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24. GDP is a measure of the amount of final goods and services produced within a country

in a year (or a quarter). Gross output measurestake no account of depreciation of capital

goods. But if a large amount of output produced has to be set aside to renew machines and other capital goods, society’s ability to consume is less than it would have been if only a small amount of set-aside were needed. Thus, an immediate adjustment to GDP is to account for

depreciation; doing so, leads to a measure of net domestic product (NDP). Thus, net

measures should be emphasized over gross measures of economic activity when the objective is to track standards of living.

7. There are many factors to explain the lower growth of survey-based household income and consumption. One is that richer households are less likely to participate in surveys. A second factor is that the national accounts' measures of household income and consumption contain several important and rapidly growing items that are not consumed by the poor and that are not included in surveys. So it is possible for consumption of the poor to grow less rapidly than national consumption, without any increase in measured inequality.

25. The reason why economists have relied more heavily on GDP than on NDP is, in part, that depreciation is hard to estimate. True economic depreciation is the change in the value of

capital goods as a result of its wearing out or obsolescence8 and the shortening of its future

lifespan. But most businesses (and, often, national accountants) use simple rules: if a machine wears out on average in ten years, each year’s depreciation is estimated to be one-tenth of the value of the machine. When the structure of production remains the same, GDP and NDP move closely together. Then, although we know that GDP overestimates the level of net output, percentage changes in GDP tended to provide a good measure of changes in NDP. But in recent years, the structure of production has changed. Information technology (IT) assets have become more important, and they account for a higher share of all capital goods. Life expectancy of computers and software is also shorter than of steel mills. On those grounds, the discrepancy between GDP and NDP should be increasing, and by implication, volume NDP should rise less rapidly than GDP. For example, nominal GDP in the United States rose by 6.1% per year during the period 1995-2007. The value of consumption of fixed capital (the national accountants’ term for depreciation) rose by 6.9% over the same period. As a consequence, nominal NDP grows at a slower rate (6.0%) than GDP. These differences are

small at the level of the entire economy but can be larger for individual industries.9

26. Of greater concern for some countries is that the standard measures of NDP have not

taken into account the degradation in quality of the natural environment. The System of National Accounts foresees entries for the appearance and disappearance of natural economic assets as well as for the quality change in these assets due to economic uses. Thus, the degradation of land, water resources and other natural assets from economic activity is in theory recorded, as is the depletion of subsoil resources, as long as these natural assets qualify as economic assets (i.e. ownership rights can be exerted). Environmental resources that do not qualify as economic “assets” (such as air or biodiversity) are thus excluded from the

measurement of degradation.10

27. Even for those natural resources that are recognized as economic assets, measures of

depletion are rarely available in statistical practice, and where they exist, these entries do not show up as a charge against income: they are rather treated as a reduction in the quantity of assets held, just as one would treat the loss of a building due to an earthquake – a capital loss,

8. Obsolescence can be related either to technological advances, or simply to changes in factor prices. As wages rise, machines that require high inputs of labour become less valuable. Technological obsolescence is obviously of central importance for many high tech investments, which are assuming an increasing large share of GDP.

9. We have expressed the comparison between net and gross product in nominal terms because it is not immediately obvious how to interpret a volume or quantity change of depreciation or net product. A volume change of GDP can be relatively easily characterized as the volume change of all the final goods and services produced in the economy over a given accounting period. Depreciation is a charge against income and reflects a value loss of capital goods used in production that can be expressed in equivalent units of new capital goods but this is only one possibility. From a perspective of material standards of living, it is better to reason in terms or real

net domestic income: the amount of resources generated during the period and expressed in equivalents of (consumption) goods or services. There are different ways to express real income – consumption product equivalents are most frequently used for household income whereas products of domestic demand are typically used as the equivalent ‘unit’ in which economy-wide real income is expressed.

10. Environment resources are not the only non-marketed assets which play an important role in determining societal well-being. Health, human capital, and knowledge are other assets that are at least partially non-marketed. See the discussion below.

but not a reduction in income. From an accounting point of view, two solutions can be imagined. First, the depletion of natural resources could be captured by excluding the value of natural resources from the production value of sectors like mining and timber. Their production would then only consist in a pure extraction or logging activity with a corresponding decrease in GDP. A second possibility is to take resource depletion into account in the depreciation measures. In this case, GDP would be unchanged but NDP would be lower. The hurdle is reliable monetary valuation of the natural resource that accounts for changes to environmental quality

28. A related question is how to treat additions to the stocks of natural resources. In

principle, accounting should be symmetric: just as natural resources are reduced by extraction, they should increase with additions. For biological resources, this addition

happens through natural growth. For subsoil reserves of minerals and energy, the known stock

may rise as the result of mineral exploration and appraisal. Others would maintain that the stock of sub-soil assets is non-renewable on a human scale. If, and how much of such additions to stocks should be recognized as an addition to income, has been a matter of debate.

29. None of the issues arising from the recognition of depletion and environmental

degradation in the national accounts are new, and much work on these issues has been undertaken at the national and at the international level, as demonstrated for example by the

International Handbook on Integrated Environmental and Economic Accounting (SEEA -

2003), or by the ongoing work of the ‘London Group’, a gathering of statisticians who deal with the environment and economics. There are some conceptual problems (such as those alluded to in the previous paragraph), many measurement problems (especially concerning environmental degradation), and occasional political problems. Taking into account resource depletion would, for instance, suggest a smaller weight for sectors like coal mining and timber in the economy; and, in some instance, there has been lobbying against the development of more comprehensive accounts that would reflect resource depletion and adverse environmental effects. Further issues are posed by internationally harmonized

implementation11.

30. When the use of natural resources is not recognised as a cost of production, there is less

incentive to use these resources optimally. If services provided by natural assets are shown, resource productivity – i.e. the efficiency with which natural resources are used – can be tracked and put on the same footing as measures of labour productivity or (produced) capital

productivity. Work has progressed in this area12 but much remains to be done before

comparable measures of resource efficiency are available for a broad number of countries.