Politicas macroeconomicas, handout, Miguel Lebre de Freitas ([email protected]) https://mlebredefreitas.wordpress.com , 10/06/2018 1 National Accounts Index: National Accounts .......................................................................................................... 1 1.1 Introduction ........................................................................................ 3 1.2 Basic concepts.................................................................................... 3 1.3 Expenditure, production and income ................................................. 4 1.3.1 Gross National Expenditure (Final Domestic Demand) ............................ 4 1.3.2 Gross Domestic Product ............................................................................ 5 1.3.3 Gross National Income .............................................................................. 6 Box 1: Three approaches to measure economic activity........................................ 8 1.4 The Current Account ........................................................................ 10 1.4.1 From National Income to Disposable Income ......................................... 10 1.4.2 The Current Account................................................................................ 10 1.4.3 Savings and investment............................................................................ 11 1.5 The Balance of payments ................................................................. 12 1.5.1 The Capital Account ................................................................................ 13 1.5.2 The Financial Account ............................................................................. 14 1.5.3 The three components of the balance of payments .................................. 14 1.5.4 The Balance of payments identity............................................................ 15 1.5.5 Net errors and omissions.......................................................................... 15 1.6 The Net International Investment Position ...................................... 16 1.6.1 Changes in NIIP ....................................................................................... 16 Box 2: The Net International Financial Position in Portugal ............................... 17 1.6.2 Reserve Asset Transactions ..................................................................... 18 1.6.3 The analytical presentation of the Balance of Payments ......................... 19 Box 3 – The Balance of Payments of Angola ...................................................... 20 1.7 Budget constraints of institutional units .......................................... 21 1.7.1 Non-Financial Private sector.................................................................... 21 1.7.2 Government.............................................................................................. 23 1.7.3 Central bank ............................................................................................. 24
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Politicas macroeconomicas, handout, Miguel Lebre de Freitas ([email protected])
Private Consumption are expenditures by the private sector on final goods, including
durable and nondurable goods, and services.
Government Consumption refers to purchases of goods and services by the
government and compensations of public sector workers. G does not include any transfer
payments, such as unemployment benefits and family allowances, because these do not
correspond to payments for goods or services.
Gross Investment consists in additions to the stock of capital by resident units.
Investment has two main components: The first is the acquisition of fixed assets (that are
used in production over more than one year). These, in turn, can be tangible assets, such as
buildings, equipment, and vehicles; or intangible assets such as R&D. The second component
of investment is the net increases in inventories2. Thus,
InvGFCFI
The Investment aggregate is labelled as “gross” because it refers to the total
expenditure in new capital, regardless as to whether it is destined to increase the productive
capacity or just to replace the depreciation of existing equipment. Subtracting depreciation
from Gross Investment, one obtains the Net Investment. Since the depreciation of physical
capital is hard to measure, a common procedure is to assume that it corresponds to some
proportion of the capital stock. In that case, the net investment, which measures the change
in the capital stock, K, becomes
qKIKq .
In this expression, the term q is the relative price of capital, that is, how many units of
output are necessary to acquire one unit of physical capital. Subtracting depreciation from
GNE, we obtain the Net National Expenditure.
1.3.2 Gross Domestic Product
2 Note that investment does not include the acquisition of existing real assets nor of financial assets. Investment refers to expenditures that increase a country’ productive capacity, only.
Politicas macroeconomicas, handout, Miguel Lebre de Freitas ([email protected])
inside country borders correspond to domestic production, but not to production by resident
units.
In the National Accounts, adjustments from the country border criterion (Domestic) to
the factor residence criterion (National) are mediated by an item in the Current Account,
labelled “Primary Income Account”. The meaning of a primary income is that it is generated
completely in the production process.
The Primary Income Account registers the cross-border payments to factors of
production, the return to financial assets, and the rent of natural resources. Exports of primary
income include, for instance, wages paid by non-resident companies to workers residing in
the home country3. Reciprocally, the interest payments on external debt correspond to value
generated inside a country’ border by a factor owned by non-residents, and hence shall be
subtracted from GDP when the aim is to measure total income generated by resident units.
