Macroeconomics concepts and applications

¶ … gross domestic product (GDP) is equal to the market value of all final goods and services created in an economy in a given period of time. According to the expenditure method, GDP is calculated as the sum of consumption, investment, government spending and exports minus imports. This indicator does not include transactions that are made by the country's firms, but which took place outside the country because GDP is measuring the income generated by a certain region. Gross national product, however, is measuring the income generated by national companies, no matter where the transactions are made. In the GDP equation just presented, investment and consumption are considered the expenditure of final products and the subtraction of imports from exports eliminates those incomes that were not produced nationally.

The income approach of GDP measures the indicator as the sum of: employees' compensation, gross operating surplus, gross mixed income and taxes less subsidies on production and imports. The first 3 components are considered the income part of the GDP as measured on factor prices. The 4th component is added to obtain the income as measured on final prices, which are the prices used in expenditure calculation.

The main national accounts are: national income and products (including GDP), capital accounts (includes net accumulation and accumulation's financing), financial accounts (includes assets and liabilities) and balance sheets (includes stock of assets and liabilities at one point in time). The net domestic product is equal to GDP minus the depreciation of capital stock. The gross national income is computed as the sum of GDP and other incomes coming from outside national boundaries minus payments made outside the same boundaries. The personal income refers to the income received by the population from all sources, whereas the disposable personal income refers to the portion of income left after taxes are paid. Gross private domestic investment measures the size of investment in GDP and it's and indicator of how the economy will behave, because its size is proportional with the country's capacity to expand. The investment used to compute GDP has two elements: residential investments (e.g. houses) and non-residential investment (e.g. plants). The 3rd component of investments is depreciation and is deducted from the sum of the first two to obtain the net investments.

The government making transfer payments is considered to be state intervention to a lesser extent than the purchasing of goods because in the 1st scenario the government is distributing part of its income to the poorest members of society, without getting involved in the business activity. In the 2nd scenario, the government is helping economic agents that may not be competitive enough to be in the market, thus interfering with the business activity.

According to Barro (1991), two sources of the increase in the government spending are the increased taxes and borrowings. Buchanan and Wagner (1977) suggested that high deficits are also a cause for increased government spending. The major revenue sources for government income are: the profits tax, the salaries tax and the property tax, which correspond to the three major classifications of taxes. The major expenditure sources are: transfer payments to persons, defense consumption and social security (BLS, 2007). For state governments, the revenue is generated by land and municipal taxes and the expenditure is generated by retirement and disability, other direct payments and grants. The 2 major tax philosophies are: the single and the progressive one. Sales taxes are designed to be proportional, but in fact they are also called regressive because people with low income usually spend a higher % of their income on taxable sales, than people with higher incomes.

If the government doubled or tripled the taxes, the first impact would be to slow down the economic expansion, because companies would have less money to invest and investment is important to grow. The 2nd effect would be for companies to have less incentive to pay taxes even if they had the money.