Micro-economic Analysis Division ‘Real’ Income, Terms of Trade and Economic Performance Ryan Macdonald Micro-economic Analysis Division Statistics Canada 15 May 2008

Micro-economic Analysis Division 2 ‘Real’ income measurement  Measuring ‘real’ income has concerned economists and national accountants for many years  Two aspects of real income are dealt with in the 1993 System of National Accounts Net income from abroad Trading gain

Micro-economic Analysis Division 3 Real’ income measurement  Extensive literature See for example (Geary 1961, Stuvel 1959, Nicholson 1960, Courbis 1969, Kubayashi 1971, Dennison 1981, Silver and Mahdavy 1989, SNA 1993, Kohli 2006)  Important terms to include for ‘real’ income measurement, particularly the trading gain Driven by terms of trade shifts in most cases Similar effects to productivity growth (Diewert and Morrison 1986)

Micro-economic Analysis Division 4 SNA Recommendations  For NIFA... it is recommended that the purchasing power of [net income from abroad] should be expressed in terms of a broadly based numeraire, namely the set of goods and services that make up gross final domestic expenditure SNA

Micro-economic Analysis Division 5 SNA Recommendations  For the trading gain There is a large but inconclusive literature [about selecting which price index to use to deflate net exports], but one point on which there is general agreement is that the choice of [that index] can sometimes make a substantial difference in the results. Thus the measurement of real [income] can sometimes be sensitive to the choice of [the price index] and this has prevented a consensus being reached on this issue. SNA

Micro-economic Analysis Division 6 The trading gain  Calculated by deflating net exports directly Non-commodity flow, so no clear identification of which deflator is best  Possible deflator choices include: Export or import price indices An average of export and import price indices Final domestic demand price index Consumer price index

Micro-economic Analysis Division 7 An preferable deflator?  A trading gain based on the final domestic demand deflator encompasses many of the other options  Allows for a broader range of relative price movements  Is readily accessible by users of national accounts data  Is less sensitive to measurement issues stemming from unit price indices

Micro-economic Analysis Division 8 Deflating the net export surplus  Follow Kohli (2006) and used the final domestic demand deflator (FDD) to get ‘real’ GNI Tourquist index 1

Micro-economic Analysis Division 9 Moving to ‘real’ GNI  Including changes in NIFA and the trading gain can change the perception of how an economy performs relative to its neighbours over time  Particularly important during commodity booms  The next few slides illustrate this for Canada and the US Begin by examining NIFA and the terms of trade Move to a stacked bar graph that shows ‘real’ GNI growth by source Illustrate how Canadian aggregates, such as imports, have responded Conclude by demonstrating Canada’s ‘Reversal of Fortunes’

Micro-economic Analysis Division 10 Canada Vs. the US - NIFA

Micro-economic Analysis Division 11 Canada Vs. the US – Terms of Trade

Micro-economic Analysis Division 12 Canada – Real GNI by Source

Micro-economic Analysis Division 13 USA – Real GNI by Source

Micro-economic Analysis Division 14 Real exports are essentially unchanged since 2000 while real imports rise quickly

Micro-economic Analysis Division 15 Contributing to increased consumption

Micro-economic Analysis Division 16 Real FDD outpaces real GDP due to NIFA and Trading Gains

Micro-economic Analysis Division 17 Including trading gains changes conclusions about how the Canadian economy has fared against the United States

Micro-economic Analysis Division 18 Questions/Comments?