Chapter 8. A full accounting for wealth: Including non-financial assets

The sequence of accounts and the recording of non-financial assets

Stocks and flows of non-financial assets are an indispensable part of the full sequence of accounts, including balance sheets. For each institutional sector, the balance of current incomes and expenditures is labelled “saving”. Adding the net receipts of capital transfers (for example, capital taxes, legacies and large gifts, one-off payments to support corporate investments) to saving results in a balancing item which is critical in linking income to the accumulation of assets and liabilities: “change in net worth due to saving and capital transfers”.

The latter balancing item is equal to the funds available for investments in non-financial and financial assets. If the change in net worth due to saving and capital transfers is not sufficient for the financing of investments in non-financial assets, the remaining amount of these investments needs to be financed by incurring liabilities. As explained in other parts of this publication, this can be expressed, in line with the sequence of accounts, as follows:

(i) Changes in net worth due to saving and capital transfers minus Net purchases of non-financial assets = Net lending/net borrowing

and

(ii) Net lending/net borrowing = Net purchases of financial assets minus Net incurrence of liabilities

Combining equations (i) and (ii), one could rewrite this as follows:

(iii) Changes in net worth due to saving and capital transfers = Net purchases of non-financial assets plus Net purchases of financial assets minus Net incurrence of liabilities

In the system of national accounts, the transactions and balancing items of the first equation are recorded on the so-called capital account, while the items of the second equation are recorded on the financial account. The net purchases of assets, non-financial as well as financial, and the incurrence of liabilities will add to the stock of assets and liabilities recorded on the balance sheets. However, other changes may also lead to increases or decreases of the items on the balance sheets. The first change concerns revaluations due to price changes of assets and liabilities. The second is related to other changes in the volume of assets, such as losses due to catastrophic events, write-downs of loans due to non-payment, seizures, etc. The changes in each item on the balance sheets, non-financial assets as well as financial assets and liabilities, can be written as follows:

(iv) Value at the end of period t = Value at the end of period t-1 plus Net transactions in assets and liabilities (recorded on the capital account and the financial account) plus Revaluations (recorded on the revaluations account) plus Other changes in the volume of assets (recorded on the other changes in the volume of assets accounts)

The balance sheets show, on the left side, the value of non-financial assets (by type of asset) as well as financial assets (by type of instrument); and on the right side, the value of liabilities (also by of type of financial instrument). The balancing item of assets and liabilities is called “net worth” and is also shown on the right side of the balance sheet.

(v) Net worth = Non-financial assets plus Financial assets minus Liabilities

and

(vi) Net worth at the end of period t = Net worth at the end of period t-1 plus Changes in net worth due to saving and capital transfers plus Changes in net worth due to revaluations plus Changes in net worth due other changes in the volume of assets

The delineation of non-financial assets

When it comes to the delineation of non-financial assets in the system of national accounts, the asset boundary of the 2008 SNA is all-important. In paragraph 3.30, the general definition of an asset is provided: “An asset is a store of value representing a benefit or series of benefits accruing to the economic owner by holding or using the entity over a period of time.” A further distinction is made between financial assets and non-financial assets. Financial assets differ from non-financial assets in the sense that in the former case, there is a corresponding financial claim that the creditor has against the debtor. In the system of national accounts, financial assets therefore always have a corresponding liability. On the contrary, there is no such thing as a “non-financial liability”.

With the exception of valuables (see below), in the system of national accounts, non-financial assets are explicitly limited to those assets that are used in, or related to, a production process. Consequently, consumer durables, such as cars, kitchen equipment, TVs, computers and mobile phones, etc. that are meant for final consumption purposes by households, are not regarded as assets because the services they provide are not within the production boundary of the 2008 SNA. For economic units producing goods and services, be it corporations, unincorporated enterprises, government units or NPISHs, investments in non-financial assets, such as the purchase of a dwelling or a piece of machinery, are distinguished from “intermediate consumption”, i.e. purchases of goods and services which are immediately used up in the production process. Purchases of non-financial assets relate to products which are used over a longer period of time, i.e. more than one year.

