Here's a fun one. (OK, I think it's fun, anyway.) Especially for those who teach macro.
A first year student emails me. Paraphrasing, he asks "For a closed economy, we know that national saving equals national investment, and investing in newly-produced goods counts towards GDP. And "saving" means anything we do with our income other than paying taxes and spending on newly-produced consumption goods. So if I take $100 from my pay and stick it under the mattress, does that count towards GDP?"
Your instinct is to answer "No!" of course. But you should be able to see his logic.
Let me restate his question in a different way, so "saving" refers to private saving, and for an open economy, so saving is not necessarily equal to investment.
It is a national income accounting identity (i.e. it is true by definition of the terms) that:
C + I + G + NX = Y = C + T + S
[Consumption+Investment+Government spending+Net eXports = GDP(income) = Consumption+Taxes+Saving]
The normal way to measure GDP is to add up all the terms on the left hand side of that identity (the "expenditure" method). So if you were adding up C+I+G+NX, and then found you had missed $100 in I, and re-did your calculation, your estimate for Y would be $100 bigger than your original calculation.
But suppose instead you decided to measure GDP by adding up all the terms on the right hand side of that identity (we don't have a name for that method, because nobody does it that way, AFAIK). So if you were adding up C+T+S, and found you had missed $100 in S, and then re-did your calculation, your estimate of Y would be $100 bigger than your original calculation.
[And the reason nobody measures GDP that way is precisely because "saving" means literally anything you do with your income except buying newly-produced consumption goods or paying taxes. It includes: buying a newly-produced investment good, buying land, buying a used car, buying financial assets, and sticking $100 under the mattress. So it would be much simpler just to ask people what their income was.]
The problem is this: If Y = X + Z, and we ask "does X count towards Y?", we are making an implicit assumption about whether or not Z stays the same. The number of my Kids equals the number of my Sons plus the number of my Daughters. K=S+D is an accounting identity. Does "if I have one more son" mean "if I have one more son and the same number of daughters" or "if I have one more son instead of having a daughter"?
We tend to read "If I put $100 under the mattress" as "If I put $100 under the mattress instead of spending $100 on newly-produced consumption goods." But we could equally well read it as "If I put $100 under the mattress instead of taking the day off work and earning $100 less".
But "if I buy $100 more newly-produced investment goods" has exactly the same ambiguity. Instead of doing what?
I think the lesson to be drawn is that we must always specify what the alternative is, and what else is assumed constant, so we answer the question: "instead of doing what?". It then becomes as trivial as playing with words should be.
Whenever anyone says "Y=C+I+G+NX, therefore if the government increases spending, GDP will rise" I will reply "Y=C+T+S, therefore if the government increases taxes, GDP will rise."
There must be a better way to teach national income accounting.
Worthwhile Canadian Initiative 
C + T + S represents the disposition of income, not its generation. The $100 under the mattress is counted as GDP when it was paid in exchange for the student’s labor, regardless of whether he later saves it, spends it, or drops it down a sewer.
I could say a company’s cash flows to equity are equal to its savings plus its dividends plus its share repurchases. That’s intuitively a weaker, less meaningful statement than saying that cash flow is revenues less cash expenses plus net financing. Changing the revenue line will change cash flow. Changing the dividend line will not.
GDP recognition seems similar to revenue recognition. It happens when someone pays someone else for a good or service.
Like so many other fields, I think this is a case where money confuses things.
Look at the expenditure side of GDP, but pretend we haven’t invented money yet: GDP is the net quantity of stuff produced in an economy. Fix this definition into our minds, and look at where we go from there:
When we add money and have a monetary exchange economy, we can look at GDP by money flows. Here, instead of needing to add together apples and goats, we just add together the money exchanged for those. That gives us our income view of GDP, where we add together all money exchanged for work.
So, is the $100 “included” in GDP? Yes. It was given to our mattress-saver in exchange for his or her labour, so it is unequivocally included in the measured GDP. The same would be true if the saver were instead in an unfortunate accident where the $100 were burned in a fire.
Would GDP be higher if – once given – the $100 were put to some other use? Also yes, because it would be exchanged for some other product of labour. This would happen either directly in the form of consumption or a newly-produced investment good, or it would happen indirectly if the money were exchanged for an existing capital or durable good and the new owner of $100 had to put it to some use.
