Macroeconomics,Macroeconomics PPT,Macroeconomics university of Palestine Dr. Moran Ra jab

1. Chapter 2Chapter 2
Gross Domestic IncomeGross Domestic Income
(GDI) and(GDI) and
Gross Domestic ProductGross Domestic Product
(GDP(GDP((

2. • The four-sector circular flow model describesThe four-sector circular flow model describes
the operation of the economy and the linkagesthe operation of the economy and the linkages
between the main sectors in the economy.between the main sectors in the economy.
• The four -sector model is based on dividing theThe four -sector model is based on dividing the
economy into four sectors as follow;economy into four sectors as follow;
1. Individuals1. Individuals (house holds)(house holds) CC
2. Businesses2. Businesses II
3. Government3. Government GG
4. International Trade4. International Trade ( X-M )( X-M )

3. The circular flow of incomeThe circular flow of income::
• The circular flow of income: implies that every
dollar spent by someone for purchasing is
considered an incomeincome for someone else;
• This income is also representing the value of the
good or service.
• Therefore, a dollar of expenditurea dollar of expenditure
= a dollar of income
= value of the good or service
= production value.

4. Illustration of the circular flowIllustration of the circular flow
of incomeof income::
• To illustrate the circular flow of income, we
assume initially that we have a simple
economy that consists of two sectorstwo sectors;
• Business sector and the individuals sector
• assuming that all the individuals sector
income is spent on consumptions goods and
services
• the figure below illustrates this concept where
there is a cash flow between the individuals

5. Sum of all finalSum of all final
goods and servicesgoods and services
= GDP= GDP
BusinessesBusinesses
II
Production ElementProduction Element
returns = nationalreturns = national
incomeincome
HouseholdHousehold
IndividualsIndividuals
CC
Wages + salaries+ capital return+ rentsWages + salaries+ capital return+ rents
Final goods and services
2
4
3
Circular flow for income in two sectors economyCircular flow for income in two sectors economy

6. Explanation of sectors processesExplanation of sectors processes::
1. The individuals sector supplies the
business sector with all production
factors such as labor , capital and
natural resources
2. The business sector uses the production
factors in the production process, so
they produce goods and services which
the individuals sector use for
consumption.

7. 3. For business sector to receive the
production elements services from
the individual sector, the individual
sector receives returns, these returns
are represented in wages, salaraies,
return of capital, retrun on
investment, land rental (natural
resources).
* All of these retrurns or incomes are
called local income.local income.

8. 4. The individuals sector buys its needs
and services that the business sector
produce and pays in reurn for these
needs an income (local income), the sum
of these final goods and services is
represented by the Gross Domestic
Product GDP and this is illustrated in
the previous figure and also illustrates
the total expenditure that consists of the
consumer spending for the individual
sector in this simple economy.

9. • Therefore, we have a cash flow from once
sector that is met with a cash flow with the
same value from another sector.
• GDP from goods and services that were
produced by the business sector through the
production elements that had income,
• which means the production has generated
income, these incomes have been spent on
the GDP from its different goods and
services as illustrated below.

10. • To be more realistic, we have to take into
account the other sectors of the
macroeconomics such as the government
sector and the external world (imports &
exports).
• In addition to business sectors and individual
sectors.
• This sictualr flow for income is illustrated by
the new figure below.
• In this figure we notice, that the individual
sector does not spend its income on
consumption.

11. The channels of Individual SectorThe channels of Individual Sector
incomeincome
A- Goods and services
consumption which means
the Private Consumption
Expenditure and its value
goes directly to the
business sector (arrow 1)

12. B-B- SavingsSavings:: it remaining unspent part of
the income for the purpose of spending in
the future or may be invested, therefore,
this savings would find its way to the
financial market (banks, saving
institutions, etc.) whose task to gather all
the savings and make it available for
investors in the form of loans, that is used
to purchase investment goods, these
goods represent part of 2 as illustrated
( arrow 1) GDP value goes to the business
sectors.

