 Exercise 1
• Using the data given below relating to the components of
the consumer price index of a country, determine the
annual rate of inflation for 2006 as measured by the
change in the consumer price index.
-------------------------------------------------------------------------------
Item Index weight Price index on 31st Dec, 2005 Price index on 31st Dec, 2006
Food 20 140 145
Housing 20 126 135
Transport 15 152 146
Other Goods 15 130 125
-------------------------------------------------------------------------------
 Exercise 2
Consider an economy that consists only of those who
bake bread and those who produce its ingredients.
Suppose that this economy’s production is as follows: 1
million loaves of bread (sold at $2 each); 1.2 million
pounds of flour (sold at $1 per pound); and 100,000
pounds each of yeast, sugar, and salt (all sold at $1 per
pound). The flour, yeast, sugar, and salt are sold only to
bakers, who use them exclusively for the purpose of
making bread.

a) What is the value of output in this economy (i.e.

nominal GDP)?
b) How much value is added to the flour, yeast, sugar,
and salt when the bakers turn them into bread?
 Exercise 3
• Kongkong is a small island nation. Its population
total is 400 and it has 100 wage earners who
earn an average of $50 per year. Each wage
earner spends $40 per year buying local goods
and services and $3 per year buying imports.
The island exports a total of $800 worth of
goods. The govt tax rate is 10% and all govt
money is spent on building infrastructure and
supporting schools. There is only on industry (al
mining) on the island and it employs every wage
earner. The industry spends $600 each year on
new mining equipment.
• Calculate GDP of the country.