Transcript The Concept of Income

Public Sector Output:
Output Indicators and Welfare
Indicators
Martin Weale
National Institute
of Economic and
Social Research
• The role of the adjustment to volume
measures to reflect “increasing value put
on public sector outputs”
Broader issues
• The distinction between output and
income
• The capacity of the national accounts to
serve as welfare indicators
Current Prices
Income=Expenditure=Output
Constant Prices
National accountants have always known
there was a problem. Hence the need for
the terms of trade effect. No agreed
approach to the calculation of real national
income
• The basic theorem of constant price
national income accounting (Samuelson
and Swamy AER 1974)
If output is produced with constant returns to
scale and preferences are homothetic
then, in an economy with no capital
accumulation or foreign trade an index of
output is also an index of welfare
• Consider an economy with two sectors,
public and private. Each sector produces
only one output (hip replacements and
corn) and both use homogeneous labour
as the only input. The total labour force is
L
• Social preferences are Cobb-Douglas so
the share of expenditure at current prices
on public sector output is constant (=q).
• Productivity growth takes place only in the
private sector at rate g
• The growth rate of the output index is (1-q)g
• The basic theorem implies that this is also the
growth rate of the welfare index.
• If wages grow at rate w, then the price index of
output grows at rate w- (1-q)g and real wages
grow at rate (1-q)g
• The share of real hip replacements in real GDP
declines asymptotically to zero
• But the contribution of each economic activity
(public and private activities) to welfare is better
indicated by the share of income attributed to
each sector in total real income (Money income
divided by the price index) and this is constant
Proposal
• Leave real GDP figures and output indices as they
are
• Derive real income by deflating nominal income by
the consumption deflator
• Produce an additional table showing the value
added in each industry deflated by the consumption
deflator.
• Real income equals real output only if the economy
is closed and there is no capital accumulation
• The output table shows contributions to output and
the income table shows contributions to income.
• If preferences are not homothetic (e.g. the
value people put on health increases with
income) a welfare index can be produced
only by writing out the parameters of the
utility function –e.g. AIDS or its relatives.
• The link between aggregate output and
aggregate welfare is broken and a single
measure cannot serve both purposes.