NATIONAL INCOME

ACCOUNTING
Macroeconomics (EKO 503)
Lecture I-II
Prof. Hermanto Siregar

MACROECONOMICS

is concerned with the behavior of

the economy as a whole
with

booms and recessions, the

economys total output of goods and
services, the growth of output, the
rates of inflation and unemployment,
the balance of payments, and exchange
rates

deals with both long-run economic

growth and the short-run
fluctuations that constitute the
business cycle.
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In brief, macroeconomics

deals with the major economic

issues and problems of the day.
To

understand these issues, we have to

reduce the complicated details of the
economy to manageable essentials.
The essentials lie in the interaction
among the goods, labor, and asset
markets of the economy and in the
interactions among national economies
that trade with each other.
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THE THREE MODELS OF

MACROECONOMICS

Very Long Run Growth

very

long run behavior of the economy

domain of growth theory focuses on
the growth of productive capacity

Long Run
productive

capacity is given
the level of productive capacity
determines output, and fluctuations in
demand relative to this level of supply
determine prices and inflation.
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THE THREE MODELS (contd)

Short Run

fluctuations in demand determine how much of

the available capacity is used and thus the
level of output and unemployment.
it is in the realm of the short run model that
we find the greatest role for macroeconomic
policy.

Everyone agrees that behavior over

decades (very long run) is best described
by the growth theory model. There is less
agreement over the applicable time scope
for the long run vs. the short run model.
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The Economy of Indonesia over

Decades (Very Long Run Growth)

Average growth 1970-2006 = 6.1%

Average growth without 1997-1999 = 6.9%
Average growth 1970-1996 = 7.5%

The Economy with Fixed Productive

Capacity (Long Run)
P

In the long run, output

is determined solely
by the productive
capacity of the
economy (AS) alone.

AS
AD

Prices are determined

by both AS and AD.

P0

Y0

Very high inflation

rates are always due
to changes in AD.

The short run (and medium run)

P

AD

In the SR,
output is
determined by
AD alone, and
prices are
unaffected by
the level of
output.

P0

P0

AS

AD
Y0

AS

Y0

In the medium run, AS has a

positive slope. At a horizon of
2 decades, not much matters
except the rate of very long
run growth. At a horizon of 2
minutes not much matters
except AD. What about in
between? controversy.
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Inflation (%)

The Philips Curve

If the policy is to
reduce U, inflation
will rise.

Unemployment Rate (%)

The speed of price adjustment is summarized in the

Philips curve. On average a 2-point drop in U (e.g. from
6% to 4%) will increase the inflation rate by about 1
point over a year. So over the year, AS is quite flat, and
AD will provide a good model of output determination.
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Output

Business Cycle and Output Gap

Peak

Peak

Recession

Trend
Trough

Trough

Recovery

Time

The business cycle is

the more or less
regular pattern of
expansion (recovery)
and contraction
(recession) in
economic activity
around the path of
trend growth.

The trend path of GDP is the path GDP would take if factors of production
were fully employed. Over time, GDP changes for two reasons: (a) more
resources become available, (b) factors are not fully employed all the time
there is a gap between actual output and the output the economy could
produce at full employment given the existing resources (potential output).
Output Gap Potential Output Actual Output
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Inflation and the Business Cycle

Increases in inflation are inversely related to the

output gap.

Expansionary AD policies tend to produce inflation,

unless they occur when the economy is at high
levels of unemployment
Protracted periods of low AD tend to reduce the
inflation rate.

Like unemployment, inflation is a major

macroeconomic concern. However, the costs of
inflation are much less obvious than those of
unemployment.

Unemployment potential output is going to waste

hence reduction of U is desirable
Inflation no obvious loss of output but reduces
the efficiency of the price system.
There is trade-off between inflation and U.
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NATIONAL INCOME ACCOUNTING

GDP is the value of all final goods and

services produced in the country within a
given period.
GDP is the sum of all factor payments.
Labor is the dominant factor of prodn.
Per capita GDP = GDP / Population
GNP = GDP + Net Overseas Factor
Payments
Net Domestic Product = GDP Depreciation
NI = NDP Indirect Taxes
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Outlays and Components of Demand

The fundamental national income

accounting identity:
Y C + I + G + NX
In the US recently, C 68%, I 18%, G
18%, and NX -4%.
In Indonesia recently, C 67%, I 17%,
G 8%, and NX 8%.
Nothing wrong with such a high share of
C to GDP. With the current state of
Indonesia development, however, it needs
more I as well as G.
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A Simple Economy

Y C + I closed economy (no

NX) and without government (no G)
The income is for consumption and
saving: Y C + S
Thus: C + I Y C + S
Therefore: I Y C S in the
simple economy, investment is
identically equal to saving.
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Reintroducing G and NX

Y C + I + G + NX
Displosable income:
YD Y + TR TA TR is transfers to the
private sector including interest, and TA all
taxes.
Disposable income is allocated to:
YD C + S
Thus: C + S YD Y + TR TA
or: C YD S Y + TR TA S
Therefore: S I (G + TR TA) + NX
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Measuring GDP

GDP is the value of final goods and

services produced.
The

insistence on final goods & services

is to avoid the double counting.
The double counting is avoided by
working with value added.

GDP consists of the value of output

currently produced.
It

excludes transactions of existing

commodities.
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Problems of GDP Measurement

GDP is not a perfect measure of either

economic output or welfare as it has 3
major problems:

Some outputs are poorly measures as they are

not traded in the market
Some activities measured as adding to GDP in
fact represent the use of resources to avoid or
contain bads such as crime and externalities
It is difficult to account correctly for
improvements in the quality of goods.

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Prices, Inflation (), Interest Rate and

Real Interest Rate

Inflation is the rate of change in prices, and the

price level is the cumulation of past inflations:
t = (Pt Pt-1) / Pt-1
and Pt = Pt-1 + (t Pt-1)
GDP deflator is the ratio of nominal GDP in a given
year to real GDP of that year.
CPI measures the cost of buying a fixed basket of
goods and services representative of the
purchases of consumers.
The interest rate states the rate of payment on a
loan or other investment, over and above principal
repayment, in terms of annual percentage
returns in dollars (nominal int, i).
Real interest rate = i exp. inflation rate.
[The End]
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