The National Income Accounts Gross national product

The National Income Accounts § Gross national product (GNP) • The market value of all final goods and services produced by a country’s factors of production in a year, whether in the country or abroad. Y = C + I + G + EX – IM Y = C + I + G + CA

National Income Accounting for an Open Economy §Consumption (C) • The portion of GNP purchased by the private sector to fulfill current wants §Investment (I) • The part of output used by private firms to produce future output §Government Purchases (G) • Any goods and services purchased by federal, state, or local governments §Current Account (CA = “EX – IM”) • Goods and services, including factor service, purchased by foreigners net of foreign g&s purchased by residents

The National Income Accounts U. S. GNP and Its Components, 2006

The National Income Accounts § Gross Domestic Product (GDP) measures the volume of production within a country’s borders. • GDP equals GNP minus net factor income from the rest of the world. Income earned from production abroad doesn’t count in gross domestic product. GDP = GNP – Income earned abroad §National Income • Earned over a period by a nation’s factors of production. NI = GNP – Depreciation – IBT + Unilateral Transfers For purposes of macro analysis, GNP = Y = NI

§ The Current Account and Foreign Indebtedness • Current account (CA) balance: CA = EX – IM § CA measures the size and direction of international borrowing. • If we import more than we export (CA<0), we must pay for the difference by borrowing from foreigners. § § CA equals the change in a country’s net foreign wealth. CA balance is equal to the difference between national income and domestic residents’ spending or absorption: Y – (C+ I + G) = CA CA balance is what we produce (Y) less domestic demand. • We can live “beyond our means” if we run a current account deficit, import more than we export, and borrow the difference from foreigners. CA balance is the excess supply of domestic financing. • If we produce and earn more than domestic demand (CA>0), we lend our “excess” saving to foreigners

U. S. Current Account and Net Foreign Wealth, 1976– 2006

§ Saving and the Current Account • National saving (S) : The portion of output, Y, that is not devoted to household consumption, C, or government purchases, G. S = I in a closed economy. • A closed economy can save only by building up its capital stock • An open economy can save either by building up its capital stock or by acquiring foreign wealth S = I + CA • A country’s CA surplus is its net foreign investment: CA = NFI = Capital Outflows - CA = Capital Inflows

International Monetary Arithmetic Sources of Income = Uses of Income C + I + G + CA = T + Sp + C I = Sp + (T – G) – CA = Nat’l Saving+Capital Inflows § Domestic investment is financed by our own saving plus our net “borrowing” from foreigners Nat’l Borrowing = - CA = (I - Sp) + (G – T) The Twin Deficits § Private Saving (Sp ) and Government Saving (Sg ) Sp = Y – T – C = I + CA – (T – G) = I + CA – Sg Sp = I + CA + (G – T) Private saving finances domestic investment, net foreign investment, and the government’s deficit

The Balance of Payments Accounts § Three types of international transactions • Payments for exports or imports of goods or services, • • including factor services Current Account Purchases or sales of financial assets Financial Account Transfers of wealth between countries Capital Account § The Fundamental Balance of Payments Identity Current account + financial account + capital account = 0

U. S. Balance of Payments Accounts for 2006 (billions of dollars)

U. S. Balance of Payments Accounts for 2006 (billions of dollars, cont. ) 12 -11

Financial account has at least 3 subcategories: § Official (international) reserve assets Foreign assets are held by central banks as a cushion against national economic misfortune. Central banks often buy or sell international reserves in private asset markets to affect macroeconomic conditions in their economies. Official reserve assets include government bonds, currency, gold and accounts at the International Monetary Fund. § § § All other assets Statistical discrepancy The negative value of the official reserve assets is called the official settlements balance or “balance of payments. ” A country with a negative balance of payments is running down its reserve assets or incurring debts to foreign monetary authorities. § In 2006, the Fed & Treasury reduced its holdings of foreign assets by $2. 4 billion and foreign central banks and government agencies increased their holdings of US assets by $440. 3 billion. The $442. 7 net inflow US Balance of Payments Deficit = $442. 7 billion

U. S. Current Account and Net Foreign Wealth, 1976– 2006

International Investment Position of the United States at Year End, 2005 and 2006 (millions of dollars) 12 -14

International Investment Position of the United States at Year End, 2005 and 2006 (millions of dollars)

Problems, Chapter 12 12. 6 Why might a government be concerned about a large CA deficit or surplus? Why might it be concerned about a large surplus or deficit in its official settlements account (i. e. , its “balance of payments”)? 12. 8 Can a country have a CA deficit at the same time it has a Bo. P surplus? Explain using hypothetical figures for the CA and the nonreserve financial account. Discuss implications for official international reserve flows. 12. 10 In 2006, US income receipts on foreign assets were $647. 6 billion while payments on liabilities (foreign owned assets in the US) were $604. 4 billion. Yet the US is a substantial net debtor to foreigners. How then is it possible that the US received more foreign income than it paid out?