National Income and Expenditure Accounts (NIEA)

The NIEA are an accounting system, used to measure current economic activity. The NIEA are
compiled by Statistics Canada. Like any accounting system, the NIEA define concepts and then
construct measures corresponding to those concepts.

GDP is a measure of aggregate output measured in the NIEA. There are three approaches to
measuring GDP, each of which is incorporated in some way in the NIEA.

(1) Product Approach (what is produced?)

(2) Expenditure Approach (who buys it?)
(3) Income approach (who receives what?)

Each approach gives a different perspective on the economy but they all produce the same
measure of GDP.

Product Approach
To calculate GDP, sum up the total value of final goods and services produced in the economy
during a given period of time.

This means you have to exclude intermediate goods, that is goods produced in the economy by
one business but used as inputs by another, at another stage of production, in the same period.
For example, tomatoes used to produce tomato paste or wood used to produce beds are not
counted in GDP.

Reason: to avoid double counting. The value of the intermediate good is already included in the
price of the final good for which it was used to produce. In the above examples, the value of the
tomatoes and the value of the wood have been counted already in the value of the tomato
paste and beds respectively.

This approach makes use of the value added (VA) concept.

VA for a business = value of output – value of intermediate inputs

The product approach computes GDP (total VA) by summing the VA of all producers (not output
because then you would be double counting some). This is equivalent to adding the value of all
goods produced in the economy and subtracting the value of intermediate inputs.

Note that if the firm that produced the final good and the firm that produced the intermediate
good merged, the value of GDP, measured this way, would not change.

Expenditure Approach
To calculate GDP, sum the spending by the ultimate purchasers, on all final goods and services
produced within the economy over a given period of time.
(Note: we do not calculate spending on intermediate goods).

Total expenditure = C + I + G + NX
CONSUMPTION EXPENDITURES: These are the final goods/services purchased by
households/consumers.

C = consumer durables + semi‐durables + non‐durables + services

 Examples of consumer durables: cars, furniture, appliances

 Examples of semi‐durables: clothes, shoes
 Examples of non‐durables: food, utilities
 Examples of services: health care, financial services, rent, restaurant meals

INVESTMENT EXPENDITURES: These are the final goods/services purchased by businesses to increase
their capital stock, and therefore enhance their future production possibilities. This category
also includes residential investment by households.

I = Fixed Investment + Inventory Investment

Fixed investment = residential construction + non‐residential construction

+ machinery and equipment investment

 Fixed Investment: spending on new capital goods

 Inventory Investment: increases in firms inventory holdings
 Residential construction: new houses, apartment buildings
 Non‐residential construction: private spending on structures e.g. factories, office
buildings
 machinery and equipment investment: spending on machines, tools, vehicles

Distinction between Investment and Intermediate goods/services: Sales from business A to B

are either an intermediate good/service or an investment good. An investment good is durable,
that is you use it for many periods e.g. a factory, a machine etc. A good is intermediate if it is
used to produce another good within the same period it is purchased.

Examples: computer (I), desk (I), car bought for firm use (I), car leased by a firm for its sales force
(intermediate service), pencils (intermediate good)

Treatment of Inventories: Inventories are goods that are produced but not used up or
consumed during the current period. Stocks of inventories include inventories of finished goods
(e.g. cars sitting at the lot), goods in process (e.g. cars on the assembly line), as well as raw
materials (e.g. steel produced but not sold yet). The NIEA treat inventories as a form of
investment good, that is as additions to the capital stock. These goods stay in stock to be used
next year. Next year, when the final goods are finished and sold the value of those goods
becomes part of next years GDP and the intermediate goods used to produce them are counted
as negative investment (disinvestment) – subtracted from next year’s GDP.

Imputations: How are goods/services produced and consumed but do not come to the market
place treated in the NIEA? For example, if you are a landlord and you rent your property then
that will appear in GDP under real estate services. To be consistent then, when the owner
occupies his property we must include owner occupied housing as part of GDP. GDP includes
imputed rent on owner occupied properties, the amount that Statistics Canada estimates that
the property would rent for had it been rented out.

Capital Consumption Allowance:

gross investment spending = capital consumption allowance + net investment

capital consumption allowance = the investment made to replace depreciated or obsolete

capital (made to keep the existing capital stock at its current level)

net investment = new investment that increases the existing capital stock

GOVERNMENT EXPENDITURES: These are goods/services purchased by the government for the
public. Do not include transfers, e.g. unemployment benefits.

G = public consumption + public investment

Examples: fire department services, judicial system, new parks etc.

NET EXPORTS: In order to make expenditures consistent with production you have to add exports
(because these are goods and services produced domestically) and subtract expenditure on
imports (because these are goods and services produced in some other country).

Income Approach
To calculate GDP, sum up the incomes received by the factors engaged in production (workers,
owners of firms, landowners, bondholders etc.). This says what happens to firm revenues after
paying for intermediate inputs.

Total income = sum of claims against VA by business

Reason: every business has a residual claimant.

Residual claim = VA of a business – sum of claims of all other claimants

For corporations, the residual claim is corporate profits. For unincorporated businesses (self‐
employed), the residual claim is proprietor’s income.

Total income = indirect taxes less subsidies + wages + rents + profits + interest on loans +
depreciation + other incomes earned

Note that indirect taxes less subsidies and depreciation do not have to be included above if I am
measuring income at factor costs and profits net of depreciation.

An Example
Consider an economy with two producers and some consumers who work and buy goods. There
is no government in this economy. The first producer is a tomato farmer who magically
produces tomatoes without any inputs. The second producer is a tomato paste company, which
transforms tomatoes into tomato paste.
The total value of output for the tomato farmer is $1,000, out of which he sells $600 worth of
tomatoes to consumers and $400 worth to the tomato paste company. He hires some of the
consumers as workers to produce his tomatoes and pays them a total of $650 for their labor.
The rest $350 is his profit. Thus, the tomato farmer’s accounting statement is as follows:
Tomato Farmer

Revenues
from sale of tomatoes to consumers $600
from sale of tomatoes to the paste factory $400
Expenses
wages $650
Profit $350

The tomato paste company produces tomato paste worth $1,200, which it sells to consumers.
The company has to pay $400 for the tomatoes and $500 for wages. The rest $300 is profits.
Thus, the tomato paste company’s accounting statement is as follows:
Tomato Paste Company

Revenues $1,200
Expenses
tomato purchases $400
wages $500
Profit $300

GDP from the production side

Value of final output = 1,200 + 600 = $1,200 = GDP
VA for farmer = $1,000
VA for company = 1,200 – 400 = $800

Sum of VAs = 1,000 + 800 = $1,800 = GDP

GDP from the income side

Total income = 650 + 350 + 500 + 300 = $1,800 = GDP

GDP from the expenditure side

Total expenditure by consumers = 600 + 1,200 = $1,800 = GDP

Why are the three approaches equivalent?

Because everything that is produced in the economy, is ultimately sold, thus showing up as
expenditure, and what is spent on all output is income in some form for someone in the
economy.

total production = total income = total expenditure

or
 Y= C + I + G + NX

This is the fundamental identity (i.e. an equation that is true by definition) of national income
accounting. The internal consistency of the NIEA is reflected in this identity.