Now, that “yes” above is only true given an infinite time horizon. If I measure GDP on a per-hour basis, then having money under my mattress is the same as having money in my pocket on the way to the store. But we can look at this in a statistical sense with the expected chance that, given $100 burning a hole in a pocket or mattress, it will be exchanged for new production. This chance is of course related to the velocity of money.
louis: “C + T + S represents the disposition of income, not its generation.”
True. I like that. And C + I + G + NX represents the disposition of output, not its generation.
Majro: I was really with you up to this bit:
“Would GDP be higher if – once given – the $100 were put to some other use? Also yes, because it would be exchanged for some other product of labour. This would happen either directly in the form of consumption or a newly-produced investment good, or it would happen indirectly if the money were exchanged for an existing capital or durable good and the new owner of $100 had to put it to some use.”
No. Here you are making a substantive statement about the world (implicitly assuming a monetarist/keynesian short run model). None of that follows from national income accounting identities. Maybe production of apples is fixed exogenously. Maybe this guy is so unfashionable that when he buys apples everyone else decides to stop buying apples and store their money under the mattress. (And GDP is GDP regardless of whether it is produced by labour.)
Majro: “produced” goods is a little bit fuzzy, but I don’t read it as meaning “produced by labour (with or without the help of other inputs)”. Hard to think of an example where labour wasn’t involved at some point in the past, but the services of capital goods, or land, might not need any labour this year.
Okay, I can believe that and withdraw my “by labour” restriction as overly picky, especially since I also make arguments about time-slicing.
The thought experiment that convinced me was a vending machine: the sale of a package of chips in a vending machine is a positive contribution to GDP as inventory (the chips-in-machine) is transformed to consumption (chips-eaten-by-me) at a profit, yet at the moment of transaction no labour is involved in the supply. If we measure GDP on an hourly basis, that looks like labour-free production.
Majro: On an hourly basis, since that bag of chips was produced last week, and was a reduction of inventory (negative investment) nothing happens. C up $1 and I down $1.
“I think the lesson to be drawn is that we must always specify what the alternative is, and what else is assumed constant, so we answer the question: “instead of doing what?”. It then becomes as trivial as playing with words should be.”
That or we can use different word for “Saving” that is not the same as a word that in general vaguely means “setting aside some money”. Or if economists cannot help but use it, maybe they cam latin translation instead? Something like “national salvificus”? Maybe then people would actually look into the definition – and most importantly into difference with “saving” instead of assuming things.
C + I + G + NX = Y = C + T + S may be an accounting identity, but i dont think that C + T + S have anything to do with what we want know about GDP, given that at least as the BEA describes it, is “the real output of goods and services produced in the US”
notice that definition is not a monetary definition, it’s a definition of output, and the current dollar value of C + T + S says nothing about that…
if you look at the full pdf for US GDP, you’ll notice that table 3 is the only place where current dollar values of GDP come into play:
Click to access gdp4q15_2nd.pdf
and that table is split into two sections, the second and only relevant section of which is in chained 2009 dollars, which aren’t really dollars at all, but a representation of the relative quantity of goods and services produced in the quarters and years cited, which are arrived at by adjusting the current dollar values of the components with the quantity indexes shown in table 5…thus GDP is a measure of the relative change in the units of output of goods and services, and your “savings” has nothing to do with that…nor can you use dollars to increase GDP in any way; neither tax rebates or helipcopter drops of dollars will add a bit to GDP, because money does not increase goods or services until it is spent…
Savings is cash management, it is about 1% (a vague guess) It includes bank sellers, armored car drivers, ATM machines, vaults and buildings.
Find out the contribution savings to GDP by ucounting your ad hoc ATM fees over the month.
Depending you where we draw the line, the rest can be attributed to financial services; analysis, default risk insurance, and regulatory costs. Financial services earn about 10% of GDP, I cannot see why we should count that as cash management. And putting digits into the on demand savings account is not financial services.
Nick, isn’t the real issue here that the question is asking for a one period answer to an implicit two period question? His income that he puts under a mattress counted towards GDI when it was received by him as income. It will not count as someone else’s income next period if he does not remove it from under the mattress and spend it. Isn’t the answer to his question “Does it count towards GDP?” that “It already did” and “It won’t in the future”?
@rsj- In national accounts, Gross Domestic Product is defined as equal to Gross Domestic Income, so GDP may have “nothing to do” with C+T+S but it’s exactly equal to C+T+S. By definition.
