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National Income Accounting

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  • 0:03 What Is National…
  • 0:32 Gross Domestic Product
  • 1:27 Expenditure Approach
  • 3:35 Income Approach
  • 5:24 Lesson Summary
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Lesson Transcript
Instructor: Dr. Douglas Hawks

Douglas has two master's degrees (MPA & MBA) and is currently working on his PhD in Higher Education Administration.

GDP is a common macroeconomic concept used to describe the size of a country's economy. But where does this number come from? In this lesson, we'll discuss national income accounting - the methodology used to calculate GDP.

What Is National Income Accounting?

Fund accounting is often used in non-profit organizations, while GAAP accounting is used in publicly-traded companies. Depending on the purpose of the accounting and why it is being tracked, the accounting methodology can vary. National income accounting is no different; it is the accounting methodology used to calculate GDP, an important metric for economists (and the rest of us, whether we know it or not).

Gross Domestic Product

So what is GDP? Gross domestic product (or GDP) is how economists measure the size of a country's economy. Really, it can be used to calculate the economic size of any geographic region - a city, a state, a continent, etc. But, most of the time, you'll hear it as the metric cited to describe how big a country's economy is, or how much it is (or isn't) growing. According to the World Bank, at the end of 2014, the United States had a GDP of about $17.5 trillion.

There are actually two ways to calculate GDP using national income accounting. They end up producing the same number, and as we discuss the algebra behind them, you should be able to see why. But, sometimes, one makes more sense than the other, so we'll present both the expenditure approach and the income approach.

Expenditure Approach

One way we could calculate GDP is using the expenditure approach. This takes into account four different types of expenditures. First, personal consumption expenditure. This is everything individuals in the economy buy. Remember, we are getting to GDP - the amount of goods and services produced - and if your or I purchase a good or service, that means it was produced, so we include it in our count.

The next is all government purchases. Just like you and I, the government needs to purchase. It may not be the same stuff we purchase - but whether it's new tanks and fighter jets from Boeing or power to keep the lights on in the White House, the government is purchasing goods and services produced in the economy.

The third expenditure is all the stuff produced in the United States but sold to individuals outside the United States. Those exports were produced in our economy but ended up outside of the country, so we need to count them. However, we only want to include net exports, so we take all exports and then subtract imports, meaning the things we all purchased from other countries. Yes, we spent money on it - but it wasn't produced in our country, so it's not part of our GDP. For the expenditure side, we only want to count net exports: all exports minus imports.

Finally, the last expenditure we need to add in is gross private domestic investment. The term 'investment' means we are talking about large purchases - capital items, such as new buildings, machines, and equipment. This category also includes changes in inventory, since a decrease in inventory means a company produced something in a previous period (or year) but sold it this year. Since we are using the expenditure method, it doesn't matter when the good was produced, it matters when the buyer spent money on the purchase.

Adding those four categories together - net exports, gross provide domestic investment, government purchases, and personal consumption - we get a very large sum. In 2014, for the United States, it was right about $17.5 trillion - the GDP.

Income Approach

When you think back about the four categories of expenditures that we summed in order to get GDP, each of those transactions included payment to someone, usually a company. If we added up all of that income, we should get that same number - which we do.

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