II. Compilation of GDP by income approach Vu Quang Viet Consultant to UNSD

GDP by income approach GDP by income approach looks very similar to GDP by production approach, but they are different. Production approach derives GDP by subtracting intermediate consumption (in purchasers’ prices from output (in basic prices). GDP = Output – Intermediate consumption + Taxes less subsidies on products Income approach adds components of value added to derive GDP. Value added = Compensation of employees + Mixed income + Other taxes less subsidies on production + Gross operating surplus GDP = Value added + taxes less subsidies on products

Household unincorporated enterprises sector Government sector / NPISHs Types of accounts Corporations sector Household unincorporated enterprises sector Government sector / NPISHs Business accounts (profit and loss statement and balance sheet) Yes No Revenue and expenditure account

Value added by sectors by direct income approach COE Mixed income Other net taxes on production GOS or CFC VA/GDP Corporations ð GOS Households CFC only Market Own consumption Owner-occupied housing Government/ NPISHs Cannot be directly estimated, must rely on by production approach

Limit of income approach In principle, even though, income approach adds components of value added to derive GDP. In practice, only value added of corporations and general government can be derived directly. Operating surplus of corporations can be derived from corporations profits after adjustments for conceptual differences. Net operating surplus of government sector is zero. It is not possible to derive operating surplus of household unincorporated enterprises as they do not keep business accounts. Production approach must be used for these cases. Value added at basic prices = Compensation of employees Other taxes less subsidies on production Gross operating surplus

Corporate income statement Sales or revenues Other income (income from supplementary activities, capital gains) Less Cost and expenses Cost of goods sold Operating expenses (Intermediate consumption, depreciation, compensation of employees) Other expenses (interest payable less interest receivable, payment of rent and royalties, debt allowances, other current transfers, etc.) Equal Net income before income taxes Income taxes Net income (which is also called profits) Dividends payable Addition to retained earnings

Compile gross operating surplus for corporations (preliminary) Depreciation Plus Addition to retained earnings Dividends payable Less Property income receivable Property income payable Current transfer receivable (Non-life insurance claims, etc.) Current transfer payable (Non-life insurance premium, etc.) Net capital gain from selling financial and non-financial assets Depletion, write-down of inventory, bad debt allowance

Adjustment of preliminary GOS for capitalized cost Adjustments of own-account research and development (R&D) and own construction, etc. which are treated as capital expenditures by both business accounting and national accounting (SNA2008 only). In national accounting, these expenditures must also treated as output from which value added are generated. In business accounting, capitalized costs are recorded only in the balance sheet as the concept of output is non-existent. Adjustments for SNA: Add in output for R&D as sum of costs (IC+COE+COF), thus add in value added for this component. Add in consumption of fixed capital (COF) for this addition value of capital for the current and future periods.

Cost capitalization Depreciation in 10 years No capitalized Revenues 100 R&D 20 Other cost 60 Net income 20 Capitalized Revenues 100 R&D depreciation 2 Other cost 60 Net income 38 SNA treats this as output which is then consumed as GCF when capitalized Higher income allows for the purchase of R&D as assets

Adjustment to treat bank and insurance service charges as IC These adjustments are similar in GDP by production approach: fisim on interest and service charges on insurance are estimated and imputed as intermediate consumption Lower Operating surplus

Summary of approaches Gross operating surplus and value added of corporations can be estimated directly by using information from business accounts. Gross operating surplus and value added for nonmarket producers are similar for production and income approaches as net operating surplus are zeros. Gross operating surplus and value added for households must be derived by production approach as households by definition do not keep business accounts.

Data sources on corporations For the corporations sector, annual surveys of enterprises are needed to get compensation of employees and additional information to compile gross operating surplus. For quarterly accounts, COE can be estimated by data on employment and wage rates collected by monthly labor force survey, corporate profits of all corporations are available from tax returns to tax authority. Up-to-date information but limited in scope on corporations whose shares are traded in the stock exchanges are available from their income statements, which can be used as indexes for quick and preliminary estimation of profits.

Advantages of income approach for policy formulation Corporations as indication of development: Although every sector is important to the economy but the growth in the contribution to GDP of the corporations signifies especially for developing countries the growing modernization of the economy. Tax base expansion together with corporate growth: Compensation of employees in the corporate sector and corporate profits can be easily subject to taxation than in the incorporated enterprises, thus the growth of this sector expands the tax base of the economy. Social policy expansion made possible with increase in labor employed in corporations: growth of compensation of employees also allows for the introduction or expansion of social policy with respect to health insurance, pension and contribution to social security.

Disadvantages of income approach GDP by income approach is applied only at the total economy level. It does not provide value added by industry for structural and productivity analysis like the production approach.

Conclusion For monitoring economic development and development of tax and social policy, it is recommended that countries should prepare value added and its components by institutional sectors which include: Corporations Households Government NPISHs The income approach that distinguish clearly institutional sources of income would also allow policy makers to have a better view of business profits within the context of national accounting.