Abstract

Macroeconomics focuses on the analysis of macroeconomic variables such as the economy’s total output, the rates of inflation and unemployment, the balance of payments, and the exchange rate. It attempts to explain developments in these aggregates and to guide policymakers in their pursuit of economic objectives and efforts to respond to changes in the economic environment. An accurate analysis of events, and consequently the design of appropriate policies, requires accurate economic information and statistics that are made available in a systematic and timely fashion.

Macroeconomics focuses on the analysis of macroeconomic variables such as the economy’s total output, the rates of inflation and unemployment, the balance of payments, and the exchange rate. It attempts to explain developments in these aggregates and to guide policymakers in their pursuit of economic objectives and efforts to respond to changes in the economic environment. An accurate analysis of events, and consequently the design of appropriate policies, requires accurate economic information and statistics that are made available in a systematic and timely fashion.

The System of National Accounts (SNA)

The System of National Accounts (SNA) was developed as an accounting framework within which macroeconomic data can be compiled and presented for economic analysis. It provides an internationally recognized system for organizing a continuous flow of information that is indispensable to the analysis, evaluation, and monitoring of a country’s economic performance.1 Other important uses of the SNA include:

  • Macroeconomic analysis. Flexible enough to accommodate different economic theories and models and to meet the needs of countries at various stages of development, the SNA is a suitable statistical framework for such analysis.

  • Intertemporal comparisons. The SNA is a coherent system for tracking the performance of key macroeconomic aggregates such as output and employment over time.

  • International comparisons. The SNA is used for reporting to international organizations national accounts data that conform to internationally accepted definitions and classifications. These data allow for comparisons of national accounts that are useful in many areas—for example, in determining eligibility for concessional assistance, in calculating quotas for IMF member countries, and, more generally, in measuring the relative economic power of countries. Such comparisons require that measures of output be converted into a common currency2

The SNA accounting framework, the principles underlying it, and its application to the Polish national accounts data are set out briefly in the appendix to this chapter. The reader needs to become familiar with this accounting framework to understand the macroeconomic accounting and analysis presented in this chapter.

The sections that follow discuss the main macroeconomic aggregates and the basic macroeconomic relationships. Also covered are the issues related to the measurement and analysis of inflation; a discussion of the concepts of employment, unemployment, real wages, and pricing and incomes policies, with special emphasis on the transition economies; an overview of the developments in output, employment, prices, and wages in Poland in recent years; and exercises and issues for discussion.

The Key Macroeconomic Aggregates

This section discusses the main macroeconomic sectors and aggregates, the alternative approaches to gross domestic product (GDP), and the basic national accounting relationships such as the one between the aggregate income and absorption and the external current account balance.

The Main Economic Sectors

There are five key economic sectors: households, enterprises, the financial sector, the government, and the rest of the world.

Households supply land, labor, and capital to various factor markets and demand goods and services in the market for products, but they may also work as producers by forming unincorporated enterprises. They make decisions about how much to spend on consumption and how much to save, and how much to invest in the financial markets based on their perception of the prevailing economic environment and their expectations about future developments.

Enterprises employ factors of production such as land, labor, and capital to produce goods and services for the market. They make production and investment decisions with a view to maximizing their profits.

The financial sector provides financial intermediation services for the economy. It includes all entities whose main activity is financial intermediation, including the banking system and other financial institutions such as mutual funds, credit unions, pension funds, and insurance companies.

The government’s economic role involves creating an effective regulatory and legal framework; providing certain public goods, such as education, infrastructure, and a social safety net; overseeing the tax system; and managing government expenditures.

The rest of the world sector groups together all of an economy’s transactions with nonresidents.

The Main Aggregates

The macroeconomic concepts that follow, which play a central role in macroeconomic analysis, are defined in the framework of the SNA.

Gross output (Q) is the value of all goods and services produced in the economy. This concept is a problematic one because of what is called double- counting. For example, the value of wheat may be counted twice: first, when it is used in the production of bread, and again as the value of bread output.

Value added (VA) is the value of gross output less the value of intermediate consumption. Economists use the concept of value added to measure a country’s output. Nonmarket output is distinguished from market output; nonmarket output includes mostly own-account production, such as subsistence farming and owner-occupied housing.

Consumption is divided into two distinct kinds: intermediate and final consumption. Intermediate consumption refers to inputs into production, while final consumption refers to goods and services—both imported and domestically produced—used by households and the government sector.

Gross domestic product (GDP) is defined as the sum of value added across all sectors in the economy. GDP measures the value of final goods and services in an economy.

Investment (gross capital formation), in macroeconomic terms, refers to additions to the physical stock of capital in an economy. It is also sometimes defined as output produced during the current year but not used for present consumption. Investment in the macroeconomic sense includes the building of machinery, factories, and houses and changes in inventories.3 Thus, purchase of a bond or buying a stock that is called investment from an individual’s standpoint in everyday language is not investment in the macroeconomic sense, because these transactions reflect only the transfer of financial assets among economic agents.4

Depreciation is used to differentiate net from gross investment and is sometimes called the consumption of fixed capital. Since capital stock wears out over time, depreciation, or the cost of replacing the capital used up during a period, is subtracted from gross investment to derive net investment. This relation can be written as:

Net investment = Gross investment − Depreciation.

Net investment is a more accurate measure of the addition to productive capacity than gross investment.

Net exports, which are equal to the value of exports of goods and services less the value of imports of goods and services, are used to measure the impact of foreign trade on aggregate demand.5 Net exports are a component of the total demand for domestic goods and services and can play an important role in determining GDP.

Absorption (A), also called aggregate domestic demand, is defined as the sum of total final consumption (C) and gross investment (I): A = C + I.

The Circular Flow of Income and Spending

The circular flow shown in Chart 2.1 captures important relationships among the key economic sectors and markets. Income flows are shown in the bottom half of the diagram and spending flows in the top half. The main monetary flow is between enterprises and households; money flows from enterprises to households as income and from households to enterprises as spending. At various points in the circular flow, money can be diverted from this stream in what are called leakages. Private sector tax payments and spending on imports are leakages from the domestic spending stream. They are offset by injections of income and spending into the mainstream—for example, spending by entities other than domestic households; government transfers and purchases; investment; and exports. The sum of all leakages equals the sum of all injections.

Chart 2.1.
Chart 2.1.

The Circular Flow of Income, Expenditure, and Financing1

1 The chart, in the interest of simplicity, shows only financing from domestic financial markets. In reality, households, enterprises, and government have access to external financing as well.

Alternative Approaches to Determining GDP

The most basic macroeconomic aggregate, the GDP, can be determined using three basic approaches: the production approach, the income approach, and the expenditure approach. These alternative approaches yield equivalent results.

The Production Approach6
According to the production approach, GDP equals the sum of gross value added for the economy, or the difference between the value of production (output) and the value of all goods and services used up in the production process (i.e., intermediate consumption). Thus,
GDP=ΣVA(2.1)

where

ΣVA = sum of value added across all sectors in the economy.

It should be noted that GDP is based on the notion of residency, so that only production by residents is captured. It should also be noted that it is a gross concept, in that it includes depreciation (consumption of fixed capital). The corresponding concept of net production is the net domestic product (NDP), which can be defined as
NDP=GDPD(2.2)

where

D = depreciation or consumption of fixed capital.

Depreciation at the level of the whole economy, however, is difficult to measure precisely and is available only with some lag. For this reason, GDP has been the preferred aggregate for measuring total output, even though it may overestimate production.

The Income Approach
GDP can also be considered as equal to the sum of incomes generated by resident producers. Thus,
GDP=W+OS+TSP(2.3)

where

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The Expenditure Approach
Using this approach, GDP is equal to the sum of its final uses. Thus,
GDP=C+I+(XM)(2.4)

where

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Box 2.1 summarizes the three approaches and highlights the relationships among the key macroeconomic aggregates.

Other Standard Aggregates

Because GDP measures only the income derived from domestic production, it does not fully cover the economy’s overall income from all sources, which has a key influence on aggregate demand. Accordingly, the SNA defines two additional income aggregates: gross national income (GNI), and gross national disposable income (GNDI). These aggregates are established on a national rather than domestic basis because they exclude income generated locally but paid to nonresidents and include incomes generated abroad but paid to residents.

