GROSS NATIONAL PRODUCT OF PRODUCTS AND SERVICES

1a

Ans. The services performed by construction workers will appear in the calculation of Gross National Product (GNP/GNI) of a country. The GNP of a country is the sum total value of all the products and services produced in a country during a given time period, generally a year. It can be calculated in the following ways:

i.          Net Product Method

ii.          Factor Income Method

iii.          Expenditure Method

All the three methods yield the same result, provided sufficient data are available.

i) Net Product Method: in this method the entire economy is viewed as the sum total of different types of producing units such as agriculture, manufacturing, mining etc. This method comprises of estimating the gross value of output of each production unit, and the costs associated with producing the outputs. (Thomas,1987)When from the gross value, costs are deducted the net figure is obtained. In the costs will be included cost labor. In this case, the construction sector will be a separate sector, the output will be the final construction, can be roads, bridges, buildings etc, and the construction workers will form a part of the costs.

ii) Factor Income Method: in this method the entire economy is viewed as a sum total of different factors of production.

Each individual or household own factor(s) of production which they either sell or use themselves. Labor and capital are the two broadest categorization of factors of production; as such construction workers would be considered as a particular factor of production.

iii) Expenditure Method: in this method the entire economy is viewed as a sum total of different types of spending entities. The items of expenditures are categorized under separate headings. The expenses incurred on labor also get accounted for in the process.

All other measures of National Income related to GNP will also contain in some form the value of the services performed by construction workers, these measures and their relation to GNP are as follows:

Gross Domestic Product GDP=GNP less net income from overseas

Net National Product NNP=GNP less depreciation

Net Domestic Product NDP=NNP less net income from overseas

(Dwivedi,2009)

1b

Ans

It might be supposed that since in the accounting of national income no cost item is duplicated, hence increase or decrease in a particular sector or activity will only cause an increase or decrease in total figure only to the extent that activity has increased or decreased. But this is so in cases where activities or sectors do not impact the functioning or conduct of the other activities or sectors.(Deaton,2010) Construction is a significant sector of an economy and increase or decrease in construction activities not only impacts the construction sector but also other activities or sectors. For example, if road and transportation facilities are improved, the infrastructure improves , people become more productive and in essence almost all sectors are impacted. If more number of houses come up, home loan activities in the loan sector will increase.

There is also another view. As per these changes in GDP is more likely to affect construction activity and not vice versa, at least in the short run. (Raymond & Ganesa, 1997). Which means an increase in national income or GDP is likely to increase the construction activities. The national income or GDP is a planned outcome of government actions, and hence it is essentially the government policies on development that affect the GDP and construction activities. This view is in contradiction to the view that construction activities are more volatile than the GDP. However this view also suggests that the volatility of construction activities also depend upon the period and the country.

Construction activities are much influenced by credit availability in the economy, as per this view changes in money supply and especially credit supply impact construction activities. A decrease in national income results into a decrease in money supply which in turn results into decrease in construction activities and employment. As per this article, the demand for construction works is affected by the level of GDP of the country; particular types of investments are required to attain long run stability in national incomes. When a country’s GDP increases, the need for construction activities will increase. (Aryasari,2007)If other things remain constant and only the demand for construction activities increases, then interest rates on loans to finance new investments will increase. In the short run construction activities may tend to increase inflation, and increase the prices of output rather than increasing the GDP or GNP. The products of construction industry have low tradability and as such low liquidity. However in the long run, the construction activities add to the assets and infrastructure of the nation and increase the GDP. The time duration of construction activities can be extended, if required to curb short term adverse affects on the economy.

A change of GDP will first of all affect the demand for construction projects, then housing and credit availability and then the level of output of construction activities.

1c

Ans. This can be explained by the phases of Business Cycles and theories that explain the concept of Business Cycles. Business cycles is the periodic lows and highs of economic activities of a nation and are due to changes in macro scale in production, investment, employment, prices, wages, bank credits etc. The phases of a business cycle are namely:

• Expansion
• Peak
• Recession
• Trough
• Recovery and expansion

The expansion phase is characterized by growth, after a certain time duration the maximum point will be reached, this is the peak, after reaching the peak, the economic activities will decline and reach a minimum point, which is called the trough and after reaching the minimum point again recovery or expansion will start. The phases of business cycles are measured with respect to a steady growth line.

Theories of Business Cycles:

2a

Ans. The factors that determine the growth of money supply find mention in the three major theories of money:

• The Quantity Theory of Money
• The Income Theory of Money
• The Liquidity Theory of Money

The Quantity Theory of Money: as per this theory, the supply of money in an economy is determined by the demand for it.

