MATT - Measuring National Income Trade Creation and Trade Diversion

Measuring National Income, Trade Creation and Trade Diversion

MEASURING NATIONAL INCOME:

• The most commonly used measure of a country's national income is GDP. *REMEMBER: GDP is the total value of all final goods and services produced in an economy in a year.* The three ways to calculate GDP are:
  • Output method:This measures the actual value of the goods and services produced. This is calculated by summing all of the value added by all the firms in an economy. When we say value added, it means that at each stage of a production process, we deduct the costs of inputs, so as not to "double count" the inputs. The data is usually grouped according to the different production sections in the economy: agriculture and mining (PRIMARY SECTOR), manufacturing (SECONDARY SECTOR) and services (TERTIARY SECTOR).
  • Income Method: This measures the value of all the incomes earned in the economy.
  • Expenditure Method: This measures the value of all spending on goods and services in the economy. THis is calculated by summing up the spending by all the different sectors in the economy. These include:
    • -spending by households (consumption)
    • -spending by firms (investment)
    • -spending by government (government)
    • -spending by foreigners on exports minus spending on imports (net exports).
• GDP (also, Aggregate Demand) = C+I+G+(X-M) ---> this is the expenditure method.
• All three methods should result in the same figure (theoretically). This is called:

-National Output
-National Income
-National Expenditure

• *The three values, in practice, are much different values, because of inaccuracies.*

Gross National (Domestic) Product/Gross National Income

• The total income that is earned by a country's factors of production, regardless of where the assets are located.
• GNI = GDP + net property income from abroad

Gross National Income and Net National Income

• Net National Income: the measure that takes into account the depreciation of capital.
  • Very difficult to measure depreciation.
• NNI = GNI - depreciation

Why National Income Statistics are Gathered

• National Income statistics can be seen as a "report card" for a country. Economic growth is a stated objective of governments. Economic growth is an increase in a country's national income over time. Therefore, people use the statistics to judge whether or not a government has been successful in achieving its macroeconomic objective of increase growth.
• Governments use the statistics to develop policies.
• Economists use the statistics to develop models of the economy and make forecasts about the future.
• Businesses use statistics to make forecasts about future demand.
• The performance of an economy over time can be analyzed.
• Because rising national income is often equated with rising living standards, people often use national income accounts as a basis for evaluating the standard of living or quality of life of a country's population.
• National income statistics are often used as a basis for comparing different countries.

TRADE CREATION:

• (On graph): Orange= Regained world efficiency; Green=Regained consumer surplus.
• Trade creation occurs when the entry of a country into a customs union leads to the production of a good or service transferring from a high-cost producer to a low-cost producer. This is an advantage of greater economic integration.
• ex. Assume that when the UK joined the EU in 1973, it had a comparative advantage over France, a member of the EU at the time, in the production of lawnmowers. However, as a non-member of the EU, the EU had placed a tariff on UK lawnmowers. On entering the EU, the tariff on UK lawnmowers is relaxed and the UK can now make full use of its comparative advantage. French production falls and imports rise. Thus, trade has been created. In addition, the extra demand means that there is an increase in consumer surplus.
• There is also a movement from high-cost to low-cost producers, since lawnmowers are not being made by inefficient French producers and are being produced by English producers who are more efficient. There is a world welfare gain, because fewer resources are being used to produce these lawnmowers.
• It should be remembered that this out to be a two-way process. It is highly likely that, with free trade, there will also be French products of which the UK will now buy more, because the French have the comparative advantage, for example, in wine.

TRADE DIVERSION:

• Trade diversion occurs when the entry of a country into a customs union leads to the production of a good or service transferring from a low-cost producer to a high-cost producer. This is a disadvantage of greater economic integration.
• The direct opposite of trade creation (above).