Gross National Income

Because GDP measures final output produced by residents, it ignores income received from or paid to nonresidents. In contrast, gross national income (GNI) also captures net factor income from abroad (Yf). Thus, GNI is equal to GDP less factor incomes payable to nonresidents plus factor incomes receivable from nonresidents. Such factor incomes are primarily (i) capital income, which includes investment income in the form of dividends on direct investment and interest on external borrowing or lending; (ii) labor income of migrant and seasonal workers; and (iii) service income on land, building rentals, and royalties. Thus,

SNA: Key Aggregates

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Valued at purchaser’s prices.

Unlike other components of expenditure that are valued at purchaser’s prices, imports are valued f.o.b., but not at purchaser’s prices; in particular, they do not include taxes plus subsidies on imports (see appendix to this chapter).

GNI=GDP+Yf.(2.5)

Note that unlike GDP, which is a concept of both production and income, GNl is a concept only of income (primary income). In previous versions of the SNA, the GNl at market prices was called the gross national product (GNP).

Gross National Disposable Income

The total income available to residents for either final consumption or saving is the gross national disposable income (GNDI). It is obtained by adding net current transfers received from abroad (TRf) to gross national income (GNI).

GNDI=GNI+TRf.(2.6)

Net current transfers from abroad are equal to current transfers received from nonresidents, which are unrelated to income earned with factors of production, minus such transfers remitted abroad. These transfers may be either private or public. Private transfers include mostly workers’ remittances, public transfers, mostly government grants. The distinction between current and capital transfers is often blurred, potentially affecting the calculation of aggregate saving.

Gross National Saving
Gross national saving (S) is defined as the difference between gross national disposable income (GNDI) and final consumption (C).9 Thus,
S=GNDIC.(2.7)

Basic Accounting Relationships

The national income accounting framework yields two important relations that lie at the heart of macroeconomic analysis and therefore deserve special emphasis. These key relations are derived from the identity linking GDP with its expenditure counterparts. The first highlights the links between aggregate income and demand and the external current account balance.10 The second focuses on the linkages between aggregate saving and investment and the external current account balance.

Aggregate Income and Absorption and the External Current Account Balance

A first set of interrelations between the national accounts and balance of payments aggregates can be derived from the basic identities defining GDP, GNI, and GNDI. As detailed in Box 2.2, the current account balance (CAB) is, ex post, identical to the gap between GNDI and absorption (A), or:
GNDIA=CAB.(2.8)

This identity forms the basis for the so-called absorption approach to the balance of payments. The intuitive interpretation of this relation is that a current account deficit occurs whenever a country spends beyond its means or absorbs more than it produces. In other words, current account deficits mirror an excess of absorption over income. Accordingly, to reduce a current account deficit, the country’s income must be increased and/or absorption must be reduced. Increasing output (and therefore income) in the short term requires unused production capacity, and in the medium term, adequate structural policies. Domestic absorption can be reduced by contracting final consumption (C) and/or gross investment (I). Although the income-absorption identity has important implications for the design of adjustment programs, it remains only an accounting relationship and does not provide a theory of current account behavior. Other factors (such as exchange rates, interest rates, and exogenous shocks) must be introduced to explain current account developments.

A second way to develop a relationship between the national account aggregates and the current account balance is through the saving-investment balance of the economy. As detailed in Box 2.2, the current account of the balance of payments (CAB) is, ex post, equivalent to the gap between the saving (S) and investment (I) of the economy.

Thus,
SI=CAB(2.9)
or
EconomywidesavingInvestmentgap=Currentaccountbalance=Useofforeignsaving.(2.10)

In other words, the economy’s saving-investment balance and the external current account balance, which can be viewed as the country’s use of foreign saving, are equivalent.

In a closed economy, ex-post aggregate saving is necessarily equal to aggregate investment. In an open economy, however, the difference between aggregate saving and investment is the current account balance. Put differently, any economywide excess of investment over saving must be covered, ex post, by foreign saving. In principle, then, a current account deficit can be reduced by increasing saving and/or reducing investment. When investment exceeds saving, the country must borrow the difference from abroad—that is, it must use foreign saving. As seen in Box 2.2, the identity between the saving-investment balance and the current account balance is a corollary to the income-absorption identity. These relationships are ex post identities that always hold, but they do not provide an explanation of any imbalances in the economy, the underlying behavior of economic agents, or the desirability (or otherwise) of a particular imbalance.

The Resource Gap of the Nongovernment Sector and Its Financing

In the sectoral framework of the national income accounts, the real sector is identified as the sum of the household and enterprise sectors—that is, the nongovernment, nonbank sector, or simply the private sector. As it does for other sectors, the budget constraint links this sector’s income-expenditure gap and its financing. This can be seen as follows. Private sector saving (Sp) is the difference between the sector’s disposable income (GNDlp) and its consumption (Cp). This relation can be written as:

Relations Between Aggregate Income and Demand and the External Current Account Balance

Basic Income and Expenditure Aggregates 1
Gross domestic product(GDP)=C+I+(XM)=A+(XM)(1)Gross national income(GNI)=GDP+Yf=C+I+(XM+Yf)(2)=A+(XM+Yf)(3)
Gross national disposable income
(GNDI)=GNI+TRf(4)=C+I+(XM+Yf+TRf)(5)=A+(XM+Yf+TRf)(6)orGNDIA=XM+Yf+TRf(7)GNDIA=current account balance(CAB)sinceGNDIC=Sby definition, it followsthatGNDIC=I+XM+Yf+TRf=S.(8)
Therefore
S1=XM+Yf+TRf=CAB(9)

where

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1

in interpreting these identities, it is important to keep in mind the valuation issues discussed in the appendix.

Sp=GNDIpCp(2.11)

and the sector’s absorption as

Ap = Cp + lp

where lp is private sector gross investment. It follows that
GNDIpAp=(SpIp),(2.12)
Fp=(SpIp),(2.13)

where Fp = financing gap.

Put differently, the private sector’s resource gap reflects an excess of absorption over income. This gap must then be financed by the rest of the economy, including the rest of the world sector; the analyst’s task is to identify the ways in which this resource gap is financed or, alternatively, the ways in which savings are utilized. A financing gap can be covered by foreign direct investment from abroad (FDlp), net borrowing by this sector from abroad (NFBp) and private sector borrowing from the banking system, which is identical to the net credit from the banking system to the private sector (ΔNDCp). These financial inflows are offset by financial outflows from the private sector—that is, its lending to the banking system in the form of increased currency holdings and deposits (ΔM2); and its lending to the government, or the nonbank borrowing of the government from the private sector (NB).

Therefore,
Fp=FDIp+NFBp+ΔNDCpΔM2NB.(2.14)
From equation 2.13, it follows that
SpIp+FDIp+NFBp+ΔNDCpΔM2NB=0.(2.15)

Analysts wanting to see how the private sector affects and is affected by the rest of the economy need to understand these accounting relationships. This understanding also paves the way for the fuller exposition of the flow of funds among economic sectors that is discussed in Chapter 6.

Nominal and Real GDP

As noted earlier, nominal GDP measures the value of output for a given year in the prices of that year. Changes over time in nominal GDP will therefore reflect changes both in prices and in physical output. To capture only the changes in physical output, economists deflate the nominal GDP by an overall price index (the implicit GDP deflator). Thus:

  • Nominal GDP measures the value of the output of the economy at current prices

  • Real GDP, referred to as “GDP at constant prices” in the SNA, measures the value of an economy’s output using the prices of a fixed base year. Real GDP is useful in capturing real output growth, and, while it is not an ideal measure of real income or living standards, real GDP is by and large the most widely used measure of real income.

  • The implicit GDP deflator is an index that measures the average price level of an economy’s output relative to the base year. The index has a value of 100 in the base year. Thus, the percentage change in the GDP deflator measures the rate of price increases for all goods and services in the economy.