Traditionally, the SNA asset boundary only included tangible assets, such as buildings, trucks and machinery. Gradually, this boundary has been extended to include intangible knowledge-based assets that have become increasingly important in production processes. In the 1993 SNA, the definition of non-financial assets was broadened with the inclusion of intangible assets, such as mineral exploration and evaluation, computer software and databases, and entertainment, literary or artistic originals. Mineral exploration and evaluation refers to investment expenditures made on the exploration for and subsequent evaluation of the existence of mineral and energy resources. Software includes the initial development and subsequent extensions of software as well as the acquisition of the right to use this software over a longer period of time. Investments in databases are confined to expenditures on databases which give rise to future benefits, or have a value on the market. Entertainment, literary and artistic originals consist of the original films, sound recordings, manuscripts, tapes, models, etc. They are frequently produced on own account, and subsequently sold outright or by means of licences. The 2008 SNA went one step further, by also considering expenditures on research and development (R&D) as investments in non-financial assets.

Other intangible assets, such as goodwill, marketing assets and contracts, leases and licenses are only recorded when evidenced by an outright purchase. As a consequence, for example, expenditures on advertising to build up a brand are not considered as an investment. An example of these purchased intangible assets concerns the acquisition of a corporation by another corporation, where the payments for the shares that exceed the intrinsic value of the corporation are considered as purchased goodwill. Furthermore, in economics, one often considers “human capital” as one of the main non-financial assets for the future potential of an economy. However, in the 2008 SNA, this is not recorded as an asset, because “it is difficult to envisage “ownership rights” in connection with people, and even if this were sidestepped, the question of valuation is not very tractable” (paragraph 3.48). All in all, the asset boundary is perhaps one of the most disputed issues, not only in national accounts but also in business accounting.

In the SNA, all non-financial assets are recorded as being owned by residents. If a non-resident enterprise owns immobile assets on the territory of the domestic economy, it will be recorded as being “owned” by a resident subsidiary of the enterprise in question. If there is no such resident subsidiary, a “notional resident unit” is imputed which records ownership of the asset; the direct ownership of the asset by the non-resident enterprise is substituted by an ownership of equity in the resident notional unit. A similar treatment is applied when, for example, a non-resident household owns a second home in the domestic economy, and vice versa, when a resident household owns a second home abroad.

A comprehensive balance sheet

Table 8.1 presents the balance sheets for the total of all domestic sectors in Australia and France as a percentage of GDP. A distinction has been made between non-financial assets, financial assets and liabilities, and the balancing item, net worth. In addition, non-financial asset are broken down into produced assets and non-produced assets, a typical breakdown in the system of national accounts. Produced assets are “… non-financial assets that have come into existence as output from production processes that fall within the production boundary of the SNA” (SNA 2008, paragraph 10.9). Buildings, machinery and equipment, infrastructure, inventories, etc. all fall within this class of non-financial assets. On the other hand, non-produced assets mainly consist of natural resources such as land, mineral and energy resources, etc. They are “discovered”, not produced by human intervention. Non-produced assets exclude, for example, improvements made to land, which should be classified as produced assets. However, often, it may quite difficult to distinguish the non-produced part of land from the value of land improvements. One may also not have available separate data for land and the buildings or other structures on it. In those cases, the composite asset should be classified in the category representing the greater part of its value.

Financial assets and liabilities are shown on a consolidated as well as a non-consolidated basis. In the former case, all the claims between residents have been eliminated, as a consequence of which only the claims of residents towards non-residents, and vice-versa – on the liability side – the claims of non-residents towards residents, are shown. From this table, one can derive that the total net worth of an economy almost entirely consists of non-financial assets. Actually, in the case of both Australia and France, total net worth is lower than the sum of non-financial assets, because the financial claims of non-residents are higher than the financial claims of residents towards the Rest of the World.

It is clear that one has to take into account non-financial assets to arrive at an appropriate measurement of net worth, or net wealth, of an economy. This is also true for the monitoring of wealth for institutional (sub)sectors, although in this case the imbalance between financial assets and liabilities can have a significantly higher impact on the level of net worth. For example, the non-financial corporations’ sector may have substantial amounts of non-financial assets, but these are almost entirely financed by other sectors, either in the form of loans and debt securities or in the form of ownership entitlements (shares and other equity). As a result, net worth is substantially lower than the sum of non-financial assets.