In the following, let’s use the label NFIA (Net Factor Incomes from Abroad, NFIA)
for the balance of Primary Income, that is, the difference between the value of factor services
exported minus the value of factor services imported. The Gross National Income (GNI) is
therefore computed as follows:
NFIATBGICGNI (3)
GNI (at market prices) measures the total income earned (or production by) by factors
owned by domestic resident units, irrespectively as to whether such income was generated
inside or outside the country borders. GNI looks at the ownership of production, rather than
to its location.
3 NFIA does not include migrant remittances because, by definition, migrants are residents in the host country. Hence, migrants contribute to both the domestic and the national income of the country where they reside.
Politicas macroeconomicas, handout, Miguel Lebre de Freitas ([email protected])
In this equation, the item iT denotes for Indirect taxes minus subsidies4. This term is
necessary to mediate the value paid by the buyer (which is tax inclusive) and the value
received by the producer (without taxes). The difference between output and intermediate
consumption is Gross Value Added at basic prices:
ConsIntOutputGVA . .
Using equation (2) we see that iTGVAGDP . Hence, GDP is no more than an
economy’ Gross Value Added measured at market prices.
The third way to measure production is the Income Approach. The Income Account
approach describes how the value added generated by production in the territory is distributed
to labour, capital and government. In particular, GVA is obtained as the sum of three items:
compensation of employees (gross wages and salaries plus social contributions paid by
firms); production taxes (less subsidies) other than indirect taxes5; and Gross Operating
Surplus, ie, the surplus or deficit accruing from production activities before account has been
taken on the interest, rents, and depreciation (from another angle, the GOS consists in the
sum of rents, interest, depreciation and profits6).
Note that the calculation of GVA by the income approach covers only incomes
generated within the borders of a country. To obtain the total income generated by residents,
one must add the net primary income from the rest of the world (NFIA). Then, one can add
indirect taxes (less subsidies), iT , to obtain the GNI.
4 These are taxes on products, meaning that they are payable per unit of a given product or service produced.
5 These are taxes and subsidies incurred by firms as a result of engaging in production, but that are independent of the quantity produced. For instance, taxes on the ownership of land and buildings, and taxes paid for business and professional licenses.
6 In the case of self-employed, the income generated has characteristics of both wages and operating surplus. Instead of trying to disentangle the two categories, the national accounts consider a third category, labelled “Mixed Income”, which is added together with the Gross Operating Surplus and Compensations of employees to obtain the gross value added.
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liabilities in respect to the rest of the world. Thus, when an economy runs a surplus in the
Current Account, this means that it accumulates assets. In the National Accounts, this
accumulation is recorded in two different accounts, the Capital Account, and the Financial
Account8.
1.5.1 The Capital Account
The Capital Account (KA) is a minor component of the Balance of Payments
registering the “acquisitions or disposal of non-financial and non-produced assets”. By
exclusion, the financial assets are recorded in the Financial Account and the Produced Assets
(investment goods and services) are recorded in the Current Account.
The Capital Account is divided in two main categories: (a) acquisitions of non-
financial assets not accounted in the TB, such as permits to undertake specific activities (the
right to explore a natural resource), and marketing assets, such as brand names, trademarks,
and franchises9; and (b) capital transfers (i.e, transfers of assets) between residents and non-
residents: debt forgiveness, inheritance received, grants designed to finance capital formation,
such as those made by the European Agriculture Fund for Rural Development).
The sum of the balances on the current and capital accounts delivers the net lending
(surplus) or net borrowing (deficit) of the economy relative to the rest of the world. That is,
*BeKACA . (10)
8 The Capital Account and the Financial Account are labelled as “accumulation accounts”. Accumulation accounts cover international transactions of financial and non-financial assets. This differs from the current account, which deals with the production, redistribution, and use of income in the form of final expenditures.
9 These items are labelled “non-produced non-financial assets”. They are assets, because they can be bought and sold with resulting payment flows, but they differ from investment goods and valuables because they do not come into existence in result of any production processes. While international trade in produced non-financial assets (investment goods and valuables) is accounted for in the balance of goods and services (TB), this remaining category of non-financial assets is recorded in the capital account.