Nominal and real GDP and the implicit price deflator are linked by the following relationships:11

NominalGDP=RealGDP×GDPDeflator/100(2.16)
or
RealGDP=NominalGDPGDPDeflator×100(2.17)
or
GDPDeflator=NominalGDPRealGDP×100.(2.18)
In terms of rates of growth:
(1+v)(1+g)×(1+p)(2.19)

where

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Problems of GDP Measurement12

Although GDP data are widely used to measure production and even the economic welfare of residents, the outcomes are imperfect, for four reasons:

  • First, some types of output are inaccurately measured because they are not traded in the market. Examples of such output are government services; nonmarket activities such as volunteer work; subsistence farming; and the value of owner-occupied housing.

  • Second, the improvements in the quality of goods are not adequately reflected in the national accounts. For example, the prices of computers may fall in spite of dramatic improvements in quality.

  • Third, some economic activities, although regarded as adding to real GDP, actually represent the use of resources to offset the impact of undesirable activities (“bads”) such as crime, pollution, or threats to national security. The GDP concept does not net out these “bads.”

  • Finally, the national accounts do not take into account environmental pollution or the degradation of natural resources, issues that are particularly important in developing and transition economies.

There is another major reason why economic output is often mismeasured: the black market, with its underground or concealed transactions. Economic agents attempt to conceal transactions for a variety of reasons: to avoid taxes, to evade laws or government regulations, or to hide illegal activities such as drug trafficking and smuggling. In many countries, the size of the underground economy is perceived as quite large, and there has been an explosion of research into this unofficial sector. Because blackmarket transactions are conducted mostly in cash, holdings of currency are often used to estimate the market’s size. Alternative estimates are based on inconsistencies in the national account measures of GDP—that is, the difference between total income and total expenditures. If the underground economy grows relative to official measures of the economy, the measured growth rate of output is below the true growth rate. As the next section explains, many observers believe that transition economies harbor large black markets because of persistent controls and regulations in the official economy.

Special Measurement Problems in Transition Economies13

Underreporting of Output

The economies in transition have undergone dramatic changes in recent years. The limitations of available economic statistics, however, have led to considerable uncertainty about the actual effects of the adjustment process in these economies. Many observers believe that the size of the decline in output in the early stages of the reform programs may have been overstated by official statistics, and, conversely, that the strength of the subsequent recoveries is likely to be understated, for several reasons.

  • The underreporting of private output. The key problem with measuring real output during the transition process is that the economies are changing rapidly in ways that the traditional statistics were not designed to capture. Relative declines in traditionally favored activities, such as state-owned industry, are accompanied by growth in areas the traditional statistical systems have neglected, such as private services. The result is that private sector growth is often underreported, while any weakness in overall economic activity or decline in living standards is exaggerated. An indication of how important the underreporting of private sector activity can be is provided by a close examination of employment figures in transition economies.

  • The inadequacy of existing statistical systems. Traditional statistical systems, which were designed to monitor the activities of a small number of state trading organizations, have been overwhelmed by the explosion of small-scale private trading activity. For example, in 1995 foreigners made an estimated 100 million visits to Poland. Many of these visitors were involved in cross-border transactions in the formal and informal markets in commodities such as textiles, food, gasoline, and other consumer goods. These transactions were generally not recorded in official statistics, and similar reporting problems remain for some of the other transition countries.

  • Index number biases. In addition to the direct underreporting of activity, an intractable index number problem arises during a transition. An index of total real output requires comparisons of the values of different physical outputs. In a market economy, the prices of goods provide the measure of their relative values and are used to construct output indexes. In a transition economy, however, prereform prices did not reflect the relative values of different goods. Although prices tended to reflect production costs, costs themselves did not reflect relative scarcities. Moreover, prior to reform, there were no mechanisms to bring relative costs into line with the value of output to consumers.14

  • Changes in the type and quality of output. It is not clear how the large number of new goods and services should be valued or how dramatic changes in quality should be assessed. Although such problems exist in all countries, they are particularly severe in the countries in transition, where new, high-quality goods and the end of shortages imply higher standards of living and, in the case of capital goods, more efficient investment that go unrecorded. Further, before liberalization, some production could not be sold because of lack of demand but was nevertheless counted as output. After liberalization, production of this sort stopped, and measured production fell. But because these goods had no true economic value before liberalization, their disappearance from the market should not have been counted as a reduction in output.

There is very little direct evidence on the magnitude of these measurement problems, but it is clear that the errors are potentially huge. Attempts have been made to use indicators that are less biased against new activities than traditional statistics, such as data from household consumption surveys, which cover sales from private sector retailers. One study has suggested that Polish real GDP fell 5-8 percent from 1989 to 1990, with consumption falling substantially less than GDP; yet official estimates recorded a substantially higher decline (12 percent) in GDP.15 Another study examined a variety of problems with the Polish statistics and concluded that the cumulative fall in real output from 1989 to 1992 was about 5-10 percent, in contrast to the “official”18 percent decline.16

At a minimum, it is clear that any user of official statistics must be extremely cautious, keeping in mind the sources and coverage of the data. More generally, broad conclusions about the impact of economic reform programs in the countries in transition, and especially conclusions about the effects of reforms on standards of living, need to take account of the potentially large measurement problems.

The Transition from the MPS to the SNA

The centrally planned economies developed their own method of calculating national accounts, and several economies in transition still use the Material Product System (MPS) as the main economic accounting framework. Although in recent years international organizations have tried to improve the links between the SNA and the MPS, it will take some time for all countries to move to the SNA. In many cases, the GDP of transition economies is still scaled up from basic estimates derived from MPS concepts. The main issues that arise in comparing SNA and MPS estimates are summarized in Box 2.3.

Inflation

Measuring Inflation

A sustained and persistent increase in an economy’s overall price level is generally called inflation. The increase in the average prices of all goods and services in the economy has to be distinguished from a change in the relative prices of individual goods and services. Generally, an overall increase in the price level is accompanied by a change in the structure of relative prices, but it is only the overall increase, not the relative price change, that constitutes inflation. A change in the relative price of a key good (such as oil) can often initiate a process that leads to generalized inflation, although appropriate policy actions can keep inflation from worsening. The GDP deflator (the ratio of nominal to real GDP) measures the prices of all goods and services produced.

Another important distinction must be made between a one-time increase in the price level and underlying inflation. For example, a rise in administered prices will raise the overall level of prices in the first instance. However, this increase will in turn bring about the needed relative price changes without necessarily adding to underlying, or core inflation, which reflects the basic changes in the overall price level, abstracting from unusual, onetime increases caused by events such as increases in administered prices and excise taxes or discrete devaluations of the exchange rate. While the underlying rate of inflation is not always easy to measure precisely, it can be estimated and may provide a better guide to policy than the measured rate of price inflation. Especially in the transition economies, analysts should focus on the underlying rate of inflation rather than on the measured rate of inflation because of the structural changes and reforms taking place, which inevitably result in a number of discrete adjustments in the prices of many goods and services.

It is, of course, possible for a one-time increase in the prices of certain goods, especially of key products such as energy, to trigger a chain of price (and wage) increases throughout the economy. If monetary policy is not sufficiently firm, a one-time increase in the price level can become a sustained increase in inflation (the cost-push phenomenon described in the following section). There are several examples of this type of initial cost-push phenomenon transforming into persistent inflation. A case in point was the worldwide increase in oil prices that triggered bouts of inflation in a number of oil-importing countries in the mid-1970s and the early 1980s. However, Japan which was a large importer of energy and therefore experienced a huge price shock, managed to keep inflation under control because the authorities followed nonaccommodating financial policies and the population accepted a temporary reduction in real incomes.

A commonly used measure of inflation, the consumer price index (CPl) measures the prices of a representative basket of goods and services purchased by the average consumer. The CPI is generally calculated on the basis of periodic surveys of consumer prices. There are three main differences between the GDP deflator and the CPI. The first lies in the types of the goods and services each index covers. The CPI takes into account only a subset of all goods and services in the economy (those bought by consumers). Thus, an increase in the price of goods and services bought by firms or the government, such as machinery, will show up in the GDP deflator but not in the CPI.