13. C. Net Taxes:C. Net Taxes: is the deductable part of the
income that goes directly to government to
finance its expenditure on goods and services
purchased from the business sectors as in
(arrow 3). Since the government pays salaraies
and payments for seniors and retired people
(social security payments or pension) those
represent part of the family sector.
* To net taxes is calculated by deducting the
social security payments from the taxes paid to
government

14. D- Imports:D- Imports: the individual sector
finally imports the goods and
services from outside because
they are available nationally
and in return, the business
sector exports goods and
services that are produced
nationally

15. Cash flow for a 4 sectors economy (individuals,Cash flow for a 4 sectors economy (individuals,
Business, governmental, internationalBusiness, governmental, international((
National income (wages, salaries,National income (wages, salaries,
returns, capital, rentsreturns, capital, rents((
Household SectorHousehold Sector
CC
Business SectorBusiness Sector
II
FinancialFinancial
MarketMarket
Government Sector GGovernment Sector G
International Trade X - MInternational Trade X - M
Private Consumptive Spending (1Private Consumptive Spending (1((
SavingSavingInvestment (2Investment (2((
Net taxesNet taxes
Government consumptiveGovernment consumptive
spending (3spending (3((
Imports (3Imports (3((Exports (4Exports (4((

16. • We notice from the above circular cash
flow that the domestic product’s main
spending was by the domestic income
which the individual sectors gets
• Gross Doemstic Income (GDI) = Gross
Domestic Product (GDP)
• Thereofer, we can deduce the meaning
and concept of the following GDP,
GDI and Total Expecditure.

17. Gross Domestic Product (GDP(:
is the sum of all final
goods and services that
are produced nationally in
specific period of time
usually (one year)

18. Gross Doemstic Income (GDI(:
• is the sum of production elements that
contributed in the production process
(contributed in the GDP) in specific period of
time usually (one year).
• Total Expenditure:Total Expenditure: is the total demand
and is represented by the private
consumption expenditure, investment
consumption, government expenditure, net
difference between (exports-imports) in
specific period of time usually (one year).

19. Gross Domestic Product (GDPGross Domestic Product (GDP((
• Is measured in three different
approaches
1. Product
2. Income
3. Expenditure

20. Product ApproachProduct Approach::
This is divided
into two
methods:

21. A) The final value approach:
• the country sums up all what has been
produced from a final goods and services in a
monetary value in a specific period of time
usually one year and the sum is the domestic
product.
• Primary and medium goods and services are
not included in this GDP Calculation, this
approach does just account for the final
goods and services.
• The final good is the one that is purchased
for a potential use not for sale or for waste.

22. B) Value added method:
Value added =Value added =
Production value – production
needs at every stage of the
production stages

23. ExampleExample
Product Production Stages Additional Value
Wheat
70 70
Flour
130 60
Bread
200 70
We notice that the
value 400 200

24. • We see that the bread value as a final good =
the sum of the added value = 200. However, if
we calculate the sales value in the three stages
= 400, that would be twice as much as the
bread cost and this is a misleading value that
leads to a double standard in the Gross
Demostic Product. Therefore, the GDP can be
calculated as follow:
• The final value of the good estimated by the
market price
• May also be calculated the sum of the added
value to the good (70+60+70 = 200) and the
two values are the same

25. 2-Income approach:
This approach sums the following four factors:
a. Salaries and wages: for all employed in the
state, whether in the private or public sector
b. Profit and interests: such as companies profits
and bank interests
c. Rentals: includes all rentals in the state
d. Small business incomes: such as warehouses,
supermarkets and restaurants

26. • Net National Income =Net National Income =
wages and salaries + profits and
interests + rents + small businesses
owner income
• Gross Domestic Product with
Market Value: Net national
Income + indirect taxes +
amortization of capital – subsidies
on production

27. 33..Spending MethodSpending Method::
Using this method, we add 4 types of spending:
1- Private consumption spending ( C )
2- Investment Spending ( I )
and that includes two elementsand that includes two elements
• Capital goods such as machines and buildings
• Change in goods inventory such as primary, medium
and final goods
* When somebody buys stock, this is considered an
investment from his perspective, but that is not
considered an investment from the society’s
perspective because it is a process of ownership
change.

28. 3. Government Spending: ( G )
• includes all government
needs of goods, furniture
and different materials for
hospitals , schools ,
universities and any
requirements for society.