Politicas macroeconomicas, handout, Miguel Lebre de Freitas ([email protected])
For instance, a crash in the domestic stock market will increase the domestic country’
NIIP, through the losses faced by foreign investors at home; in turn, a crash in a stock market
abroad will reduce a country NIIP’ by the losses of domestic investors abroad. Thinking more
broadly, valuation changes can happen because of stock market fluctuations, because of
changes in bond yields, exchange rate movements, etc.
Abstracting from capital gains or losses other than those arising from movements in
the exchange rate, the change on NIIP will be10:
** eBBeNIIP (16)
The first component is related to a country’ net borrow and lending (-FA=CA+KA).
The second component captures eventual capital gains or losses due to changes in the value
of the assets comprising the NIIP (in equation 16, the valuation changes are attached to
exchange rate movements, only, for simplification).
Box 2: The Net International Financial Position in Portugal
According to the Euroestat data, from 2010Q4 to 2011Q4, the NIIP of Portugal
improved from -104.3% of GDP to -100.7% (Figure 3). In 2011, however, the economy’ net
lending amounted to 4% of GDP. This means that an impressive valuation change more than
offset the large deficit in the current account.
Why was that? The reason is that the risk premium attached to liabilities issued by
Portuguese entities (bonds and other securities) increased sharply, causing the corresponding
secondary markets yields to increase and bond prices to fall. Thus, the net value or domestic
liabilities decreased.
Along 2011-2012 the reverse occurred: as the risk premia and the implied yields
declined back, the market value of bonds increased, implying a decline in the Portuguese
10 Obviously, the value of the net international investment position may change for reasons other than exchange rate movements. Stock market valuations, changes in interest rates impacting on the market value of bonds are among the factors that cause valuation changes. The decomposition above is only a simplification.
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When the Balance of Payments is presented that way, the sum of the items above the
line (CA, KA, FA, EO excluding Reserve and related items) is labelled “Overall balance”11.
Thus, while formally the total of the Balance of Payments should be zero, often by a Balance
of Payments surplus or deficit it is meant a surplus or a deficit in the “overall balance”.
Box 3 – The Balance of Payments of Angola
Table 1 shows an “analytical” presentation of the Balance of Payments in Angola, as
reported in the 2006 IMF country review.
Thus, for instance, in 2012, there was a current account surplus amounting to 13.9bn
USD, that lead to a net acquisition of foreign assets by the non-monetary sector (the
“financial account has a deficit of 9.3bn). The difference was matched by an increase in
central bank reserves, by 4.5bn. Along 2013-2015, the fall in oil prices caused the current
account to deteriorate, and this was partially mitigated by a capital flow reversal (the
financial account turned positive in 2015, meaning that the country became a net borrower).
Still, the “overall balance” was negative, meaning that the central bank sold reserve assets.
This, in turn, implied a sharp contraction in the money base.
11 When this rearrangement is made, the items in the balance of payments from which transactions were taken are readjusted and marked with (n.i.e.): for instance, Capital Account (n.i.e.) does not include debt forgiveness; Financial Account (n.i.e.) does not include Reserve Assets.
Politicas macroeconomicas, handout, Miguel Lebre de Freitas ([email protected])
The non-financial private sector comprises households and non-financial
corporations. The balance sheet identity of the private sector is defined as follows12:
PPP BMqKNW , (19)
Where PNW denotes for the Net Worth of the private sector, PK for the stock of real
assets held by the private sector, q for the relative price of real assets, M for monetary assets
and PB for non-monetary non-financial assets (equity, bonds) net of liabilities. The later can
be decomposed into government bonds held by the private sector ( PGD ), external assets net of
external liabilities ( *PeB ), credit from commercial banks ( P
BL ), and (if any), liabilities to the
central bank ( PCL ). Thus,
PC
PB
PGPP LLDeBB * . (20)
The private sector disposable income is:
TNUTeBiLLDiQY PPPC
PB
PG
dP ** (21)
The term PNUT refers to the net secondary income received from abroad (emigrants
remittances, for instance). For simplicity, we use a single item, T, to describe all taxes minus
subsidies: more precisely, T refers to the sum of indirect taxes, direct taxes, and social
security contributions, minus government transfers (such as unemployment benefits) and
subsidies to production.