The Material Product System (MPS)

Gross domestic product (GDP) vs. gross material product (GMP)

Unlike the SNA, the MPS excludes “nonmaterial services” from the measure of aggregate output and income. Accordingly, under the MPS, only the activities of the “material sphere” contribute to the creation of national income.

  • Nonmaterial services. These include government services, education, health care, personal services, and transportation not related to production of material goods.

  • Material product. This measure includes production of both material goods and services. Material services comprise mostly the transport of goods, trade, and maintenance and repair.

Gross domestic product (GDP) and net material product (NMP)

  • Measure of capital depreciation. The SNA and MPS also differ in their treatment of the depreciation of fixed assets. The SNA recommends estimating the depreciation of fixed assets on the basis of replacement values; the MPS relies on historical costs, which are generally much lower than replacement values. The basic output aggregate in the MPS is the net material product (NMP), which is expressed net of the depreciation of all fixed assets. The NMP generally overstates the value of output because it relies on acquisition prices (historical costs) rather than on replacement values to measure the depreciation of fixed assets.

  • Other differences. The MPS tends to overstate changes in inventories that it values at acquisition prices. The high inflation prevailing in many transition economies results in holding gains and losses on inventories that distort investment estimates. Other items that are treated differently include personal transportation, military expenditures, housing services, capital repairs, and scrapped fixed assets.

Deriving GDP “estimates” from NMP

Deriving GDP from NMP estimates requires that the following types of adjustment be made:

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Second, the GDP deflator includes only domestically produced goods. Imported final goods are not covered, and therefore a change in the prices of imported goods does not have a direct impact on the GDP deflator in the short run. The CPI, however, is affected by changes in the prices of imported goods to the extent that the goods are a part of the CPI “basket.”

The third difference concerns the way the prices of different goods are aggregated in the two price indexes. The CPI is based on a set basket of goods and services that are assigned fixed weights (Laspeyres price index). The goods in the GDP deflator “basket” are allowed to change over time as the composition of GDP changes (Paasche price index). In other words, the CPI uses base year quantities as weights, while the GDP deflator uses current-year quantities. For example, if a drought destroys the corn crop, the output of corn falls to zero, and the price of corn rises sharply. In this case, corn (which is not produced) drops out of the GDP deflator but continues to be included in the CPI, contributing to a substantial rise in the latter index.

The difference between the two indexes is not large if inflation is low and stable but can be substantial in the presence of large relative price changes and movements in import prices that differ from those of domestically produced goods and services. The fixed weight index (Laspeyres index) ignores the so-called substitution effects among products, which are important if consumers can substitute products with lower price increases for those with higher price increases. It therefore tends to overstate inflation. Other fixed weight price indexes (the wholesale price index (WPI) and the producer price index (PPI), which measure the prices of goods at the wholesale and producer levels, respectively) also tend to overstate inflation. The flexible weight index (Paasche index), on the other hand, tends to understate the extent of inflation (see Box 2.4).

Price Index Formulas1

The consumer price index (CPI) and the wholesale price index (WPI) compare the current and base year costs of a basket of goods of fixed composition. Denoting the base year quantities of the various goods by qoi and their base year prices by poi results in a cost for the basket in the base year of Σpoiqoi, where the summation (Σ) is over all the goods in the basket. The cost of a basket of the same quantities but at today’s prices is Σptiqoi, where pti is today’s price. The CPI or WPI is the ratio of today’s cost to the base year cost, or
Consumer or wholesale price index=ΣptiqoiΣpoiqoi×100.

This price index is a Laspeyres or base-weighted index.

The GDP deflator, by contrast, may use the weights of the current period to calculate the price index. Let qti be the quantities of the different goods produced in the current yean Then
GDPdeflator=GDPmeasuredincurrentpricesGDPmeasuredinbaseyearprices=ΣptiqtiΣpoiqti×100.

This is known as a Paasche, or current-weighted, price index.

The two formulas differ only in that qoi (or the base year quantities) appears in both the numerator and denominator of the CPI and WPI formula, whereas qti appears in the formula for the deflator. In practice, the CPI, WPI, and GDP deflator indexes also differ because they involve different collections of goods.2

1

For details, see Chapter XVI of the 1993 SNA.

2

In transition economies experiencing high inflation, a third index (the Sauerbeck index) is sometimes used. Although it uses base-period weights like the Laspeyres index, this index compares current prices with those in the previous month. See V. Koen, “Measuring the Transition: A User’s View on National Accounts in Russia,” IMF Working Paper 94/6 (Washington: International Monetary Fund, 1994).

Analyzing Inflation

There are many types of inflation. The broadest categories are discussed below.

  • Policy-induced inflation, which is often caused by expansionary monetary measures that reflect excessive fiscal deficits and their monetary financing, is often at the root of high inflations. The classic hyperinflations, such as those in Austria and Germany in the 1920s, reflected excessive monetary expansion. Nonpolicy induced inflation is caused by exogenous factors and may reflect, for instance, a drought.

  • Cost-push inflation is caused by rising costs and may develop even when unemployment is high and resource utilization low. Because wages are frequently the most important cost of production, a rise in wages that is out of line with growth in productivity can initiate the inflation process. But cost-push inflation cannot persist if monetary policy refuses to accommodate it, in which case the wage increases lead to higher unemployment rather than higher inflation.

  • Demand-pull inflation is caused by excess aggregate demand pushing up the overall price level. The boost to demand can come from internal or external shocks but frequently results from overly expansionary monetary and fiscal policies.

  • Inertial inflation tends to persist at the same rate until economic events cause it to change. If inflation is steady, the prevailing rate is anticipated and is therefore embedded in wage and financial contracts, which further perpetuate it. Most modern inflation is classified as inertial. The inertial inflation rate is sometimes referred to as the core or underlying inflation rate (described in the previous section).

Frequently, shocks to the economy from either the supply or demand side cause the actual inflation rate to move above or below the underlying inflation rate. Major supply-side shocks include oil price changes and poor harvests; major demand-side shocks include rapid increases in aggregate demand due to expectations that incomes will rise.

Policy-induced, demand-pull inflation is found in many transition economies, as a result of insufficiently restrictive fiscal policies and monetary financing of the resulting fiscal deficits. Often, external shocks such as those stemming from a rise in energy prices or a contraction of trade with traditional partners have tended to add to the inflation pressures.

Incomes and Employment

Real Wages

Real wages are obtained by deflating nominal wages by an appropriate price index. A distinction should be made between real wages and real incomes. Real wages reflect the actual purchasing power of nominal money incomes received as direct remuneration by the wage earner. Real incomes include, in addition, in-kind transfers and a variety of fringe benefits. This distinction is especially important in transition economies, where non-wage transfers such as subsidized food and housing are a significant source of income. As a result, movements in real wages in these countries may not be a good indicator of the changes in living standards. In the long run, the growth of real wages depends heavily on the rate of growth of the economy’s productivity (see Box 2.5).

Employment and Unemployment

Some of the key concepts and definitions widely used in the analysis of unemployment are described below.

  • The labor force is defined to include all individuals of working age (usually 16 or older) who are either working or looking for work. Those persons in the labor force who are without regular employment and are looking for work are considered unemployed.

  • The unemployment rate measures the percentage of those in the labor force who do not have regular employment and are seeking work. Thus,
    Unemploymentrate=NumberofunemployedLaborforce.
  • Discouraged workers are important to employment analysis. People who are unemployed for long periods of time and cannot find work often stop looking and drop out of the labor force, therefore, they are not counted as unemployed. An unemployment rate that does not include discouraged workers understates the true magnitude of joblessness in the economy.

  • The labor force participation rate is defined as:
    Participationrate=LaborforceWorkingagepopulation.

Changes in the participation rate, such as those caused by women’s entry into the labor market, can significantly influence the rate of unemployment.

  • Full employment denotes the optimum employment level of an economy. It does not refer to zero unemployment. In a market economy, where shifts in demand, technology, and products are constantly occurring, there will always be some unemployment. Many observers believe that shifts in the composition of the labor force and institutional changes in the labor market have caused the full employment rate to rise in many countries in recent years, resulting in relatively high and persistent unemployment.

