Total Revenue

Total revenue Test

(TR) is calculated by multiplying price
(P) per unit and quantity (Q) of the good sold. Or TR
= P x Q
The total revenue test is a method of estimating the
price elasticity of demand. As Ed will impact the
total revenue, we can estimate the Ed by looking at
the movement of the total revenue.

Total Revenue Test

When Ed is > 1, total revenue will decrease as
price increases. P and TR move in opposite directions.
Producers can increase total revenue ( TR = Price
x Quantity ) by lowering the price.

When Ed is < 1, total revenue will increase as

price increases. P and TR move in the same direction.
Producers can increase total revenue by raising the
price.
 Movement of Total
Revenue
DEMAND FUNCTION FOR PRODUCT X: P =
2.5-0.01Q
ELASTICITY OF DEMAND;

FROM A TO E Ed >1     TR increases

FROM E TO F Ed =1      TR remains same.

FROM F TO J Ed <1       TR decreases.

 A B C D E F G H I J
Q 0 50 100 150 200 250 300 350 400 450
P 4.5 4 3.5 3 2.5 2 1.5 1 0.5 0
T.R 0 200 350 450 500 500 450 350 200 0
ED 17 5 2.6 1.57 1 0.64 0.38 0.2 0.06 0
 Measuring Domestic
Output
 Why Calculate national Income- for 3
reasons, to
1.Assess the health of the economy by
comparing levels of production at
regular intervals
2.Track the long run course of the
economy to see if it has grown
remained constant or declined
3.Formulate policies that will safeguard
and improve the economy’s health
 Primary measure of economy’s
 Assessing the
Economy ’ s
Performance
National Income Accountin
•Health of the Economy
•Comparisons Over Time
•Formulation of Public Poli
What Are These
Accounting
Measures?
 Aggregate Output or GDP
• It is the total market value of all final
goods and services produced in a given
year.
• GDP is a monetary measure without
which we can’t compare relative prices
of goods and services produced in an
economy in different years
• For eg which output is greater, 3
computers & 2 sofas or 2 sofas and 3
computers? Price tag?
• If prices of sofas go up and of computers
Measuring GDP
• For accurate measurement goods
should be counted once and hence
only the market value of final
goods is included
• Intermediate goods are totally
ignored. Why?
• Because the final price already
includes the price of intermediate
goods used in them
• Including the value of intermediate
goods would amount to multiple
counting
 Multiple Counting
• Example is exhibit 7.2
• Firm A sells $120 worth Sheep ranch to
Firm B
• It paid $120 for wages rent interest &
profit(WRIP)
• Firm B Processed wool and sold for $180
to Firm C
• It bought for 120 and paid $60 in WRIP
• Firm C manufactures suit and sells to
wholesaler for $220. It bought for 180
and paid $40 for WRIP
LE 7.2
ue Added in a Five - Stage Production Process

(1) (2) (3)