The current (gross) saving of the private sector is13:
CYS dPP (22)
12 Private agents rely on equity and on lending from each other as a source of finance, but these transactions cancel out in the private sector aggregate.
13 Because we are pooling together households and non-financial corporations, the model hides the fact that part of private savings consists in earnings retained by corporations to finance their investment (corporate savings). The disposable income of households is equal to the disposable income of the private sector minus retained earnings and accordingly; households savings are equal to private savings minus retained earnings.
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obtained from the central bank, BCL , commercial banks engage in their main activity, which is
granting credit to the non-financial sector. The balance sheet of the commercial banking
sector obeys to the following identity14:
DLDLRNW BC
BG
PBB (35)
where PBL denotes for banks’ loans to the private sector, G
CD for government securities, BNW
for the net worth of commercial banks, D for private deposits in the banking system, and the
remaining variables are defined as before.
Figure 5: The Balance sheet of Deposit banks
The banks savings are related to the interests they pay to the central bank and the
interest they charge on credit:
BC
PB
BGB iLiLiDS (36)
The corresponding sources-and-use-of-funds statement is:
DRLDLNW BC
BG
PBB (37)
14 For simplicity, we are ignoring funds raised by banks through the capital market, such as long term bonds. Note that individual banks also rely on lending from each other as a source of finance, but when considering the banking system as a whole, these inter-bank loans cancel out
Politicas macroeconomicas, handout, Miguel Lebre de Freitas ([email protected])
Taking together the central bank and the commercial banks balance sheets, one
obtains the consolidated balance sheet of the monetary sector:
DXDDLLeBNW CG
BG
PC
PBCCB
* (38)
The specific characteristic of bank deposits is that they are so liquid that they can
serve as means of payment. Because of this, bank deposits are part of what we call “money”,
together with currency in circulation (X). The money supply is, therefore: 15
DXM , (39)
equation (33) can be rearranged to:
CBGC
GB
PC
PBC NWDDLLeBM * (38a)
Equation (38a) reveals that the counterparts of money supply are foreign assets and
total domestic credit (government plus the private sector).
1.8 Aggregate relations
1.8.1 National wealth
Summing the newt worth of all national units, one gets the net worth of the economy
as a whole:
qKBDBeNWNWNWNWNW PGCBCGP *** (41)
The first component in the right hand side is the country’ International Investment
Position, because resident-to-resident claims net to zero in the national balance sheet:
15 In the real world, central banks monitor wider monetary aggregates, including short term securities held by the public (e.g, treasuries). For convenience, we ignore this complication.
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current account deficit is matched by a persistent government spending in excess of receipts
is labelled “twin deficit”16.
Box 4: Savings and investment by institutional sector in Portugal
Table 2 describes the net lending or borrowing by institutional sector in Portugal. In
the table, the private sector is split into households and corporations, only. For each resident
unit, under-spending or overspending on the acquisition of real assets (capital) relative to
savings and capital transfers, results in the balancing item “net lending or borrowing”. In the
case of the rest of the world, net lending is obtained as the difference between the
symmetrical of the current account corresponding savings (external saving), and the capital
account.
In the table, we see that 2010 can be categorized as a year of twin deficits: in that
year, the economy’ net borrowing (9% of GDP) was totally accounted for the government
sector deficit (-11.2% of GDP), while the private sector as a whole (i.e, the consolidation of
households with the firms that they own) exhibited a surplus (2.2% of GDP).
16 At the first sight this suggests that fiscal tightening could be used to achieve external balance. Note however that private savings are not independent of government savings: if taxes increase, for instance, it is possible that private savings decrease in response. This means that the accounting identity (8a) provides only a starting point for an analysis of the interaction between savings, investment and the current account. A more enlightened analysis must be supplemented with information regarding the behaviour of economic agents.
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