  • The Non-Accelerating Inflation Rate of Unemployment, or NAIRU, is an equilibrium rate of unemployment. The NAIRU is defined as the rate of joblessness that is compatible with a stable rate of inflation.

Analytically, it is helpful to classify unemployment according to its causes. Five categories are usually distinguished:

  • Seasonal unemployment, which is caused by shifts in the supply and demand for labor (typically in agriculture, construction, or tourism) during the calendar year.

  • Frictional unemployment, which emerges when job vacancies remain unfilled for significant periods of time because both employers and workers need time to explore the market. This type of unemployment generally does not last long and can contribute to a better match between job and worker.

  • Cyclical unemployment, which is caused by falling output during recessions. Recessions are part of the business cycle in a market economy. Government policies to stimulate demand during a recession can have a more positive impact on this type of unemployment than on other kinds.

Wages, Prices, and Productivity

In any economy, the rates of price and wage inflation and the rate of productivity growth are closely related. This relationship, which is crucial to macroeconomic analysis, can be formalized as follows. If P is the general price level, W the average wage rate, L the total labor input measured in man-hours, and Y the level of real output, then Y/L = labor productivity, WL is the total wage bill, and WL/Y is the unit labor cost (ULC). The following relationship can be shown to hold:1

P˙P=W˙W+(L˙LY˙Y)(1)
or
P˙P=W˙W(Y/L˙Y/L),or(2)

rate of inflation = rate of wage growth − rate of productivity growth.2

Or
W˙WP˙P=(Y˙YL˙L)(3)
In other words
(W/P˙)(W/P)=(Y/L˙)(Y/L)(4)

rate of growth of real wages = rate of growth of productivity.2

In the above illustration, if labor productivity is growing at 2 percent a year, then wage growth of 6 percent a year will be consistent with an inflation rate of 4 percent a year. Thus, the rate of productivity growth fixes the upper boundary of the rate of wage growth that is compatible with stable prices.

1

As we have seen, nominal income (PY) is equal to wage income (WL) plus nonwage income. If β is the ratio of nonwage to wage income, then

PY = WL + βWL or PY = WL(1 + B).

Assuming β to be constant, it follows that
P˙P+Y˙Y=W˙W+L˙L,which can be rewritten as equation 1.
2

All rates of growth are expressed in percent

  • Structural unemployment is caused by a mismatch of skills or geographic locations. Changing patterns of demand and technology, for example, reduce the demand for certain types of skills. Structural unemployment can also occur when an industry in a region shuts down and is not replaced. This type of unemployment is harder to eliminate than other kinds because it requires retraining unemployed workers or improving their mobility.

  • Disguised unemployment develops when a worker’s marginal contribution to output is zero or negative, so that the economy is better off by explicitly recognizing this and moving him to more productive employment.

Pricing Policies

An important aspect of reform in most transition economies has been the effort to move to a marketbased system of determining prices, generally by liberalizing previously controlled prices. Price liberalization offers several important economic benefits. First, it increases the availability of goods and services. Second, it is necessary to the credible longterm hardening of the budget constraint. In other words, ensuring that the budget constraints facing enterprises are binding and cannot be circumvented or made “soft” by a recourse to government or bank financing. Third, it gives investors proper signals. In the absence of an early price liberalization that corrects relative prices to reflect relative scarcities, relative prices may mislead investors, who may then invest in inappropriate sectors. Finally, it helps to develop competitive markets. However, in order to be effective, price liberalization needs to be accompanied by domestic deregulation and demonopolization of the production, transport, distribution, and trade systems.

One important aspect of pricing policies—eliminating distortions in the pricing of foreign exchange and credit—depends on reforms aimed at correcting overvalued exchange rates and reducing hidden credit subsidies. A rational price system reflects world prices. Therefore, an open trading system and a convertible currency (on the current account) are the fastest means of establishing a rational relative price structure. However, the sudden price hikes that may result from price liberalization underline the importance of establishing a social safety net to protect the vulnerable sections of the population, such as the disabled and the elderly.

The liberalization of the price system and the move away from a highly distorted price structure are key steps in moving to a market economy. Virtually all the transition countries have made considerable progress toward formal price liberalization. But it is important to take several considerations into account, as follows:

  • For an overall domestic price measure such as the CPI, convergence toward market economy price levels will be a prolonged process in most countries.

  • An important policy implication is that the gradual process of price convergence will continue to exert pressure on inflation and, in the absence of adequate exchange rate flexibility, will contribute to real exchange appreciation.

  • For nontradables and particularly for services, price convergence can take more time. Increases in the prices of services typically lag behind adjustments in the prices of goods before broad-based liberalization occurs, not only because of deliberate pricing policies but also because price controls are easier to enforce on services than on goods. In many cases, the initial jump in prices associated with large-scale price decontrol entails a further, sharp drop in the relative price of services, as many of them remain administered and are only partially adjusted. There is a subsequent catch-up period as some subsidies are reduced and as structural reforms reduce the role of the public sector in areas such as health care and housing.

In many transition economies, the initial depreciation of the real exchange rate in the wake of price and exchange rate liberalization went far beyond what might have been considered appropriate in light of the prevailing productivity differentials. This initial depreciation, however, was typically followed by a rapid real appreciation, often reflecting high inflation relative to trading partners and occasionally a nominal appreciation. In the process, the wide initial gap between domestic and international price levels narrowed significantly, although in many countries it has remained large three or four years into the transition. As a result, and even in the presence of appropriately tight financial policies, substantial inflationary pressures persist. The implied real appreciation is sustainable only if it is supported by corresponding productivity gains in the tradables sector.

Incomes Policy

Alternative Approaches

Incomes policies are an important component of stabilization programs and are motivated by both macroeconomic and microeconomic concerns. The justification for using incomes policies in transition economies seems stronger than in market economies. Incomes policies are used for several reasons:

  • To break inflationary inertia and prevent the emergence of cost-push inflation;17

  • To prevent the decapitalization of firms by reducing uncertainty regarding ownership and governance of firms; and

  • To strengthen the credibility of governments and guarantee the sustainability of the exchange rate anchor.

  • Transition economies have experimented with various approaches to incomes policies. The three major approaches to incomes policies involve guidelines, social contracts, and tax-incentive policies.

  • Under the guideline approach, the government sets norms for the growth of nominal wages and prices, with the aim of reducing inflation through symmetrical reductions such as wage and price freezes. If the objective is to stabilize the price level, money wages must grow at the same rate as average labor productivity.18

  • The social contract approach requires that the government, employers, and labor agree collectively to restrain wage growth.

  • Tax-based incomes policies (TIPs) penalize deviations from and reward compliance with wage and price norms by levying taxes on employers who do not conform to government standards.

Designing and Enforcing Wage Controls in Transition Economies

Designing wage controls in transition economies is a four-step process that includes (i) selecting the wage norm; (ii) determining how the norm is to be adjusted in response to inflation (the indexation issue); (iii) establishing coverage; and (iv) enforcing controls.

  • The wage norm. The key element in selecting a wage norm is the need to achieve set macroeconomic objectives with a minimum of microeconomic distortions. There are several possible wage norms and several variations on them.19 However, two norms have been tested more often than others: the wage bill norm and the average wage norm. The wage bill norm has three main advantages: it leaves enterprises more flexibility in determining relative wages, it can be administered through the tax system, and it creates an incentive for shedding labor. Average wage norms remove the incentive to lay off workers but encourage firms to hire less-skilled, low-wage workers.

    • Indexation mechanisms. If wage norms are fully indexed to past inflation, they cannot act as a nominal anchor. But if they are not indexed, the result may be an unacceptably large cut in real wages. Therefore, many transition economies opted for wage controls based on a partial, forwardlooking indexation scheme that relies on projected rather than past inflation.

  • Coverage. The issue here is whether wage controls should apply to both public and private enterprises. Many have argued that in the context of anti-inflationary policies, it is desirable to apply a uniform policy across all sectors of the economy, private and public. However, in transition economies, the need for wage controls is related to the problem of weak governance in state-owned firms. In particular, uncertainties about ownership, soft budget constraints, and a lack of financial discipline have provided strong incentives for these firms to decapitalize, indulge in excessive borrowing, and pay high wages—even if the enterprises in question are insolvent.