@Majromax-“Look at the expenditure side of GDP, but pretend we haven’t invented money yet: GDP is the net quantity of stuff produced in an economy. Fix this definition into our minds, and look at where we go from there:”
I’m sorry but that’s pure gibberish. You can’t add up the net quantity of stuff. Stuff isn’t just a homogeneous goo of “product” that can be measured in, what units would you have in mind exactly? Widgits? Utils?
There is no concept of GDP without money. You cannot add up stuff. You can add up transactions, and weight them by prices. You cannot add together the things that were traded.
Sheesh they really need to stop teaching people to think of GDP as real first, nominal second, given how completely rear end backwards that is.
@ No one in particular, much of the confusion over “savings” macro economically speaking seems to stem from the fact that what the national accounts mean by “savings” is something very different from what ordinary people think of as the object of the act of deferring consumption.
‘We tend to read “If I put $100 under the mattress” as “If I put $100 under the mattress instead of spending $100 on newly-produced consumption goods.” But we could equally well read it as “If I put $100 under the mattress instead of taking the day off work and earning $100 less”.’
It strikes me that it is always the act or working/not-working that affects GDP not the act of saving/not-saving. (Assume that every act of spending triggers an act of working as far as GDP is concerned)
“If I put $100 under the mattress instead of spending $100 on newly-produced consumption goods.” is entirely about savings/not savings, and (other things equal) has no bearing on GDP.
“If I put $100 under the mattress instead of taking the day off work and earning $100 less” is about both saving and working, but only the decision as whether to take the day off or not is relevant to GDP, the other bit (How that extra day of production affects consumption and savings) is about saving/not-savings and is irrelevant to GDP.
Of course if I think something like “I want to increase my wealth by $100 therefore I will work an extra day and save everything I earn” then the increase in GDP is actually driven by the desire to save – but I do not think that means we can say “savings adds to GDP” – the work and the savings are still 2 different things.
I suppose I am assuming that “If I put $100 under the mattress instead of spending $100 on newly-produced consumption goods.” equates to those newly-produced consumer goods getting produced anyway, and (on account of them not being consumed) being I rather than C.
Saving is an awkward concept to begin with. How about:
“So if I take $100 from my pay and stick it under the mattress, does that count towards GDP?”
No, because you didn’t save it when you stuck it under the mattress; you just changed the location of your existing savings. You saved it when you took it from your employer’s hand. And at that point it did count toward GDP, because you’re employer was investing or consuming.
If you make the time frame small enough, anyone who receives income is saving it, and that is offset by investment or dissaving on the part of whoever pays it (unless the payer is a foreigner, of course, in which case it’s offset by net exports).
JV: “That or we can use different word for “Saving” that is not the same as a word that in general vaguely means “setting aside some money”.”
And Andy: “Saving is an awkward concept to begin with.”
Yep! My old post on why “saving” should be abolished!
NIPA is retrospective. That is why Identity equations, well, have cloture, in this defined and self-contained, looking-backward world.
Use of a retrospective, cloture-valid system for depicting what did happen, it is problematic when you start to look at things that are happening now or in the future. Gives insights, sure, but.
My best example of misleading points comes from the accepted NIPA-equation that I = S works looking-backward, as the terms are defined in NIPA. But this NIPA-notion is NOT, absolutely not, a rationale for public policy on taxation to favor the formation of savings, as if this savings are the font of Investment we will see, future tense (lobbyists tell people that so if we don’t favor savings we are shooting ourselves in the foot and will harm the level of capital invested).
If almost everyone puts their personal savings from the prior period under the mattress, particularly in Europe where financing is done predominantly by banks, you can still see Investment in the next period as these banks can help you leverage some modest amount you have accumulated – even at 30 or 50 to 1 leverage (if you want to replay the recent financial crisis), pointing out of course that in the aggregate the coming level of Investment is not an identity with savings in the prior period.
JF
” There must be a better way to teach national income accounting. ”
There is , using a Haig-Simons definition of income. There’s no question about accounting for that $100 when you use H-S income , or C + d(NW)/dt , i.e. consumption plus change in net worth. All savings get accounted for as NW , whether invested in a new factory or stuffed in your bra.