29. 4. External world Sector ( X-M )
• This sector consists of imports and
exports, and this sector equal export
– import.
• GDP (by this method)= Private
consumption Spending (C)+
Investment Spending (I )
• government spending (G) + Net
Outside spending (X-M )

30. • Gross domestic Product ( GDP ) & Gross
National Product ( GNP )
• Gross Domestic Product (GNP) = gross national
product + net outside production elements
returns.
• Net outside production elements returns = is
the difference between what comes in the state
(+) and what goes out of the state (-)
• Net outside production elements returns =
gross domestic product - gross national product.

31. Example:
If all income from outside to society is = 800 Million,
and all the income that goes out the society is = 1000,
and the ( GDP )= 6500 Million, now calculate the
GNP.
Solution:
• GNP = GDP - Net outside production elements
returns
• Net outside production elements returns = 1000-800
= - 200
• Gross national product (GNP) = 6500-200 =
6300 Million

32. Other measures for income and
product:
• Important rules:Important rules:
1. Gross national product ( GNP) = net national product
+ capital amortization
2. Net national product ( NNP ) = Gross national
product – capital amortization
3. Personal income ( PI ) = net national income –
retirement financial payments – taxes on profits –
indistributed profits + social security payments
4. Disposable personal income ( DPI ) = personal
income – direct taxes on income
5. Disposable personal income ( DPI ) = consumption +
saving

33. 6. Consumption ( C ) = Disposable
personal income– saving
7. Saving = disposable personal income
– consumption
8. Disposable personal income =
personal income – personal taxes
(direct)
9. Personal income = disposable income
+ direct taxes

34. 10. Gross domestic product (GDP) = net
Domestic product + capital amortization
11. Net domestic product ( NDP )= gross
domestic product – capital amortization
12. Capital amortization = gross domestic
product – net gross product
13. Gross investment = net investment + capital
amortization
14. Net Investment = gross investment – capital
amortization
15. Capital amortization = gross investment – net
investment

35. Example 1:
assume that you have the following dataassume that you have the following data::
Retirement paymentsRetirement payments 40 Rentals 24
Capital amortization 180
Indirect taxes 163 Family consumption 1080
Gross investment 240 Taxes on profits 65
Wages and salaries 1028 Undistributed profits 18
Government spending 365 Exports 17
Social security payments 20 Imports 117
Direct taxes 40 Distributed profits 117
Small business owners
income
97

36. Calculate the following:
1. Gross national product
using the income and
spending methods
2. Net national product
3. Personal income
4. Saving

37. Solution:
a. Gross national product using the spending
method =
C + I + G + (X – M )
1080 + 240+ 365 + ( 17- 10) = 1692 Million
b. Gross national product (using the income method) =
net national income + capital amortization + indirect
taxes
( net national income = wages and salaries + distributed
profits + rentals + small business owners income ) =
1028 + 117 + 65 + 18 + 24 +97 = 1692 Million

38. c. Net national product = gross national product –
capital amortization
= 1692-180 = 1512 Million
d. Personal income = net national income –
retirement payments – undistributed profits –
taxes on profits + social security payments =
20+65-18-40-1349 = 1246 Million
e. To get the saving, we should calculate the
disposable income
• Disposable income = personal income – direct
taxes = 1246-40= 1206 Million (M)
• Savings = disposable income – family
consumtion sector = 1206-1080 = 126 M

39. Example 2 :
assume that you have the following dataassume that you have the following data::
Distributed profits 13 Gross Investment 46
Indirect taxes 22 Exports 9
Direct taxes 38 Disposable income 190
Imports 12 Private savings 10
Government
consumption
84 Retirement
payments
23
Capital amortization 52

40. Calculate the followingCalculate the following::
1- Gross national product (DNP)
2- net national product (NNP)
3- net national income (NNI)
4- personal income ( PI )

41. SolutionSolution::
• Gross national product ( GNP ) = C+ I + G + ( X-M )
• We need to calculate the family consumption which is
C = disposable income – savings = 190-10 = 180 M
Gross National Product (GNP) =180 + 46 + 84 ( - 3 ) =
307 M
Net National product = GNP – capital Amortization =
307-52=255
NNI = NNP – indirect taxes = 255-22 = 233
Personal income ( PI ) = disposable income + direct
taxes = 190+38=288

