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Chapter 9
The Governmentand the national
economy
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Gross Domestic Product
Market value of all final goods andservices produced within a country.
Within geographical boundary GDP is measured in amount not innumbers.
P X Q Avoid double counting
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Gross National Product
Market value of all final goods andservices produced by countrys ownedfactors of production.
Income earned from abroad.(A) Income paid to abroad.(B)
Net property income from abroad(NPIA) = (A)-(B)
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Net National/DomesticProduct
Subtract depreciation of nationalcapital from GNP.
Wear and tear of capital depreciatethe value
Some part of GNP is required toreplace worn-out capital.
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Measuring the NationalIncome
Output: Total amount of goods andservices produced in a country.
Spending: Total amount ofexpenditure taking place in theeconomy.
Incomes: Total income generatedthrough production of goods andservices.
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Measuring the NationalIncome
Output Method
This measure of GDP adds togetherthe value of output produced by eachof the productive sectors in theeconomy using the concept of valueadded.
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Measuring the NationalIncome
Index of Gross Value Added by selected industry
Mining and
quarrying, inc
oil & gas
extraction
Manufacturi
ng
Constructio
n
Distribution,
hotels, and
catering;
repairs
Business
services
and
finance
2001 weights
in total GDP
(out of 1000)
28 172 57 159 249
2001 100 100 100 100 100
2002 100 97 104 105 102
2003 94 97 109 108 1062004 87 98 113 113 111
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Measuring the NationalIncome
Income Method:
Sum of income earned by factor ofproduction
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Measuring the NationalIncome
Exclude transfer payment
Transfer payments e.g. the statepension paid to retired people;income support paid to families onlow incomes.
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Measuring the NationalIncome
expenditure method
This is the sum of spending on produced goods and services measured atcurrent market prices
C: Household spending
I: Capital Investment spending
G: Government spending
X: Exports of Goods and Services
M: Imports of Goods and Services
Exclude taxes
Include subsidies
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Measuring the NationalIncome
If there are importsthose should be
excluded
Taxes on goods andServices should also
be excluded
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Measure of National Income
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Money National Income andreal National Income
Monetary National Income: When wecalculate the amount of goods andservices in monetary unit i.e. $ 100, this is
called monetary national income.
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Real National Income: When we calculatethe Physical amount of goods and servicesi.e. 10 tables & 20 chairs, this is called real
national income.
The value of this year's output at constant prices
Year Output Prices NationalIncome
($)
Changesin price
Changesin
quantity
2001 50,000 Rs. 20 1,000,000
2002 60,000 Rs. 40 1,800,000 50% 20%
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Measuring real national income fromnominal income
Find quantities of year 2001
Find national income of 2001 bymultiplying quantities of goods by priceof year 2000.
You will find real value of nationalincome
Year NationalIncome
Prices
2001 10,000 100
2002 15,000 140
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Reasons for measuringnational income
To provide government withessential information
To indicate changes in the standardof living
By measuring real income per head
Do not tell
how distribution of wealth is taken place
What types of products are sold
Social cost
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To compare the standards of living indifferent countries (based on commoncurrency)
Misleading because of: Difference of climate, taste and life style
Government expenditure pattern
Different working hours
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Circular flow of Income
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Circular flow of income(more realistic model)
Includes
Withdraw and injection of income in flow
Government and foreign trade sector
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Savings
Taxes
Imports
Households do notspend their whole
income so they save
part of it. It is leakage
in the income flow
Leakages
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Savings
Taxes
Imports
Government levies
taxes on income and
spending so these
withdraws areleakages in the flow
Leakages
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Savings
Taxes
Imports
Residents of country
buys some of the
foreign products so
money goes out of
income flow of
country,Leakages
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Savings
Taxes
Imports
Investments
Injections
Leakages
Government
spending
Exports
Investment on capital
goods. Firms borrow
money from banks
where consumers
have saved their
remaining income.
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Savings
Taxes
Imports
Investments
Injections
Leakages
Government
spending
Exports
Government buysgoods and services
from firms.
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Savings
Taxes
Imports
Investments
Injections
Leakages
Government
spending
Exports When firms sell their
products to foreign
countries then moneyfrom outside to inside.
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Government
spending onservices
Government
employees many
people from thecountry and gives
them income and
wages.
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Government
spending onservices
Government
employees many
people from thecountry and gives
them income and
wages.
Savings
Taxes
Imports
Leakages
Injection
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Economics policy
Economics objectivesof government and theways in which it tries
to achieve thoseobjectives
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Instruments of economicpolicy
Methods that government uses toachieve economic objectives
1.Fiscal policy
2.Monetary policy
3.Direct control
4.Public ownership
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1. Fiscal Policy
Use of government expenditure andrevenue collection to influence theeconomy.
Controlling rate of taxes
Budget
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2. Monetary Policy
Government influences interest rateand controlling banks ability to makeloans.
Controlling supply of money.
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3. Direct controls
Legal control over wages, prices andrents.
Granting types and number ofbuildings etc.
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4. Public ownership
Nationalizing industries
Heavy investments in differentsectors
Influence cost of production.
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End of chapter