Output of the U.S. Financial Sector: Measuring the services of banks andinsurance companies Brian C. Moyer Deputy Chief National Income and Wealth Division 10 th OECD-NBS Workshop on National Accounts Paris, France November 6-10, 2006

2 Output of the financial sector  Financial sector includes:  commercial banks  credit unions  savings and loans  regulated investment companies  insurance companies  Output can be either priced or “implicit”

3 I. Implicit output of commercial banks  Current measure introduced in the 2003 NIPA comprehensive revision  Based on the 1993 System of National Accounts— Financial intermediation services indirectly measured (FISIM)  FISIM of commercial banks recognized for both depositors and borrowers

4 Implicit output of commercial banks  Implicit output of depositors’ and borrowers’ services calculated by type of liability and asset, respectively  Implicit output of depositors’ services Y i D = (r – average rate paid) * average liability balance  Implicit output of borrowers’ services Y i B = (average rate received – r) * average asset balance  Total implicit output of commercial banks Y i = Y i D + Y i B

5 Calculation of average rates  Based on “book value” calculations  average rate paid = (interest expense / average liability balance)  average rate received = (interest income / average asset balance)  Data available from commercial banks’ balance sheet and income statements

6 Calculation of the reference rate (r)  Pure cost of borrowing funds; does not include risk premiums or intermediation services  Ratio of interest income on U.S. Government Treasury and Agency securities (excluding mortgage- backed securities) to their value on balance sheets of commercial banks

7 Average rates and the reference rate percent average rate received reference rate average rate paid

8 Average rates and the reference rate  Spread between the reference rate and the average rate paid represents:  for depositors, foregone interest income  for banks, equilibrium cost of supplying services to depositors  Spread between the average rate received and the reference rate represents:  extra cost paid by borrowers for financial services received  extra revenue earned by banks as compensation for financial services supplied

9 Sector allocations of implicit output  Consumption of implicit output allocated to persons, government, rest of world, and businesses (corporations, sole proprietors, and partnerships)  Allocations estimated by asset and liability  Assets allocated based on sector distribution of loan/lease balances  Liabilities allocated based on sector ownership of deposit balances  Data available from the U.S. flow of funds accounts

10 Constant-price implicit output  Steps in the calculation Reference year total output (both priced and implicit) extrapolated with: volume index of banking output equals: constant-price total output less: constant-price output of priced services equals: constant-price implicit output  Sector shares of constant-price implicit output same as current-price sector shares

11 II. Output of insurance companies  Output of property and casualty (P&C) insurance companies includes:  transfer of risk  financial intermediation  administrative services, such as handling claims  Current measure introduced in the 2003 NIPA comprehensive revision  Similar treatment recommended by the Advisory Expert Group for the upcoming revision to the 1993 System of National Accounts

12 BEA’s previous measure of output  Output = net premiums – dividends paid to policy holders – actual losses  However, disasters often cause large swings in measured output of insurance companies

13 Consumption of household insurance Hurricane Andrew Sept 11 consumption = premiums – actual losses actual losses premiums

14 BEA’s current measure of output  Output = direct premiums earned + premium supplements – dividends paid to policy holders – normal (expected) losses incurred  More consistent with the behavior of insurance companies

15 Consumption of household insurance premiums normal losses consumption = premiums – normal losses

16 Output of P&C insurance companies  Direct premiums earned include transactions related to reinsurance  Premium supplements  Expected income earned by insurance companies from investing policyholder reserves  Used to supplement revenue from premiums to pay claims or purchase reinsurance services

17 Output of P&C insurance companies  Normal losses  Represent claims that insurance companies expect to pay in a period  Insurance companies determine premiums for a future period based on the claims they expect to pay; that is— Normal losses t = direct premiums earned t * {0.3 * (direct losses incurred t-1 / direct premiums earned t-1 ) * E[(direct losses incurred t-1 / direct premiums earned t-1 )]}

18 Adjusting for disasters  Effect of disasters on normal losses is “smoothed”; a portion of the disaster is added to normal losses for a 20-year period following the disaster  “Net insurance settlements” is the difference between actual and expected losses; it is recorded as a current transfer payment to policyholders from insurance companies

19 Constant-price insurance output  Currently based on a “single-deflation” technique using consumer price indexes and producer price indexes  Research underway to consider constant-price estimates based on “double-deflation” techniques