42. Monetary National Product &
Real National Product
• Monetary National ProductMonetary National Product
is the sum of all final
goods and services that
have been produced by
current prices

43. Real National ProductReal National Product
• Real National ProductReal National Product is the sum of all final
goods and services that have been produced by
fixed prices.
• The national product is the sum of all values of
final goods and services that is produced in a
certain period of time.
• However, the national product inflates from one
year to another because the prices of goods and
services increase from one year to another.

44. Example:
• let us assume that the national product for 2000 was
1000 Million and in 2001 was 1300 Million dolar,
even though the final process for the final goods was
fixed in these two years, the national product has
increased from 1000 to 1300 Million. The reason was
increasing the prices in 2000 therefore, the national
product value was inflated and thus the two years
can’t be compared.
• To overcome this problem, we have to exclude the
effect of change in prices in these two years using the
price index numbers.

45. Price Index Numbers:
• There are many types of price index
numbers such as price index
number for consumers, wholesale
prices, and retail process and so on.
• Simple Index Number: assume
that we have three commodities whi
are materials. Flour, and pencils

46. Table 2-2
Commodity Primary
Year 100%
Price in 2000
Comparison
Price in 2005
Materials
(Meter)
2 3
Pencils 1 3
Flour (Kgm) 1 2

47. To find the simple index number,To find the simple index number,
we do two simple thingswe do two simple things::
1. First Step1. First Step
we get the price ratio in 2005 (compared
year) to year (2000) (primary Year) =
Materials Priec in 2005/Materials Price
in 2000= 3/2, 3/1, 2/1 = 1.5, 3, .5
Materials = 1.5 , pencils = 3, flour = 2

48. 2. Second step
we get the average for the three ratios are as
follows:
• The simple index number = [2+3+1.5] / (3)
*100 = 216%
• Since the index number for the primary year
is 100%,
• then the increase percentage in the compared
year is 216-100 = 116%.
• If the result was less than 100 as 80 for
example, the price would decrease more in
2005 relative to 2000 by 20%.

49. The weighted index numberThe weighted index number
• One of the disadvantages of the simple index
number that it equalize the relative
significance of different goods, even though of
its various significance for individuals.
• The family for example needs a daily amount
of bed but may need the same for pencils.
• For example, if we give the materials a weight
of 15%, pencils 5%, and flour 80%, in order
to have a total weight of 100%.

50. Table 2-3Table 2-3
Commodities
(1)
Price in
2000
in
dollars
(2)
Price in
2005 in
dollars
(3)
Weights
(4)
Primary X
Weights
(5)
Comparison X
weights
(6)
Materials (m)Materials (m) 2 3 15 30 45
PencilsPencils
(Dozen)(Dozen) 1 3 5 5 15
Wheat (kgm)Wheat (kgm) 1 2 80 80 160
100 115 220

51. StepsSteps::
1. Allocate a weight for every commodity
in the family budget, column (4)
2. Multiply the commodity price for the
primary year and the comparison year
in its weight and we get column (5), and
column (6)
3. Find the sum of column 5 & the sum of
column 6

52. 4. The sum of column 6 is divided by the sum of
column 5 and multiplied by a 100 and we get
the weighted index number for prices.
• The weighted price index = (220/115) x100 =
191%
• The percent increase in prices = 191-100 =
91%, we see that this result is smaller than
that which we got in the simple index
number in 116% and that because an
appropriate weight has been given to each
commodity.