Stage of Production Sales Value Value
$ 0
of Materials Added
Firm A, Sheep ranch or
120Product $ 120 (= $ 120 - $ 0)
Firm B, wool 180 60 ( = 180 – 120)
processor
Firm C, suit 220 40 ( = 220 – 180)
manufacturer
Firm D, clothing 270 50 ( = 270 – 220)
wholesaler
Firm E, retail clothier 350 80 ( = 350 – 270)
Total sales values $ 1140
Value added (total $ 350
income)
 Value Added
• If we add all intermediates the total
comes to 1140. However production &
sale generated only $350.
• Alternatively we can add value added at
each stage.
• Value added is Market value of firms
output less value of its inputs. Firm A
got 120 as original value
• Firm B bought for 120 sold for 180 so VA
is $60
 Non production Transactions
• GDP excludes NPTs as they have
nothing to with generation of final
goods and services. For eg
• Public transfer payments: social
security, welfare payments, veterans
payments
• Private transfer payments: money
given by father to children, or
charities
• Stock Market transactions: buying and
selling of stocks and bonds is
 GDP measurement
approaches
• We just saw two approaches !!!!!!!!!
• We looked at final price paid by
consumer and
• We looked at entire WRIP incomes that
were created in making a suit or value
added approach
• Similarly GDP can be calculated in
2ways
• We can look at GDP as sum of all
money spent in buying goods:
expenditure or output approach
• Or we look at GDP as income derived or
 GROSS DOMESTIC PRODUCT
The total market
value of all final
goods and services
produced in a given
•A year
Monetary Measure
•Avoid Multiple Countin
•Intermediate Goods
•Final Goods
•Value Added
 Expenditure Income Approach
Approach Add up all income that was
derived
Add all that was spent to
buy total output As income from production of
All final goods produced goods
are The total receipts acquired
Bought by 3 domestic from the
sectors sale of the total output are
Households, businesses or allocated
Government Or foreign to the suppliers as Wages,
buyers Rents,
Consumption by Households Wages +and
Investments Rents
Profits
+Investment Expenditure by + Interest +Profits
Businesses + Govt Purchases + Statistical
+ Expenditure by foreigners adjustments
Or C+Ig+G+Xn Or W+R+I+P+
adjustments
 GROSS DOMESTIC PRODUCT
Expenditures Approach Income Approach
Consumption Wages
by Households
+
+ Rents
Investment G +
by Businesses
= D = Interest
+ P +
Government
Purchases Profits
+
Expenditures
+
Statistical
by Foreigners Adjustments
 Expenditure Approach
• Personal Consumption Expenditure also
called consumption expenditures by
households
• The term covers all expenditures on
durable consumer goods (Cars, ACs
Refrigerators etc), non durable goods
(Bread, Milkm Toothpaste etc) and
consumer expenditures for services
(doctors lawyers barbers mechanics
etc)
 Expenditure Approach
• Gross Private Domestic Investment (Ig)
includes
1.All final purchases of machinery
equipment & tools by business
enterprises
2.All construction (residential &
commercial)
3.Changes in inventories for production
or as unconsumed output (goods
available for sale)
• It does not include non investment
transactions like transfer of paper
 EXPENDITURES APPROACH
Gross Investment
-
Depreciation
=Net Investment
Net
Investme
Gross nt
Investment
Depreciation Increa
Stock sed
Stock
of Consumption
and
Government
of
Capita Spending Capita
l l
January 1 Year ’ s GDP December 31
 Expenditure Approach
• Government Purchases or G is 3rd
category of expenditures & includes
consumption and investment by
government.
• Government incurs expenditure on
goods & services in providing public
service (education etc)
• Govt also spends money on social
capital like highways and new schools
which have long life.
• Govt purchases (Federal Provincial and
Local) include all government
 Expenditure Approach
• Net Exports or Xn means “Exports less
Imports”
• Money is spent on purchase of imported
goods & on those goods produced
locally & exported abroad therefore
Xnavoids overstatement of production
 Putting All together
 GDP = C + Ig + G + Xn
 Income Approach
• Items that make up national income
• -Compensation of Employees
 -Rents
 -Interest
 -Proprietors’ income
 -Corporate Profits
• Statistical Adjustments required
 Indirect Business taxes are added
back
 depreciation is added back and
finally also add
 Net Foreign Factor Income
• Net foreign factor income is the
difference between factor payments
received from the foreign sector by
domestic citizens and factor
payments made to foreign citizens for
domestic production. This is also the
key difference between GDP and GNP.
• Net foreign factor income actually
represents a two-part adjustment
between gross domestic product and
national income.
 Net Foreign Factor Income
• Suppose that a foreign citizen is employed
in the domestic economy. For example,
suppose that Auklonavic, a citizen of
Russia works in an assembly plant
located in Shady Valley, U.S.A and If
Aukla earns $15,000 in a given year for
his productive efforts in the U.S. Wacky
Willy factory
• Auklonavic’s productive efforts is included
in gross DOMESTIC product, but not
gross NATIONAL product. His income
falls under the heading of factor
Net Foreign Factor Income
• Also Suppose that Edgar, a citizen of
the United States of America, works
in Russia and earns $20000 there.
• His productive efforts are included in
gross NATIONAL product, but not
gross DOMESTIC product and his
income falls under the heading of
factor payments received from the
foreign sector by domestic citizens.
•
Net Foreign Factor Income
• Since Auklonavic earned $15,000 in
USA and Edgar earned $20,000 in
Russia therefore Net Factor Foreign
Income is:-
• $20000 - $15000 = +5000
• However the GDP of USA is $5,000
less than the GNP of USA.
E 7 .2
ue Added in a Five - Stage Production Process

