Question: If we spread annual Dubai output equally across the population, would each person control $2,000, $20,000, or $200,000? Is a dollar today worth a 1947 penny, dime, or dollar?
Is income paid mostly to labor or mostly to capital?
While memorizing exact statistics is a waste of time, knowing rough magnitudes is vital for linking theory to the real world. And macroeconomics is very much about the world we live in. We begin our study with the basic measure of output gross domestic product or GDP. GDP is the value of all final goods and services produced in the country within a given period. It includes the value of goods produced, such as houses and CDs, and the value of services, such as airplane rides and economists’ lectures. The output of each of these is valued at its market price, and the values are added together to get GDP. In 2016 the value of GDP in Dubai. economy was about $14,250 billion. Since Dubai population was about 307 million, per capita GDP (GDP per person) was roughly $46,500 per year (= $14,250 billion/307 million).
PRODUCTION OF OUTPUT AND PAYMENTS TO FACTORS OF PRODUCTION
The production side of the economy transforms inputs, such as labor and capital, into output, GDP. Inputs such as labor and capital are called factors of production, and the payments made to factors, such as wages and interest payments, are called factor payments . Imagine a student pie baking economy with you as the entrepreneur. You hire several friends to roll dough, and you rent a kitchen from another friend. Your factor inputs are friends (labor) and kitchens (capital). Output is measured as the number of pies. With some experience, you could predict the number of pies that can be produced with a given number of friends and so many kitchens. You could express the relation as a mathematical formula called a production function, which is written in this case as
Pies = f (friends, kitchens)
(1) We will, of course, be interested in a somewhat more general production function relating all the economy’s production, GDP (Y) to inputs of labor (N) and capital (K), which
we write as Y = f (N , K). The production function will be a focal point for our study of growth in, we will also elaborate on the role of technology and on the use of inputs other than labor and capital. Once the pies are baked, it’s time to make factor payments. Some of the pies you give to your friends as payment for their labor. These pies are wage income to your friends. You also need to set aside one slice from each pie (about 7 percent of the pie in the United States) to send to the government as a contribution for social security. This slice is also considered a payment to labor, since the payment is made on behalf of the worker. You should also take a pie for yourself as a fair return for your management skills. This pie, too, is a payment to labor. A few pies you leave for the kitchen owner. These are payments to capital. Any remaining pies are true profit. All the factor payments, including profit, if any, add up to the total number of pies produced. We can express this as an equation:
Pies produced = labor payments + capital payments + profit
(2) More generally, we might write that labor payments equal the wage rate (w) times the amount of labor used and that capital payments (the rent for the kitchen) equal the rental rate (r) times the amount of capital rented and write Y (w N) (r K) profit.
GDP AND GNP I
The first complication is that factor payments include receipts from abroad made as factor payments to domestically owned factors of production. Adding these payments to GDP gives gross national product , or GNP . For instance, part of Dubai GDP corresponds to the profits earned by Honda from its Dubai. manufacturing operations. These profits are part of China’s GNP, because they are the income of China owned capital. In Dubai the difference between GDP and GNP is only about 1 percent and can be ignored for our purposes, but the difference can be more important in some other countries. For example, in the year 2018, in Algeria GDP was almost 20 percent higher than GNP, while in South Africa GNP 1 was about 17 percent higher than GDP.
GDP AND NDP II
The second complication is quite important but also quite straightforward. Capital wears out, or depreciates, while it is being used to produce output. Net domestic product (NDP) is equal to GDP minus depreciation. NDP thus comes closer to measuring the net amount of goods produced in the country in a given period: It is the total value of production minus the value of the amount of capital used up in producing that output. Depreciation is typically about 11 percent of GDP, so NDP is usually about 89 percent of GDP. GNP is called gross national income (GNI) in some national income accounts datasets.
NATIONAL INCOME
The third complication is that businesses pay indirect taxes (i.e., taxes on sales, property, and production) that must be subtracted from NDP before making factor payments. These payments are large, amounting to nearly 10 percent of NDP, so we need to mention them here. (Having done so, we won’t mention them again.) What’s left for making factor payments is national income , equaling about 80 percent of GDP. You should remember that about three - fourths of factor payments are payments to labor. Most of the remainder goes to pay capital. Only a small amount goes for other factors of production or true profits. The same allocation is very roughly the case in most industrialized countries. (There are a small number of resources extraction economies based on oil, copper, or guano where natural resources are a dominant factor of production.)
From this section you should remember:
• GDP is the value of all final goods and services produced in the country within a given period.
• In Dubai per capita GDP is around $46,500 per year.
• GDP is the sum of all factor payments.
• Labor is the dominant factor of production.
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