53. The Index Number for Prices using Lasbeer Method
Table (2-4(
Commodity
(1)
Primary
year,
price
in
2000
in
dollars
(2) P
Purchased
quantity
(3)
Q
The
compari
son year
Price x
quantity
(4)
PQ
Price in
200
5 (5)
P
Purchased
quantit
y (6)
Q
Price x
Quant
ity
2005
PQ
Materials
(m) 2 20 40 3 20 60
Pencils
(dozen) 1 10 10 3 10 30
Wheat
(kgm) 1 50 50 2 50 100
Sum 4100 4190

54. • The index number for prices using Lasbeer method
= (190/100)x100 = 190%
• The percent increase in prices in the comparison
method in 1406 against the primary year is
2000=190-100=90%
• Note: when choosing the primary year, it has to be a
normal year where increase or decrease in prices
should not be very high so that the value for the
index number is not affected. After figuring out the
index number, we find the real national product.
• The real domestic product = (the national monetary
product/ price index number )x100
• The real domestic product = (38000/190)x100 =
20000 Million

55. Example 1
If you have the national monetary product and the
index numbers, calculate the real national product:
YearYear The domestic monetaryThe domestic monetary
productproduct
Idex number forIdex number for
pricesprices
2000 4000 100
2001 6000 120
2003 10000 200
2005 12000 220

56. • The domestic real product = (the domestic monetary
product / index number for prices for the same year )
x 100 = 4000 Million
• The domestic real product for 2000 = (4000/100)x100
= 4000 Million
• The domestic real product for 2001 = (6000/120)x100
= 5000 Million
• The domestic real product for 2003 =
(10000/200)x100 = 5000 Million
• The domestic real product for 2005 =
(12000/220)x100 = 5454.5 Million
• The domestic monetary product:
The domestic monetary product = (the real domestic
product x the index number )/ 100

57. Example 2
• If the real domestic product for a
certain year is 5000, and the
index number is 120, calculate
the monetary product?
• The domestic monetary product
= (120x5000)/100 = 6000 Million

58. Example 3:
• if the domestic monetary product is
6000 and the real product for the
same year is 5000 , ohw much is the
index number for prices for the same
year?
• The index number = (6000/5000)
x100 = 120

59. Important NotesImportant Notes::
1. If the index number for the comparison year
is greater than the index number for the
primary year, then the real product is
smaller than the monetary product.
2. If the index number for the comparison year
is smaller than the index number for the
primary year, then the real product is
greater than the monetary product.
3. If the index number for the comparison year
=100, then the real product and the
monetary product are going to be equal.

60. Domestic product reducerDomestic product reducer
• This is different from the other index
numbers in that it takes into
consideration the capital commodities “
investment” in addition to the
consumption goods and services.
• The real domestic product using the
lowering method = (monetary doemstic
product / doemstic product reducer) x
100

61. Example 4Example 4
• If the monetary doemstic product (MDP) for a
certain country in 1980 was $20,000 billion
and the domestic product reducer (DPR) for
the same year was 200.
• Calculate the real domestic product (RDP) for
this country in that year?
• RDP = (20000/200)x100 = $10000 billion
• DPR = (MDP/RDP)x100 = (20000/10000)x100
= 200%
• MDP = (RDPxDPR)/100 = $20000 billion

62. Significance of calculating theSignificance of calculating the
Domestic ProductDomestic Product
• Disadvantages of calculating the
domestic products are as follow:
1. Many data are required to get to the sum of all
the final goods and services produced by the state
which lead to possible errors
2. In most cases, it is hard to get the same value for
domestic product, if we follow the added value
and the final goods values because of
measurement errors and inaccuracy

63. 3. A lot of services are not accounted for
when calculating the domestic product
such as the services offered by the
house wife in her household or the
doctor for his family
4. Many factors that gets in the calculation
of the domestic product are estimated
such as the consumption of the farmer
for some of his products or capital
consumption and these estimates are
not accurate.

64. Advantages of knowing the
significance of the Domestic Product:
1. Understanding these calculations summarize
the economical activities that the state has
implemented in one year
2. Understanding these calculations calrify the
returns of the production components in one
year.
3. Calculations of the doemstic product are
considered the most important tools for
analysis for designing economical plans, and
that help forecast the future properly

65. Cautions when using the domesticCautions when using the domestic
products values are as followsproducts values are as follows::
1. Avoid using these values as a indicator for
economical welfare in the state
2. Caution should be exercised when comparing
the monetary doemestic product from one
year to another in realizing the whether the
state is back warding or forwarding.
3. Caution should be exercised when comparing
the domestic product among different
countries so that the purchasing power for
the currency in every country has to be taken
into consideration.

66. THE END