  • Enforcement. In many transition economies, the main instrument for enforcing wage controls has been a tax on excess wages—that is, a tax levied on enterprises paying wages above the norm. Another approach is to seek a “social pact” or a consensus between the government and the labor unions regarding the appropriate wage norm.

It should be noted, however, that while wage controls can help secure macroeconomic objectives, they also carry economic costs—for example, they distort the structure of wages and are responsible for wage indexation.20 Further, support for wage controls in IMF-supported adjustment programs has been limited. In general, such controls are approved as temporary measures in heterodox stabilization programs and in transition economies when a compelling argument can be made that their benefits outweigh the costs. Experience with wage controls shows that they can play an important temporary role in a strong disinflation program but tend to lose their effectiveness rapidly. The challenge to policymakers is therefore to ensure that wage controls are temporary and to minimize the distortions that inevitably result.

Real Sector Developments

Output and Demand

Poland’s economic performance weakened considerably in the 1980s with the failure of several attempts to reform the economic system by addressing the inadequacies of the centrally planned regime. By 1989, Poland was on the brink of hyperinflation; the monthly inflation rate reached 55 percent in October, with virtually no real growth. In response, the government embarked on an ambitious program of reform aimed at stabilizing the economy and launching it decisively on a path to a market economy.21 This program, which has been characterized as a “somewhat heterodox” approach to stabilization, included tightened financial policies; a temporary fixed exchange rate that would act as a nominal anchor and therefore prevent the emergence of hyperinflation; and a tax-based incomes policy to restrain wage increases.

Real GDP fell sharply in 1990-91 as the economy underwent a deep recession. The recession caught analysts off guard and generated a large body of research into its root causes.22 It has been generally agreed that the causes of the output collapse can be grouped into three broad categories: (i) macroeconomic factors; (ii) institutional factors; and (iii) measurement factors.

  • Macroeconomic factors. These include the disintegration of the Council for Mutual Economic Assistance (CMEA) trading system in 1991 and the concomitant terms-of-trade deterioration; a sharp contraction in demand for output from state-owned industries; declines in inventories as liberalization and hard budget constraints eliminated incentives to hoard; fiscal restructuring; and a policy-induced “credit crunch.” The fiscal restructuring was particularly destabilizing. The traditional mainstay of Poland’s revenue base—receipts from state enterprises—disappeared as the enterprises’ financial situation deteriorated. On the expenditure side, subsidies were rapidly reduced, but transfer payments increased rapidly as a social safety net was put in place.

  • Institutional factors. Replacing the previous systems of control with market-based institutions has not only taken longer than expected but also affected the speed with which the ownership laws are reformed. Combined with the absence of incentives, these developments have prevented a normal supply response.

  • Measurement factors. Problems in accurately measuring Poland’s output may have led to an overstatement of the actual decline. Conversely, the recovery may well have been understated because of inadequate private sector data and unreliable price indicators.

The output collapse bottomed out in 1991 and the economy began an impressive recovery with real GDP growing by 2.6 percent in 1992, by about 4 percent in 1993, and by some 6 percent in 1994. Industrial production, which accounts for about 40 percent of Poland’s GDP, provided the main basis for the recovery in GDP growth.

The growth in output since 1992 represents an impressive supply-side response and is associated with significant gains in productivity primarily driven by increased domestic demand, particularly consumption. Consumption rose strongly throughout the 1992-93 period before slowing in 1994. However, rapid export growth also made an important contribution to growth, especially in 1993-94. Exports, including unrecorded cross-border trade, increased in real terms at annual rates of over 30 percent through 1994. Growth in fixed investment has also been positive, driven largely by private sector activity.

The increase in real consumption has been mirrored in a marked decline in national saving, from the very high levels of the pretransition era. National saving as a proportion of GDP is estimated to have declined by about 10 percentage points of GDP at the onset of the transition (from 40 percent of GDP to about 30 percent during 1990) and by a further 15 percentage points in 1991. This decline can be explained, in part, by the fall in output and income and the deterioration in public finances. National saving began to improve in 1992, increasing to 16.5 percent of GDP in 1994—a reflection of subdued consumption during the period.

Prices and Wages

Prices

The movement to a new system of price controls began as early as 1982, when a three-tier price system (administered, regulated, and contract) was introduced. Administered prices were set directly by the authorities, regulated prices were closely monitored, and contract prices were, in principle, free to fluctuate. It was not until the reform program of 1989-90, however, that prices were decisively liberalized. A major reduction in subsidies accompanied price liberalization.

With the wholesale liberalization at the beginning of 1990, recorded inflation (as measured by the CPI), jumped to a monthly rate of close to 80 percent in January 1990—the highest recorded in Poland in recent years. Overall, average annual inflation in 1990 reached over 550 percent. During 1991-93, price liberalization continued, but the adjustment was less dramatic than it had been initially. By 1992, a new system of prices emerged that allowed the market to determine the costs of all but a few “socially sensitive” consumer items.23 The authorities’ policy of adjusting administered prices, together with the ongoing adjustments in relative prices, continued to influence (although less intensely) the overall inflation rate.24 Starting in 1991, inflation measured by the CPI fell sharply to 70 percent a year in 1991, and further to 43 percent in 1992, and to 38 percent in 1993. Since then, it has proven increasingly difficult to bring it down further and has remained at 30-35 percent annually. Thus while the risk for hyperinflation was eliminated, inflation remained high.

Incomes Policy and Wages

Like many other transition economies, Poland has instituted wage controls. Initially, the rationale for these wage controls was that they would help the authorities meet macroeconomic objectives, most notably aid in the task of containing inflation by restraining wage growth, especially in state enterprises which were no longer under the direct control of the authorities. Poland’s wage controls, the so-called popiwek system, took the form of the Excess Wage Tax (EWT), which was imposed on enterprises that exceeded the wage norms. Initially, the wage norm was the wage bill, but in 1991, the average wage was adopted as the norm, with some adjustments to reflect productivity growth, with the inflation indexation coefficient on the norm being 60 percent. The EWT was progressive, with rates ranging between 100 percent (for amounts exceeding the norm by up to 3 percent) and 500 percent (for amounts exceeding the norm by more than 5 percent). This maximum rate was reduced to 300 percent in 1993. The norm was adjusted using an ex post partial indexation. Firms with more than 50 percent private ownership were exempt. While it is difficult to demonstrate that the EWT played a key role in reducing real wages, it is clear that the wage controls, high unemployment, low profits, and a hardening of financial constraints have reinforced one another in determining wage developments in Poland.

It has been widely recognized that the microeconomic costs of wage controls—that is, the distortions they create in the labor market—begin to rise sharply after a short period. Over time, problems with enforcement (particularly increasing exemptions) tend to undermine their effectiveness. Whether or not this situation developed in Poland, the excess wage tax was discontinued at the end of 1994 and replaced by a new incomes policy based on the idea of “social partnership.” This new system of collective bargaining is guided by indicative norms, set by a commission made up of representatives of government, industry, and labor, that are based on macroeconomic indicators such as growth and inflation. State-owned enterprises that allow wage increases to exceed the norms are subject to sanctions.25

Real wages, after declining in the early phases of the stabilization effort, stabilized and in 1994 registered some gains. As discussed earlier, official statistics may have overstated the extent of the fall in real income in 1990 for several reasons, including the unsustainable level real wages reached in 1989 (after two years of very rapid gains) and the importance of in-kind benefits in workers’ total incomes. Despite these gains, real wages have lagged behind gains in productivity, especially in the industrial sector, where anecdotal evidence suggests that the adoption of new technology associated with foreign investment and the shedding of labor in some sectors have contributed to significant improvements in productivity.

