Economic Environment
Course book
National Income Accounting
Prof Ashok Thomas
IIM Kozhikode
Chapter 1
National Income Accounting
Introduction
This concept is aimed at showing how economists measure the important outcomes of the macro or
aggregate economy. We will discuss measures of production, such as Gross National Product, measures
of employment, such as the labor -force participation rate and the unemployment rate, measures of
price-level change, such as inflation, and finally, measures of the money supply, such as circulating
cash and checking account deposits.
Vocabulary
v Gross domestic product
v Nominal value
v Real value
Practical Application
The news reports that GDP has increased. What does this really mean? Also, suppose that the
unemployment rate is reported to have declined. Is this good? This unit will give you the tools to be
able to understand the state of an economy, and whether there are economic problems. You will be able
to start to formulate policy to address economic problems.
Approaches to measuring GDP
In this section you will develop an understanding of what the primary measure of economic activity,
gross domestic product or GDP measures. Additionally, you will learn three approaches to measuring
GDP.
Do it yourself
What Does and Doesn't Count for GDP?
For each of the following examples, select whether or not the example counts for GDP.
If it does count for GDP, describe the category that it would fall into from either the
expenditure approach or the value of output: C, Ig, G, or Xn, or the income approach: rent,
wages, interest, profit.
If it doesn't count for GDP, explain why it doesn't.
1) A Japanese car manufacturer produces a truck in Texas that has not been sold so the
truck remains in inventory. Is this part of GDP?
YES NO
2) Dev receives a dividend check from his stock holdings. Is this part of GDP?
YES NO
3) A local insurance agency purchases a certified pre-owned automobile for an
employee. Is this part of GDP?
YES NO
4) Govt: buys new file cabinets for member offices. Is this part of GDP?
YES NO
5) The Millers buy pumpkins from the pumpkin farm to carve for Halloween. Is this
part of GDP?
YES NO
6) Serena buys stock in Disney Corp. Is this part of GDP?
YES NO
7) Computers are produced in Ohio to be shipped to Germany. Is this part of GDP?
YES NO
8) Terrence changes the oil in his car. Is this part of GDP?
YES NO
9) Sammie makes a loan to her good friend Danica. Is this part of GDP?
YES NO
10) Granny Sally receives a social security payment. Is this part of GDP?
YES NO
Multiple choice questions
Question 1) Which of the following is included as an addition to the GDP of country of X
during the 2015 year?
a) A social security payment to a retired teacher in country X in 2015.
b) Textiles produced during 2015 in country Z, by a firm owned by a resident of country
X.
c) The value of topsoil lost in country X in 2015.
d) Canned soup produced in 2014 in country X but consumed in 2015.
e) Shoes produced in country X in 2015, but not sold or consumed in 2015.
Explanation: GDP consists of the value of all final goods and services produced within a
country in a given year. Goods produced in the country but consumed at a future date are
counted in the GDP for the year in which they were produced. Transfer payments, depreciation,
and goods produced in other countries are not included in GDP.
Question 2) For which of the following reasons does GDP per capita have limits as a
measure of social welfare for an ordinary person?
a) GDP does not consider the distribution of income and its inequality.
b) GDP includes investment by businesses, as well as by households.
c) GDP overstates the value of home-produced goods.
d) GDP does not count public goods like education.
e) GDP expenditures do not include imported goods.
Explanation: While GDP considers the values of goods and services, it doesn’t include any
information about the distribution of those goods or inequality, which have significant effects
on social welfare. Public goods and imported goods are included in the calculation of GDP.
Home-produced goods are actually excluded from GDP calculations. GDP calculations include
business investments but this does not have a significant impact on the social welfare of
individuals.
Question 3) Which of the following will increase the investment component of GDP, as
measured from the final goods approach, in a particular time period?
a) Shoes produced and sold to the government for use by the military.
b) New automobiles purchased by citizens.
c) Shoes produced within the country but not sold during the time period.
d) Transfer of funds from a parent to a child for educational expenses.
e) Selling of canned soup from a firm’s inventory.
Explanation: The shoe production should be part of GDP, but not shoe consumption. There
will be an increase in inventory for the given year, and inventory change is part of
investment. So, GDP and investment will both increase.
Question 4) Which of the following is NOT counted in GDP of country X during the 2015
year?
a) Automobiles produced in country X during 2015 but not purchased.
b) An export of computers made in country X to a firm in country Y.
c) Production in country Y by a firm owned by a resident of country X.
d) The government of country X hiring a contractor to build a bridge in country X
e) Production of t-shirts in country X by a firm owned by a resident of country A.
Explanation: GDP includes goods produced in country X, regardless of who produces the
goods, but does not include goods produced in country Y even though the firm is owned by a
resident of country X. Exports of computers are included in GDP. Automobiles produced but
not consumed are included in GDP as investments. Government spending is also included in
GDP calculations.
Question 5) Which statement concerning inclusion in GDP is correct?
a) Automobiles produced in country B but imported to country A will count in the GDP
of country A.
b) Imports of consumer goods are frequently counted as final consumption goods and
must be subtracted from GDP as part of net exports.
c) Goods produced in country A but exported to country B are not counted in the GDP
of country A; they are counted in the GDP of country B.
d) Net trade or imports minus exports are added to a country’s GDP. If imports exceed
exports GDP increases.
e) Only imports for private consumption are counted as part of a country’s GDP.
Question 6) Which of the following best explains why transfer payments are not included in
the calculation of gross domestic product?
a) Recipients of transfer payments have not produced or supplied goods and services in
exchange for these payments.
b) Transfer payments are a government expenditure, and government expenditures are
excluded from gross domestic product.
c) Transfer payments are used to pay for intermediate goods, and intermediate goods are
excluded from gross domestic product.
d) Recipients of transfer payments are usually children, and income earned by children is
excluded from gross domestic product.
e) Recipients of transfer payments are sometimes not citizens of the United States.