There’s an obvious explanation for our failure to use this more sensible accounting construct – it would expose the excess wealth hoarding of our ruling class , which occurs at the expense of the consumption side of the economy , where the great unwashed derive their utility. The elite don’t need that headache , so don’t hold your breath waiting for that better way to teach.
JF – there’s a clearer intuition to why I = S than just the accounting identities. S is income that is not consumed in the current period; it is the fraction of society’s productive capacity that goes to increasing future production potential. So in a closed system, with monetary policy maintaining GDP at potential, there is a direct tradeoff between consumption and investment. Factories can build more cars or more robots.
Leverage in the banking system is irrelevant, whether you put your money in the mattress or the bank or the trash is irrelevant. If people in aggregate choose to consume less in this period, they free up society’s resources (through the channels of lower prices or lower interest rates) for more capital investment.
That doesn’t necessarily mean that taxes should incentivize savings over consumption. But there is a tradeoff there.
@Nick Rowe:
Majro: I always get muddled by the retail/wholesale/indirect tax business. I pretend it’s all the same.
Gosh, that is a problem… but seems that inventing money does not make the problem go away. For starters, not everything might exchange for money. Perhaps 90% of your economy consists of transactions with a currency component, but 10% may consist of swaps, gifts, broad agreements to cooperate (for example allowing right of way on private property instead of changing a toll), or various other shared resources.
But even if we presume that all transactions involve money, we still don’t have fixed prices, nor do all people value money in the same way, nor for that matter do all people feel the same way about what they buy (some may think that $100 for a pair of shoes is excellent value and they would have paid more, while other may still buy the same shoes at the same price but only feel they got so/so value).
In short, adding up the monetary side of transactions is no more “real” than adding up the total amount of “stuff” in a barter economy. It’s all hand waving.
Nick,.
You say saving includes…”buying a newly-produced investment good, buying land, buying a used car, buying financial assets, and sticking $100 under the mattress.”
I would say:
saving = buying a newly produced investment good
dishoarding = buying land, buying a used car, buying financial assets
hoarding = sticking $100 under mattress.
“The bag of chips in the vending machine counts as $0.50 of inventory. When I purchase it for $1, consumption goes up by $1 and inventory goes down by $0.50 for a $0.50 contribution to hourly GDP.”
I agree with Majro.
Y = C + I
I = change in inventory + change in capital stock
change in capital stock = 0
Hence,
I = 0 – 0.5 = -0.5
So,
Y = 1 – 0.5 = 0.5
Also,
Y = Wage Income + Profit Income
Wage Income = 0 in this case
So,
0.5 = 0 + Profit Income
That is,
Profit Income = 0.5
That is, the change in GDP results from the profit earned by an enterprise.
Nick,
Some points I would emphasize:
I think it’s more effective to illustrate this first with the very simplest closed model without government, which is:
Y = C + I = C + S
The other sectors are relatively simple adjustments after this basic conceptual form
Both sides are representations of income
S is income not consumed – it’s defined as a residual rather than a specific “destination” of money or anything else – don’t clutter it with what happens between the point where the income is measured to have been saved rather than consumed, and what the balance sheet looks like after that at the end of the same time period over which income is measured. Separate the idea of the non-consumption of income from the result for the balance sheet. In fact, the basic definition of saving as an income residual specifies absolutely nothing about what happens to the balance sheet. You’ve listed a bunch of possible balance sheet outcomes, which is fine.
An important point: macro S consists of the sum of a lot of micro positive and micro negative s’s, depending on the micro drilldown of units that can save
Apart from that, the equation is like any other equation – you can only solve it for one unknown at a time. You either have to know or make assumptions about other variables apart from that. And like any other equation, you can specify the variable values at different points in time, so obviously you have to be consistent about what changes and what doesn’t during that time period. I see nothing unique about this kind of algebra in this case.
The biggest conceptual mistake I see made is this notion that an accounting equation like this is useful only as an ex post measure rather than saying anything about the future. In fact, if you accept that this accounting identity has meaning on an ex post basis, and that it has meaning in specifying the state of the world in that sense at a specific point in time for a specific period leading up to that point, then it becomes a constraint on the specification of possible future outcomes and states of the world for those same variables. E.g. recognizing this definitional/conceptual constraint is what all the commotion about “sector financial balances” is about in MMT and other “heterodox” thinking (btw, Goldman Sachs uses this prominently in its thinking and economic forecasting). Although, as you’ve noted in the past, sector financial balances thinking is just a rearrangement of national income variables. But with a different “flow of funds” framing for it.