Unemployment

Because of the pervasiveness of “labor hoarding” by Polish firms prior to 1990 (disguised unemployment was estimated at 20 percent of the labor force), the economic reforms resulted in massive layoffs and a subsequent sharp rise in official unemployment. Employment dropped significantly in the public sector in 1990, but by substantially less than production. The figures show that joblessness climbed from practically zero at the beginning of 1989 to over 6 percent of the labor force by the end of 1990, and over 11 percent by end-1991. This doubling in the unemployment rate during 1991 marked the low point of the transition in Poland and caused serious social concerns. As output stabilized in 1992, firms continued to shed labor, a trend that continued into 1993 when output growth accelerated. The rate of increase in unemployment tapered off in 1993-94, and the unemployment rate stabilized at about 15-16 percent of the labor force.

Exercises and Issues for Discussion

Exercises

  1. On the basis of the Polish national accounts data for 1993 as shown below, derive the sequence of SNA accounts using the format of Table 2.8.

    Using the national accounts data, verify that the main macroeconomic aggregates derived from 1993, e.g., GDP, GNI, GNDI, and gross saving are consistent with those provided in Table 2.3. Also, verify that equations 1 through 9 of Box 2.2 hold for the above data.

  2. Using the format of Table 2.8, construct the sequence of accounts for the government sector for 1992 on the basis of the data found in Tables 2.92.14. Interpret the balancing item for this sector and comment on its overall position.

  3. Show how Table 2.15 highlights the three approaches to GDP by tracing in the table the production approach, income approach, and expenditure approach.

  4. Tables 2.1 and 2.3 show Poland’s main macroeconomic aggregates at current prices while Tables 2.2 and 2.4 show the same aggregate GDP at constant prices.

    • (a) Using Table 2.2, comment on the overall and sectoral developments of GDP at constant prices during 1990–94. In your opinion, what accounted for Poland’s output collapse in 1990-91 and for the subsequent recovery in 1992–94? To what extent might the output collapse have been overstated and the recovery understated by official statistics?

    • (b) Comment on the developments in domestic absorption during 1990-94.

    • (c) On the basis of Tables 2.1 and 2.2, derive the implicit GDP deflator for 1990-94. Compare your results with those reported in the bottom of Table 2.2.

    • (d) Assuming a real growth rate of 6 percent in 1995 and a level for the GDP deflator (1990=100) of 468.3, derive the nominal GDP for 1995 and show that equation 2.19 holds.

  5. Verify that the economywide saving-investment gap is identical to the current account balance for the period 1990-94. Interpret the meaning of this identity for Poland and comment on the evolution of the saving-investment gap over the period.

  6. On the basis of Chart 2.2 and Table 2.3, analyze the trend in saving in Poland during the 1992—94 recovery. Should policymakers in Poland have been concerned about the observed trend? Why?

  7. On the basis of the illustrative data described below, derive the CPI index (base 1990) according to Laspeyres and Paasche formulas. Compute the inflation rate in both cases and comment on the results.

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  8. Table 2.5 contains data on consumer prices, producer prices, and average wages in Poland. Compare annual average and end-of-period measures of inflation during 1990-94. Comment on the differences. What are the main problems affecting the reliability of price index numbers in transition economies?

  9. Compare price changes in Poland as measured by the following indicators: the CPI, the PPI, and the GDP deflator. What accounts for the differences between these measures? Explain how they might be used to measure different aspects of inflation in Poland.

  10. Comment on the change in nominal and real wages in Poland during 1990-94- Do you believe that wage increases were responsible for higher inflation during this period? Are real wage indicators adequate to monitor income developments? What additional information is required?

  11. On the basis of Tables 2.4 and 2.6, calculate the productivity per unit of labor in Poland (real output/employment), assuming that the number of hours worked per person is unchanged from year to year. Comment on the changes in productivity during 1990-94. Compare the percentage changes in productivity to percentage changes in nominal wages. What implications does this comparison have for the inflation rate in Poland, in the light of the discussion in Box 2.5? Assuming that the relationship given in the box holds, what should the objective for nominal wage growth be in 1993 and 1994 in order to remain compatible with inflation rates of 30 percent and 25 percent, respectively?

Polish National Account Data (1993)

(In trillions of zlotys)

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Chart 2.2.
Chart 2.2.

Poland: Inflation and Real GDP

(In percent)

Sources: IMF Institute database and Tables 2.2 and 2.5.
Table 2.1.

Poland: Sectoral Distribution of Gross Domestic Product (at Current Market Prices)1

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Sources: IMF Institute database, based on published data by the Polish Central Statistical Office (GUS); Poland-Statistical Tables, IMF Staff Country Report No. 96/20 (Washington: International Monetary Fund, 1996); Liam P. Ebrill, Poland: The Path to a Market Economy, Occasional Paper No. 113 (Washington: International Monetary Fund, 1994); and IMF Institute staff estimates.

Starting in 1990, GDP follows the 1993 SNA methodology; 1994 data are preliminary estimates.

Table 2.2.

Poland: Sectoral Distribution of Gross Domestic Product (at Constant 1990 Prices), and Implicit Deflators

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Sources: IMF Institute database, based on published data by the Polish Central Statistical Office (GUS); Poland—Statistical Tables, IMF Staff Country Report No. 96/20 (Washington: International Monetary Fund, 1996); Liam P. Ebrill, Poland: The Path to a Market Economy, Occasional Paper No. 113 (Washington: International Monetary Fund, 1994); and IMF Institute staff estimates.

Starting in 1990, GDP follows the 1993 SNA methodology; 1994 data are preliminary estimates.

Table 2.3.

Poland: Components of Aggregate Demand (at Current Market Prices)

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Sources: IMF Institute database, based on published data by the Polish Central Statistical Office (GUS); Poland-Statistical Tables, IMF Staff Country Report No. 96/20 (Washington: International Monetary Fund, 1996); Liam P. Ebrill, Poland: The Path to a Market Economy, Occasional Paper No. 113 (Washington: International Monetary Fund, 1994); and IMF Institute staff estimates.

Data for 1994 are preliminary estimates.

On an accrual basis, including adjustments for unrecorded trade.

Defined as GDP net of final consumption.

Defined as GNDI net of final consumption.

Table 2.4.

Poland: Components of Aggregate Demand (in Constant 1990 Prices)

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Sources: IMF Institute database, based on published data by the Polish Central Statistical Office (GUS); Poland-Statistical Tables, IMF Staff Country Report No. 96/20 (Washington: International Monetary Fund, 1996); Liam P. Ebrill, Poland: The Path to a Market Economy, Occasional Paper No. 113 (Washington: International Monetary Fund, 1994); and IMF Institute staff estimates.

On an accrual basis, including adjustments for unrecorded trade.

Table 2.5.

Poland: Price and Wage Indicators

(1990=100)

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Source: IMF, International Financial Statistics.

Social sector, excludes outworkers.

Table 2.6.

Poland: Employment by Sector

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Sources: IMF Institute database, based on published data by the Polish Central Statistical Office (GUS); Poland-Statistical Tables, IMF Staff Country Report No. 96/20 (Washington: International Monetary Fund, 1996); Liam P. Ebrill, Poland: The Path to a Market Economy, Occasional Paper No. 113 (Washington: International Monetary Fund, 1994); and IMF Institute staff estimates.

Issues for Discussion

  1. Discuss the extent of the GDP measurement problem the underground economy creates in your own country. How should economic policy be formulated to take account of this sector? In particular, how can economic activities in this sector be shifted into official channels?

  2. Discuss the factors behind the collapse of output in the early stages of the transition, with special reference to your economy. To what extent was the collapse inevitable? Was it entirely undesirable? If yes, why? If not, why not?

  3. Discuss the importance of underlying or core inflation in a transition economy undergoing rapid price liberalization. In Poland, a number of factors (such as financial policies, price liberalization, changes in taxation, and the exchange rate) influenced the recorded rate of inflation. What, in your view, was the underlying rate of inflation in Poland in 1990? What was it in 1994? Please explain.

  4. Discuss the difficulties for analysis and policy that arise when a transition economy’s relative price structure moves toward convergence with world prices. Is the process of price convergence likely to be different in the tradable and nontradable services sectors? What are the implications of this phenomenon for exchange rate policy? Discuss with reference to Poland.

