Reasons for Introduction of National Accounts
The detailed calculation and publication of annual national product figures is a practice with only a relatively short history. United Kingdom figures have been compiled regularly only since the early 1950s. If the nation managed to survive fairly successfully through the centuries before 1950 without national accounts, why do we attach so much importance to them today?
The answer is twofold. In the first place, the national product concept based on the circular flow of economic activity is relevant only to an industrial economy, and the UK could be called such only from around 1850 onwards. The realisation that the periodic economic problems arising out of industrial activity could not be measured and properly understood unless accurate figures were available, led eventually to acceptance by the government of its duty to prepare these figures.
The second part of the answer lies in the changed economic role of the government. After the Great Depression of the 1930s, there was a widespread belief that the government could and should seek to become involved in some degree of economic planning. If a government is to try to manage the national economy, it needs national accounts, just as much as business managers need business accounts for the firms they are seeking to control.
Helping to Solve Economic Problems
The existence of national accounting figures also helps us to understand how an economy actually works. Without precise figures, we can only guess at such issues as the influence of interest rates on savings or of income levels on consumption. When we have continuous records of interest rates, savings, incomes and consumption over a reasonable number of years, then we can produce evidence of cause and effect.
The more we know about the workings of a modern economy, the more hope there is that action can be taken to produce results that are beneficial to the community, and that
solutions can be found for the great problems which beset industrial societies, such as mass unemployment and price inflation.
Making Comparisons
Accounting records make comparisons possible. We can find out whether the economy is operating more or less effectively than in the past, or more or less efficiently than the economies of other countries. As we shall see in the next section, care has to be taken in making comparisons but, without national accounting figures, no comparison is possible at all. For example, when we look at the UK experience over the last decade in the light of, say, the West German experience over the same period, we can see that there have been very different results arising from different policies and objectives.
One very practical use for national income figures is as a basis for a number of United Nations calculations. Member contributions to some UN institutions depend on their national product. National income and product figures are the starting point for many UN
investigations designed to improve the economic and social performance of poorer
countries. However, we have to accept that too much reliance should not be placed even on the best national accounts, and they should not be used, except with very great care, for purposes for which they were never intended.
Limited Accuracy
It is clearly impossible to compile details of all the many economic activities in a modern community. The desire to evade taxes is one of many reasons why some activities remain firmly hidden from official eyes. The extent of the hidden (or black) economy in some countries is sometimes put as high as 20–50 per cent of the official economy! Business organisations come and go, and it is not easy to estimate the size of activity in new industries or the extent to which older activities may be declining. We have seen that the three measures of the British national product can be made to balance only with the help of a statistical adjustment. Considering the huge amounts involved the proportional differences that have to be reconciled are remarkably small. In countries able to devote fewer resources to statistical services the margin of error is likely to be rather greater.
Remember that we are dealing with large aggregates or total figures, and these can conceal very wide variations. For example, if on the basis of our accounts we say that the average income per head of the population is £x, we should not imagine that the majority of people will be earning that figure. Some will be earning much more and some much less. Some of the richest people in the world come from the poorest countries. For a developing country, any average is likely to be very misleading in view of the very great social, regional and other differences that exist.
Some countries may have an interest in ensuring that figures are not too accurate. A country hoping to obtain maximum help from, and make the smallest possible contribution to, United Nations institutions will wish to keep its national income figures as low as possible.
There is also the problem of comparing accounts when these are prepared in different national currencies. International figures are usually converted to United States dollars at official rates of exchange. Such official rates are often very different from the rates ruling in unofficial currency markets.
Value to the Community
So far, we have identified problems of calculation. Even if all the calculations and estimates were completely accurate, some important economic activities would not be included at all in the accounts. The most commonly-quoted example of a major omission is that of the
contribution made to economic and social welfare by unpaid mothers, and others who perform services within the family. In the same way, official figures ignore unpaid voluntary activities within local communities and amateur sporting activities.
The way in which production, especially service production, is valued may cause further problems. Where goods and services are distributed through unregulated markets, we accept that market price is a fair method of arriving at their value. However where the state is the sole provider of a service and the sole employer of the factors used to produce that service, then we cannot be sure that the recorded value bears any relation to the value to the community – or to their value in another country where similar services are distributed
through the market system.
Hospital charges in the USA, where there is a free market in health care, are higher than in the UK, where the National Health Service is the main supplier, and nurses earn more in the USA than in the UK. In Britain, charges in private commercial and language schools are higher than in the state-controlled colleges of further education. These differences make fair comparisons extremely difficult.
Changing Money Values
Any comparison or calculation is likely to rely on money as a measuring device. However, measuring any product with money is a bit like measuring a metre of cloth with an elastic rule. Money itself does not keep a constant value. Its value is eroded by price inflation. The rate at which prices increase (or sometimes decrease) differs greatly over time and from country to country. The rate of change in prices in a country can be measured using price indices, and in many countries various price indices are compiled for this purpose. These cannot be entirely accurate, and the longer the period over which comparisons are made, the less reliable the figures become.
In the UK National Accounts allowance for changes in the value of money is incorporated into the figures. This is done by a process of price adjustment referred to as the "chained volume measurement method". The resultant figures are referred to as "real values"
because they measure actual changes in output rather than changes resulting solely from changes in prices. This makes it possible to look through "the veil of money", and observe and compare "true" changes in output or income. Thus in seeking to establish the true extent to which economic progress is taking place in an economy over time it is necessary to use measures of real GDP or real national income. If the population of a country is also
increasing it is necessary to express measures of real income or product on a per capita basis (real GDP per capita equals total real GDP/total population, and real national income per capita equals total real national income/total population).
Summary of National and Domestic Income and Product Relationships
You may find it helpful at this point to see in summary form how the different national accounting concepts and terms used in the UK National Accounts we have discussed are related.
GDP gross domestic product (or income) at market prices less primary income payable to non-residents
plus primary income received from the rest of the world equals
GNI gross national income at market prices
(this is equal to the sum of gross primary incomes received by resident institutional units and sectors of the economy)
and
real GDP (GDP converted from money value using the chained volume measurement method)
plus trading gain equals
RGDI real gross domestic income
plus primary real incomes received from the rest of the world less real primary incomes payable abroad
equals
RGNI real gross national income (converted from money value using the chained volume measurement method)
plus real current transfers from abroad less real current transfers abroad equals
RGNDI real gross national disposable income
The money and real values for the economy's measures of GDP, GDI, and GNDI are converted to their equivalent net values, NDP, NDI, and NNDI, by subtracting the estimate for capital consumption or depreciation.
For example, GDP less fixed capital consumption gives NDP. Because of the difficulty of calculating accurate measures of an economy's annual depreciation in its capital stock – its capital consumption – estimates of GDP are the most widely used measures of an
economy's economic activity and the most reliable for comparisons between countries. For example:
GNI minus capital consumption equals NNI national income and
RGNI minus real capital consumption equals RNNI real national income.