According to Friedman the demand for money is determined by:

The general price level

The real income (total output of goods and services)

The prevailing rate of interest

Rate of increase in the general price level. (Purchasing Power)

If prices of products are high then more money would be required to purchase them. If the value of the total output of goods and services produced in an economy is high then the supply of money in the economy will also be high. If interest rates are high then supply of money will contract as funding investments with loan will become costlier. The rate of increase in the general price level reflects the increase in the purchasing power of the people of the country. If the purchasing power rises the demand and in turn the supply of money in the economy will also rise.

The Income Theory of Money: as per the income theory of money demand for money is determined by the income of the people. If people have higher incomes the demand for goods and services increases leading to higher demand for money for purchasing these goods and services. On the other hand if the incomes of people decrease, the demand for goods and services will decline leading to a decrease in demand for money.

The Liquidity Theory of Money: according to the liquidity theory of money, the growth and supply of money is determined by liquidity of money form and assets held by consumers. Consumers will be able to spend more, if they are in possession of forms of payments that can be easily converted into cash.

2b

Ans. Inflation is caused when goods and services are in less availability with respect to their demands. As such people are willing to pay more and more to acquire the goods and services. Thus inflation can also thought of as the rate of price change of the goods and services.

When the money supply grows people may want to increase their consumption as they have more money to spend and this may lead to increase in price levels if the goods and services are in short supply. This is especially true for nations which are developed as these nations have almost full employment.(Hirchey,2006) In case of economies which are characterized by depression and unemployment, growth in the supply of money will result in increase of output and employment and not in price levels.

Inflation can also be caused by supply side of economy and not only by its demand side. If the cost of factors of production increases then the price of final commodities will increase. The cost can increase due to increase in wages, increase in profit margins and increase in taxes.

3

Ans. Trade between countries is may be as old as history of man, and this is so not without its valid reasons. The significance of international trade is expressed in the two theories of international trade, the two theories are:

• The Classical Theory of International Trade
• The Modern Theory of International Trade

The Classical theory of international trade was propounded by David Ricardo and later on developed by Mill, Carnes and Bastable. This is also known as the theory of comparative advantage and as per this theory nations produce only those goods and services in which they have comparative advantage with respect to the factors of production and rest of the goods and services they source from other countries. Nations differ with respect to their natural, human and capital resources.

For example Switzerland has a natural comparative advantage of growing chocolates; hence it makes sense for Switzerland to grow chocolates, promote tourism rather than to explore oil. Whereas in other places in the world especially in desert regions, there may be oil reserves, but those countries may not be agriculturally rich.

Hence as per this theory it makes sense for countries to assess their comparative advantages and produce those goods and services in which they have comparative advantage and import those in which they don’t have comparative advantage.

The classical theory initially assumed no transportation costs, no trade barriers and constant costs. While deciding whether to produce or import these aspects would also need to be factored in.

The Modern Theory of International trade was developed by Bertlin Ohlin a Swedish economist who extended the general equilibrium theory to international trade.

According to Bertlin and Ohlin the differences in relative prices of products in two nations primarily gives rise to international trade.(Raymond,1997) As we know, the prices of products depend upon their demands and supplies. The demand for products is determined by consumer wants and incomes. The supply of products according to Ohlin is primarily determined by the demand and supply of the factors of production. A disequilibrium in the demand and supply for products results into difference in relative prices and hence to international trade.

Hence the prices of products are not the same in all countries, in some countries certain products may have lesser price as compared to other countries .Hence as per this theory it makes sense to produce only those items which can be produced cost effectively and import those items which are available at cheaper rates in other countries.

In the classical theory international trade arises due to differences in comparative advantage and in the modern theory of international trade, international trade arise due to existing disequilibrium between demand and supply side of products.

(Seth, 1994)

References

Dwivedi,D.N.,2009.Managerial Economics.7E.New Delhi:Vikas Publishing House Pvt. Ltd.

Seth.M.L., 1994.Money,Banking,International Trade and Public Finance.12 E.New Delhi:Lakshmi Narain Agarwal Educational Publishers.

Raymond.Y.C.,Ganesan.S.,1997. Causal relationship between construction ¯ ows and

GDP: evidence from Hong Kong.Hong Kong:Construction Management and Economics.Available at: http://www.hkir.com/CME15_4.pdf. [Accessed May 16 2012].

Hirschey, Mark. Managerial economics:. 11 th ed. Mason, OH: Thomson/South Western, 2006. Pages 501-519,Print.

Aryasari, A. Managerial Economics And Financial Analysis. Delhi: Tata Mc graw Hill, 2007. Print

Deaton A.,  S, Muellbauer J. (2010). An Almost Ideal Demand System

Thomas J. Sargent (1987). “Rational expectations,” The New Palgrave: A Dictionary of Economics, v. 4, pp. 76-79.

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