  5. Discuss the difference between the concepts of real wages and real income, drawing on the experience of your economy. How does this difference affect the analysis of stabilization policies and their consequences?

  6. Discuss the pros and cons of the Excess Wage Tax (EWT) in Poland. In particular, did the EWT play an important role in restraining real wage growth during 1990-94? What is the rationale for excluding the private sector from wage controls in transition economies? What alternative policies to restrain wage growth are available in the transition economies?

  7. Discuss the concepts of open and disguised unemployment and their relevance to analysis and policy formulation in a transition economy.

Appendix

The 1993 SNA Accounting Framework

The 1993 System of National Accounts

As noted earlier, the System of National Accounts (SNA) is a group of integrated accounts that provide an overview of a country’s economic performance. This appendix attempts to present, in a summary fashion, the 1993 SNA accounting framework as it applies to Poland. The accounts are a convenient way to present a large volume of detailed information, which is organized according to internationally accepted economic principles and conventions about the working of an economy. The accounts are interconnected and linked to different types of economic activity over a period of time—that is, they are flow accounts. Each account is related to a particular kind of activity, such as production, distribution, or use of income, and is balanced by introducing an item defined residually as the difference between total resources and their uses (the balancing item). The balancing item from one account is carried forward as the first item in the succeeding account, making the accounts sequential.1

In the 1993 SNA, the flow accounts have been structured in two groups: current accounts and accumulation accounts. In addition to the flow accounts, the 1993 SNA structure includes a number of balance sheets.

  • Current account comprises production accounts and income accounts. The former record the production of goods and services, the latter record the generation of distribution of the income generated during the production process as well as the use of income for consumption and saving purposes. The income accounts include the Generation of Income Account, the Allocation of Income Account, and Redistribution of Income Account. Table 2.7 summarizes the purpose of each of these accounts and identifies the balancing item. The section below interprets the accounts in the case of Poland and sheds light on their linkages.

  • The accumulation accounts detail the acquisition and disposal of financial and nonfinancial assets and liabilities. These accounts are linked to the current account through saving, which is used to acquire financial and nonfinancial assets. The accumulation accounts include the main accounts, namely the capital account, the financial accounts, and other changes in assets accounts.

  • The balance sheet records the values of the stocks of assets and liabilities sectors held at the beginning and end of the period.

Table 2.7.

SNA: Integrated Economic Accounts

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Sources: System of National Accounts, Commission of the European Communities, International Monetary Fund, Organization for Economic Cooperation and Development, United Nations, and the World Bank, 1993.

Since each group of transactions does not balance, i.e., total receipts are different from total outlays, a balancing item is used to balance the account and is carried forward to the following account.

Net concepts are net of depreciation.

The sequence of accounts is established for resident transactors called "institutional sectors" in the SNA.

The primary distribution accounts consist of the Generation of Income Account for which operating surplus is the balancing item and the Allocation of Primary Income Account for which GNI is the balancing item.

In most countries, the establishment of balance sheets for the overall economy is severely hampered by lack of information on stocks of real assets.

All the above accounts are prepared for the main institutional sectors in the economy. For the purposes of the SNA, there are five of these mutually exclusive sectors: (i) nonfinancial corporations; (ii) financial corporations; (iii) governmental units; (iv) nonprofit institutions serving households; and (v) households.

These five sectors make up the total economy. However, while the SNA does not require that accounts be compiled for economic activity taking place in the rest of the world, all transactions between resident and nonresident units must be recorded in order to obtain a complete accounting of the economic behavior of resident units.2 Transactions between residents and nonresidents are grouped together in a single account, the rest of the world. Specifically, in order for the system to be closed, this sector must be included to capture those flows that are not reflected as “uses” or “resources” for two resident units but rather only for one. The accounts in the rest of the world sector capture the full range of transactions, including the external account of goods and services, the external account of primary incomes and current transfers, the external accumulation accounts, and the external assets and liabilities accounts.

Basic Accounting Principles

The basic accounting principles and conventions that underlie the SNA system of recording flows and stocks are discussed below. An understanding of these principles is essential to the interpretation and use of macroeconomic statistics.

Types of Transactions

The basic purpose of a system of national accounts is to record economic flows (transactions) and stocks (of assets or liabilities). Transactions are grouped into three categories: (1) transactions in goods and services, originating from either domestic production or external trade; (2) distributive transactions related either to production (primary income) or to income redistribution (secondary income); and (3) financial transactions reflecting changes in financial assets and liabilities.

Assets and liabilities are stocks held by economic operators at one point in time- These stocks represent the accumulation of prior transactions and are affected by changes in both the volume of transactions and their prices (valuation changes).

Main Accounting Conventions

Double-entry recording. All macroeconomic accounts use this form of bookkeeping. For every transaction, there are two accounting entries, a credit and a debit. For unrequited transactions (such as transfers or grants) that flow one way only, a corresponding entry is made on the opposite side of the “ledger.”

Timing. Transactions are recorded when claims and obligations arise, are transformed, or are canceled (not at the time of their settlement) on what is called an accrual basis.

Types of Transactors

There are two types of transactors: residents and nonresidents. Resident transactors must have been in a country for more than a year and regard it as the main center of their interest.3 Exceptions apply mostly to economic “enclaves,” such as embassies and military bases. Resident transactors are included under institutional sectors, while nonresident transactors are grouped under the rest of the world.

Valuation Concepts in the SNA4

Two broad systems of valuation are distinguished in the SNA: based on current and constant prices. In each system, several sets of prices may be used; for example, output is frequently valued both at basic prices (excluding all taxes, less subsidies on products) and at purchaser’s prices (at prices paid by the final purchaser, including taxes less subsidies on products). The price used depends on how the taxes and subsidies on products and transport charges are treated.

  • The basic price is what the producer receives minus any taxes due plus any subsidies on the output. It excludes transport charges.

  • The producer’s price is the price the producer receives minus any value-added tax (VAT) or similar other deductible taxes. It also excludes transport charges.

  • The purchaser’s price is the price the buyer pays, excluding any deductible VAT or similar taxes. Unlike the previous two notions, the purchaser’s price includes transport charges.

The preferred method of valuation in the SNA is at basic prices, especially when a VAT is involved. If it is not feasible to use basic prices, producer prices are generally substituted. Purchasers’ prices are used when intermediate consumption is valued.

Applying the SNA to Poland

The Polish Central Statistical Office (GUS) has published national account data derived in accordance with the 1993 SNA.5 Since the GUS’s use of the 1993 SNA is in the early stages, the data reproduced here are for illustrative purposes only.

Table 2.8 summarizes the sequence of accounts for Poland for 1992 for the aggregate economy while Tables 2.92.14 present the details of the accounts including the sectoral distribution.

Table 2.8.

Poland: Sequence of Accounts for 1992

(In trillions of zlotys)

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Sources: Polish National Accounts by Institutional Sectors, 1991-92; Experimental Compilation-1994, Research Center for Economic and Statistical Studies of the Polish Central Statistical Office and the Polish Academy of Sciences, and the Polish Central Statistical Office (GUS).

The detailed national accounts cover the production account (Table 2.9), the generation of income account (Table 2.10), the allocation of primary income account (Table 2.11), the secondary distribution of income account (Table 2.12), the use of disposal income account (Table 2.13), and the capital account (Table 2.14). Table 2.15 is a matrix presentation of the system of accounts in Poland for 1992.

Table 2.9.

Poland: Production Account 1992

(In trillions of zlotys, at current prices)

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Sources: Polish National Accounts by Institutional Sectors. 1991-92; Experimental Compilation-1994, Research Center for Economic and Statistical Studies of the Polish Central Statistical Office and the Polish Academy of Sciences, and the Polish Central Statistical Office (GUS).

Rest of the world.

Table 2.10.

Poland: Generation of Income Account 1992

(In trillions of zlotys, at current prices)

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Sources: Polish National Accounts by Institutional Sectors, 199t-92; Experimental Compilation-1994. Research Center for Economic and Statistical Studies of the Polish Central Statistical Office and the Polish Academy of Sciences, and the Polish Central Statistical Office (GUS).

Rest of the world.