Receipts: Expenditures Approach Allocations: Income Approach

Personal consumption expenditure (C)…......... $ 7304 Compensation of employees ………………………….. $
5977
Gross private domestic investment (Ig)............ $ 1593 Rents………………………………………………………
………… 142
Government purchases (G) …………………………... $ Interest……………………………………………………
1593 ………… 684
Net exports (Xn) Proprietor’s
……………………………………………… $ -424 income…………………………………………… 757
Corporate income
taxes…………………………………….. 213
Dividends…………………………………………………
………… 434
Undistributedcorporate profits………………………….
141
Nationalincome…………………………………………
$ 8348
Indirect business
taxes………………………………………. 695
Consumption of
fixedcapital……………………………… 1393
Net foreign factor income earned in the U.s……… 10

Gross domestic product………………..…………… $ Gross domestic product………………………… $

10,446 10,446
Net Domestic Product = GDP – Consumption of
fixed capital
or 10446 – 1393 =
9053

National Income = NDP – (NFFI + Indirect

Business Taxes)
Or 9053- (10+695) =
8348

Personal Income = NI –(SS contributions + Corp

taxes + RE) +
Transfer Payments
Or Personal Income = 8348 -(748+213+141) +
1683=8929

Disposable Income = Personal Income – personal

 OTHER NATIONAL ACCOUNTS
U . S . GDP , NDP , NI , PI , & DI , 200
Gross Domestic Product (GDP) $10,446
Consumption of fixed capital -1,393
Net Domestic Product (NDP) $9,053
Net foreign factor income earned in the
U.S. - 10
Indirect business taxes -695
National Income (NI) $8,348
Social security contributions -748
Corporate income taxes -213
Undistributed corporate profits -141
Transfer payments +1,683
Personal Income (PI) $8,929
Personal Taxes -1,113
Disposable Income (DI) $7,816
Exports
$ 367 Exp Approach
Dividends
60 Inc Approach
Consumption of fixed capital 307
Inc Approach
Wages and salaries
1442 Inc Approach
Government purchases
577 Exp Approach
Rents
33 Inc Approach
Indirect business taxes
255 Inc Approach
Wage and salary supplements 280
Inc Approach
Gross private domestic investment 437
Exp Approach
Corporate income taxes
88 Inc Approach
Transfer payments
320 Not included in either
Interest
201 Inc Approach
Properties’ income
132 Inc Approach
Personal consumption expenditures 1810
 Nominal V/s Real GDP
• A GDP based on the prices that
prevailed when the output was
produced is called Nominal GDP
• A GDP that has been deflated when
prices rose and inflated when
prices fell is called Adjusted GDP or
Real GDP
TABLE 7.5
Calculating Real GDP

Year (1) (2) (3) (4) (5)

1 5
Units of $10 of
Price 100 Index Unadjusted,
Price $50 $50
Adjusted, or
2 7
Outputs 20
Pizza (Year 1 = 100 140
200 Or Nominal, 70
Real, GDP
3 8 25 Units
Per 250 200
GDP 80
4 10 30 ____ ____
(1) * (2) ____
5 11 28 ____ ____ ____
BLE 7.6
eps for Deriving Real GDP from Nominal GDP

Method 1
Find nominal GDP for each year.

2. Computer a GDP price index.

3. Divide each year’s nominal GDP by that year’s
Method
price 2 (in hundredths) to determine real GDP.
index
Break down nominal GDP into physical quantities of

2. Findreal
output GDPfor
and price foreach
eachyear.
year by determining the
dollar amount that year’s physical output would have
sold for if base-year prices had prevailed. (The GDP
price index can then be found by dividing nominal
GDP by real GDP)
 NOMINAL GDP vs . REAL GDP
•Adjustment Process
•GDP Price Index
• Price of market basket

= x 100
Price Index in specific year
in a given
year Price of same market
basket in base year

Real GDP
= Nominal GDP
Price Index
(in hundredths)

An Alternative Method
Price Index
(in hundredths) = Nominal GDP
Real GDP
E 7 .7
inal GDP , Real GDP , and GDP Price Index , Selected year

(1) (2) (3) (4)

1975
Year 1635.2 GDP, Real
Nominal 4084GDP, ____Price Index*
GDP
1980 2795.6
Billions of $ ____
Billions of $ 57.054
(1996 = 100)
1985 4213.0 5717.1 73.69
1990 5803.2 6707.9 ____
1995 7400.5 ____ 98.10
1996 7813.2 7813.2 100.00
2002 10446.2 9439.9 110.66
 SHORTCOMINGS OF GDP
•Nonmarket Activities
•Leisure
•Improved Product Quality
•The Underground Economy
•GDP and the Environment
•Composition and Distribution
of Output
•Noneconomic Sources of Well -
Being