JKH: “The biggest conceptual mistake I see made is this notion that an accounting equation like this is useful only as an ex post measure rather than saying anything about the future.”
Lets add that to your previous point about the distinction between aggregates and individuals (where that distinction is at its starkest in a closed economy).
Each individual’s plans and expectations for their future purchases and sales must satisfy an accounting identity for that individual, but those individuals’ plans and expectations may not add up to satisfy any aggregate accounting identity. I am planning to save, but you are not planning to invest. In other words, the representative agent is planning to spend less than he expects to earn, which is an accounting contradiction, but he doesn’t realise it’s a contradiction because he does not know that he is the representative agent. He thinks he’s a special snowflake.
Only in (expectational) equilibrium do the plans and expectations add up to satisfy the accounting identity.
This is an old Hayek (IIRC) point, and goes back to my old Steve Keen post.
Nick,
I think the idea that expectations are not always realized is obvious – while the idea that the accounting identity always holds in actual experience at all times is not so obvious.
It’s obvious that my decision not to get a haircut will reduce my barber’s income – compared to the counterfactual. He may have expected the counterfactual that he does not in fact realize.
It’s not so obvious that the accounting identity holds every step of the way – in the case of either the actual experience or the counterfactual.
They add up because they are defined to add up – and they happened as the reportage is past-tense.
Look at the comment above by Louis directed back at me. His first sentence is not past-tense, it is specific to the current period, present tense – “S is income that is not consumed in the current period” – using a term defined to produce this retrospective identity with the other term Investment. These are not interchangeable’ I = S, in the present or future where the terms have different meanings and definitions.
And therein is the reason it must be used with care.
To go back to my example above, the acceptance that the world operates going forward on some cloture-seeking retrospective using terms defined for cloture purposes can lead economists and the people to advise to ignore the purpose, roles and mechanisms of the financial community.
The financial community provided lots of evidence that this is a perilous view of how the world of economics actually works.
Just look at 2000 to 2007. My related example is for people to look at the magnitudes of the financial asset trading marketplaces, comparing just the year 2000 to the year 2007. Just looking at BIS Over the Counter (OTC) derivatives stats, you find 2007 the values are over $700 TRILLION but less than 10 years earlier it is two orders of magnitude less. How can these financial positions come from personal savings accumulated in the prior period, they are not accumulating by not consuming, not at these rates of change (the ‘money’ clearly comes from somewhere else to back these ‘Investments’)? These facts, and they are reported from what happen, should set off alarm bells — does it not?
JKH: “It’s not so obvious that the accounting identity holds every step of the way – in the case of either the actual experience or the counterfactual.”
True. The accounting identity holds in all possible worlds at all times. But the accounting identity does not hold if we aggregate over individuals’ planned future purchases and sales. Each individual expects a different possible world. Their aggregate plans cannot be carried out in any possible world. Those plans are mutually inconsistent.
I think it also helps to remember that the ‘I’ part of ‘S=I’ includes unwanted investment in inventory. That’s obvious from an accounting perspective, but too often rhetorically we think about “productive investment.”
@JF: Never, ever look at the notional values of derivatives, which is what you’re doing there. They do not represent any form of wealth, since derivative contracts have much smaller market values than their notional value — they’re based on the change of a security’s price from some baseline.
For that matter, stop looking at securities prices in general, because securities aren’t money. If I own land, the on-paper value of that land could balloon from $1/acre to $1mil/acre based on what my neighbours would be willing to pay for it, but that increase in unrealized wealth does not require an act of saving or consumption on anyone else’s part. “Savings” in the context of this thread means strictly what happens to cash that was once in your pocket.
@Nick Rowe:
JKH: When you write “I think it’s more effective to illustrate this first with the very simplest closed model without government, which is:
Y = C + I = C + S”,
I think you are correct.
I would put a different spin on the I and S terms however.
We are all aware that an increase in bank lending is expected to cause an increase in spending, causing an identical increase in GDP. An increase in bank lending (is by accounting) money that is not repaid to the bank. Money that is not repaid to the bank becomes someones savings. Therefore, we can relate the term “I” to an increase in investment (from the bank’s perspective) and we can relate the term “S” to an increase in savings (which may go under the mattress). I and S would be the same thing.
