LECTURE 9 IncomeNarration notes

SLIDE 1• Population and income are both ‘obvious’ determinants of demand• As people earn more income, they spend some of that income on food, so aggregate demand for food

increases - shifts out and to the right• Food demand is high where income is high, and food demand will grow when income grows• Income and the distribution are also important for this course b/c the people w/ the lowest incomes are

likely to be those suffering from undernutrition, and raising incomes has been and will be an important means by which to reduce undernutrition

• 4Ps, this one is the P for prosperity• This lecture: how income is measured, geographic differences, changes over time in incomes

SLIDE 2• GDP (Gross Domestic Product): aggregate dollar value of goods and services produced in the country• A country w/ a lot of people, and a lot of people who produce a lot of goods and services, will have a

high GDP

SLIDE 3• Map of what each country would look like were its geographical size reflective of the size of its GDP

• USA is largest economy in the world by a considerable margin• Note relative sizes of Japan and China• UK is also big• Africa is tiny

• GDP can help put other numbers in perspective• US federal budget deficit is $1 trillion, or ~7% GDP• Health care costs in US are $2.3 trillion, or ~16% of GDP - compare to % of GDP spent on HC in

other countries• North Korean military expenditures are ~$5 billion per year, which is ~ 23% of NK’s GDP

SLIDE 4• GNP = gross national product• GNI = gross national income• in this course we most typically use GDP, which measures the value of goods produced in the country,

but esp. as we begin to make cross country comparisons, bear in the mind that total value of goods and services produced by a country != as the money a country has to spend to consume goods (which is better measured by GNP)

• Remittances (money that is sent back to a country by citizens living and working abroad) are one important reason for distinction btwn value of goods produced and value of goods consumed

• e.g. people working in the US who send remittances back to Guatemala: shows up as part of US GDP (b/c production takes place in US), but shows up as part of Guatemala’s GNP (value of goods consumed in Guatemala)

• For developing countries, remittances can total 20-30% of their GDP, so GDP would dramatically understate the standard of living in those countries

SLIDE 5• Even w/o remittances, there can be a substantial difference btwn income and spending• Figure shows earning and spending patterns of low-income, middle-income, and high-income

households in the US• Red box shows household income before taxes ~ $10,000; value of goods consumed is nearly 2x

that (~$18,000)• Many borrow earlier in their lives; retirees draw from savings to maintain consumption levels• Highest income individuals tend to have consumption that’s considerably less than their income

• High black triangles show what’s happening to that income that’s not spent by high-income households -- financial flows account for that = natural savings that takes place by high-income households as they save for retirement

• Lower-income households have a downward-pointing triangle, they are borrowing more• Can also see effect of govt redistribution through tax program• Inequality of consumption is much smaller than inequality of income• Highest group has avg income that’s ~15x income of lower group, but has household consumption

that’s ~3.5x consumption of lowest group• Important to be conscious of whether people are referring to distribution of income vs. distribution

of consumption/ expenditures

SLIDE 6• GDP of a country is higher where pop. is large• Typical way to standardize comparisons across countries is to measure income per capita, or GDP per

capita• Map shows GDP per capita of countries in 2008; dark blue = high GDP per capita• Poorest group (in red) are countries where per capita income < $500 (so just slightly more than $1 a

day)

SLIDE 7• Prices tend to be higher in high GDP countries• As income increases, cost of living increases• x axis shows GDP per capita as a % of GDP per capita in the US, so countries near or above 100 are

wealthier countries in Western Europe, CA, AU, Japan, etc• y axis shows relative price level (again as % of US)

SLIDE 8• World Bank has developed a method of adjusting incomes for price differences, and publishes 2

different measures of GDP per capita: (1) Conversion from the local currency to US$ is made simply using exchange rate (so doesn’t take

into account relative price differences) (2) Purchasing Power Parity (PPP), which adjusts for differences in price levels

• The concept of PPP allows one to estimate what the exchange rate btwn 2 currencies would have to be in order for the exchange to be on par with the purchasing power of the 2 countries' currencies.

• If you took the income of the avg person in Malawi in their local currency (Malawian kwacha, abbrev. MWK, just FYI b/c I wanted to know!), and took it to the bank and exchanged it for US$, you would get $360; but if you took the income of the avg person in Malawi and went out to the market and bought things, and then went to the US and bought the same market basket of things, that basket would cost $870 in the US... so PPP measure moderates difference very slightly

• Why is the US the baseline for all of these things?• What goods/ services do they use to determine/ incorporate into their determination of “price levels”?

Or is this just a cost of living calculation, and if so what exactly does that comprise? Are there more specific measures whereby geographic price variations of specific goods and services can be analyzed?

• Pattern reflects curve of graph from previous slide, tendency is that poorer countries PPP > exch. rate; rich countries PPP < exch. rate

SLIDE 9• Poor countries are really, really poor; go watch the videos, see how they live in Ethiopian countryside,

et al.• Numbers are an objective but sterile representation• Picture of Indian family with all of their possessions

SLIDE 10• Family in Iceland with much more familiar household items from US perspective

SLIDE 11• Is everything bigger in Texas though?

SLIDE 12•