It is definitely true that if C and T stay the same and someone saves more then GDP will have increased. But they can only succeed in saving more (if C and T stay the same) if there is a corresponding increase in investment, the government defect, or the gap between exports and imports,
@Majromax – 1) I am very familiar, having done tax policy for decades, with notional vs. contractual understandings of the payments tied to derivative contracts. You missed the point about explaining where the excess money came from to cover the explosive, but short-period, of growth in financial asset marketplaces. Does this not cause people to ponder about the use of NIPA-retrospectives? 2) To take your land example, it must be true that the stupid neighbor who is willing to pay $Million for something you expended $1 must have Saved that $Million first (otherwise you are really making up a hypothetical), if it is real then they must have Saved all this money (from this period, from last period, from all of the prior periods, including from bequests).
DeLong had a column about a year or so ago using the term Thrift to refer to the fact that people save money from their income for some purpose, and that society wants this to occur. But it is not just for investment purposes. Nick Rowe was absolutely right in the 2012 blog-thread, we need different terms and we end up confusing (and I’ve said this has been used intentionally to mislead about public policy, which is ugly, really).
I can’t fight the NIPA cloture rules and definitions, though I must admit I’ve suggested that under a new democratic administration the BEA start to introduce different terms, and re-state the series using them. And they would do that with an upfront explanation the the term savings has been misused, being equated with capital investment potential in the present and future economies, and the series is being introduced to correct this, so it is not incorrectly used to support public policy about thrift, about capital formation, about investments, including taxation policy.
So Nick Rowe, agree? Should BEA and all other NIPA reporters in the world update their reportage using better terms and new introductory explanations?
And Roger Sparks is pointing out how a bank establishing a lending account ‘deposit’ – this deposit (net of paid claims against it) is owned by the borrower. Clearly this amount was not saved from current or even past income.
The accounting that is done at the end of some period, counts it, and puts it into a defined-bucket and the accounting reports it as an identity, when looking backwards, calling the bucket either savings or investment, depending on the context of the discussion.
NIPA could use the same cloture rules, just use a different word other that the word ‘savings’ (or term, as I wrote above) and make sure people understand this reportage to be a retrospective, using definitions that should be understood.
Glad to see this come up again. Last post by me for a bit.
“But the accounting identity does not hold if we aggregate over individuals’ planned future purchases and sales.”
The accounting identity always holds ex poste.
However, ex ante expectations need necessarily not be realized – that’s called not being in equilibrium.
For instance, S always = I but S and I need not necessarily be in equilibrium.
‘It [savings] includes: buying a newly-produced investment good, buying land, buying a used car, buying financial assets, and sticking $100 under the mattress. So it would be much simpler just to ask people what their income was’
If you were about to stick $100 under the mattress, but them decided to buy a newly-produced investment good (that would not otherwise have been produced) have you not increased GDP merely by changing the form of your savings ?
JHK,
“In fact, if you accept that this accounting identity has meaning on an ex post basis, and that it has meaning in specifying the state of the world in that sense at a specific point in time for a specific period leading up to that point, then it becomes a constraint on the specification of possible future outcomes and states of the world for those same variables.”
Y = C + I is an accounting identity, it is not necessarily a functional relationship, it need not saying anything about future behaviour.
MF,
“If you were about to stick $100 under the mattress, but them decided to buy a newly-produced investment good (that would not otherwise have been produced) have you not increased GDP merely by changing the form of your savings ?”
The form of saving is not changed. You are merely saving and redirecting income flow.
Sticking $100 under a mattress is not the act of saving, it is the act of hoarding, it is the increase of a stock item.
@Tel-Yes. RGDP is meaningless. NGDP is not, however. It’s not a measure of stuff at all, it’s a crude (partial) measure of the flow of money.
The answer is quite simple. If you stuff $100 under your mattress rather than spending it, this will show up in the short run as an increase in unintended inventory accumulation. Whether intended or not, inventory accumulation is part of gross private domestic investment (I), and thus part of GDP.
Alexander: now consider an economy where all goods are services, like haircuts, that cannot be stored in inventory.
See, you are doing implicit theory, not national income accounting.
I don’t know how they decide to do national accounting
but I don’t believe that the above “true by definition” identities are in fact true by definition
simplifying I plus g minus t plus c plus ex-im = y
then I plus g minus t plus ex-im is what Keynes referred to as I in his Y = I + C
so lets keep it simplified
and then you add in the accepted identity S = I
Y = I plus C = S plus C
if S, which is savings equals I, then S is simply the preservation of the original Investment
investment is that preexisting wealth added to the economy, and savings then is just the PRESERVATON of the preexisting wealth to the economy, no new wealth
so if that is true then NO NEW WEALTH is added to the economy
so where do we fit in the NEW WEALTH?
instead S = I
it is S = I plus net production
it is from net production that we get new wealth
that is newly produced wealth minus that wealth which was depleted during the time period
and why do I add it to savings and not to income?
because SAVINGS IS WHAT WE HAVE LEFT OVER at the end of the given time period
so
S = I plus net production
just preservation of the investment money plus net production
and any new net wealth created is the value of net production
so does savings count towards GDP?
that part of savings that is preserved investment counts towards GDP because it is the same money as the investment, and investment counts towards GDP
but that part of savings that comes from net production is new wealth, and it does not count towards gdp
gdp is a measure of income
net new wealth is sort of on another axis from income,
you could have gdp go up and wealth go down, like in wars and national disasters
or you could have wealth go up and GDP go down
you could count things like nature as part of our wealth, and this goes up and down all the time, if you could calculate a value for it
though net production tends to go up if gdp goes up, because presumably a lot of the income is paid to get people to produce things
dgb,
“investment is that preexisting wealth added to the economy”
Investment is production of new capital goods in the period in consideration, it is not pre-existing.
“if S, which is savings equals I, then S is simply the preservation of the original Investment”
S is the diversion of productive resources to the production of new capital goods (in the simple economy described).
Alexander,
” If you stuff $100 under your mattress rather than spending it, this will show up in the short run as an increase in unintended inventory accumulation.”
The problem we face in the discussion in this thread is confusing the aggregate perspective with the individual perspective.
On an individual basis, S is more than likely not equal to I.
In aggregate, S is always equal to I – it is a truism.
henry,
if investment is not preexisting then where does it come from
production of new goods is facilitated by the income that results because of investment
and I am proposing that savings does not “always equal investment”, that this supposed “tautology” is incorrect
if savings is that which is left over after the given time period, it includes the investment that is preserved as savings and also includes new net production
djb,
“if investment is not preexisting then where does it come from”
New capital goods in any period are produced by capital assets that were installed in a prior period. The production of the pre-existing captial assets formed part of the income stream in a prior period.
new capital goods are produced by people, by transforming capital assets that either already existed or were produced in a prior period, the peoples income comes from preexisting wealth and the capital assets that were transformed existed from a previous period, ie preexisting
djb,
Yes I can agree that people’s income in the current period comes from capital assets produced in a prior period. But you’ve changed your tune a little. Further above you said:
“investment is that preexisting wealth added to the economy, and savings then is just the PRESERVATON of the preexisting wealth to the economy, no new wealth”
Investment is defined as the addition to the capital stock in the current period (let’s forget changes in inventory for the moment). For there to be investment, not all production in the current period can be of consumption goods. By definition, what is not consumed out of current income is saved.
Alexander: now consider an economy where all goods are services, like haircuts, that cannot be stored in inventory.
See, you are doing implicit theory, not national income accounting.
What do you mean by implicit theory? Does the accounting change if what it denotes is inexistent? Or does that just mean that the accounting remains but is telling us less about the real world than we think?
Having said that, it is precisely that supposed conundrum which makes the money circuit / credit theory so appealing. If you start from the assumption that money is borrowed into existence, in this example by the person consuming the haircut, as opposed to just magically appearing, you end up with with a guy with a great hairdo, a corresponding debt but no asset to show for himself. So he’d better get working for the hairdresser to earn back the money to pay back his debt. At which point the money disappears along with the debt, saving and investment. So yes, there is an intermediate step in which S will appear without any real counterpart in this particular consumption economy. But there is also an obligation with no corresponding investment good that will tend to make it disappear again, at least in theory. One can then add investment goods, at which point the concept of saving begins to make proper sense. Or is that implicit theory again? Doesn’t one need a theory to explain what the accounting means? Or what it’s supposed to mean?
But that’s off topic, I suppose. Maybe another way to put it is that when the $100 changes hands for a new product it counts towards the flow of national income / output. In all other circumstances, including stuffing it under a matress, it shows up as a stock of S / I. The act of spending on value not previously recorded is the accounting equivalent of production.