In the remainder of this chapter, Indicator 2 addresses some of the specificities of recording and measuring non-financial assets in the system of national accounts. Subsequently, Indicator 3 touches upon the distribution of wealth across institutional sectors. The (de-)accumulation of wealth over time is the topic of Indicator 4. The chapter concludes with the importance of having more granular breakdowns of the main sectors, by showing an example of the distribution of wealth across various household groups, a topic which nowadays receives increasing attention, not only from a well-being perspective but also from the perspective of economic vulnerabilities and monetary policy.

Legal ownership versus economic ownership

Non-financial assets are recorded within the sector which has the “economic ownership” of the relevant asset. Economic ownership can be different from legal ownership, in that it looks at who is entitled to claim the benefits associated with the use of asset, and who runs the associated risks of economic failure. Usually, economic ownership coincides with legal ownership, but there are some notable exceptions. One of these exceptions concerns financial leasing. For example, a bank (the lessor) may purchase an aeroplane and thus become the legal owner of the aeroplane, but then directly pass the economic ownership of the aeroplane to an airline company (the lessee). The airline company accepts all operating risks and also receives the economic benefits from using the aeroplane in the production of air transport services. In return, the airline company pays a periodic fee, representing interest and principal payments, to the bank, thus resembling the repayment of a loan. In this case, the aeroplane is recorded as a non-financial asset of the airline company, while on the liability side a loan from the bank is imputed. Another example is a resource lease, whereby the economic ownership of a natural resource is transferred from, for example, the government to a mining company, in return for a regular agreed payment. However, several criteria have to be considered to evaluate whether or not the economic ownership has actually been transferred in a lease (see SNA 2008, paragraph 17.318).

Sometimes it is quite difficult to give a straightforward answer to the question of economic ownership. An example relates to the allocation of intellectual property products within multinational enterprises. Such intangible assets can be moved quite easily around the world, often for reasons related to the minimisation of the global tax burden. Moreover, the assets and the income derived from them may be routed via “Special Purpose Entities” (see Indicator 4 of Chapter 3). It then becomes quite complicated to establish the exact location of the ownership of the intellectual property product to the headquarters or the subsidiaries (see UNECE, 2015).

A related but slightly different issue concerns the recording of Public-Private Partnerships (PPPs), which in some countries have become very popular. PPPs relate to the co-operation between the government and the private sector in, for example, constructing and exploiting a piece of transport infrastructure, such as highway or a railway track. Here, the problem is to establish who runs the risks and receives the economic rewards of such a project. If the government is subject to the risks and rewards of the infrastructure, the PPP (and the investment costs of the infrastructure) should be recorded as part of government sector. If the private sector is the economic owner, then the PPP is considered as part of the non-financial corporations’ sector. This is a quite important question, as it directly affects the government debt and deficit. Within the European Union, these legal constructions have become very popular, and because of an increased focus, after the introduction of the “Excessive Deficit Procedure” (see Chapter 6), on economic policy indicators such as government debt and deficit, special guidance has been developed for the recording of PPPs; see e.g. Eurostat and EIB (2016).

Valuation of non-financial assets

Paragraph 13.16 of the 2008 SNA states the following: “For the balance sheets to be consistent with the accumulation accounts of the SNA, every item in the balance sheet should be valued as if it were being acquired on the date to which the balance sheet relates.” Ideally, observable market prices should be used to value non-financial assets. However, non-financial assets depreciate in value over time due to their use in the production process, and second-hand markets, from which one could derive market prices for assets of different ages, are often non-existent. Exceptions are transport equipment and residential dwellings, in the latter case with the complication that the values do not only relate to the dwelling but also to the land underneath it.

One may argue that special structures and machinery used in the production of goods and services may not bring more than scrap value, if sold on the second-hand market. In this case, preference is given to the value that the asset will bring to the enterprise as a going concern, and not to the value of asset for an enterprise in liquidation. Moreover, some assets, such as roads and railway systems developed by the government, are not for sale and do not have a market value (unless one is allowed to raise fees for the use of them). The same holds for publicly available R&D. Notwithstanding this issue, these infrastructure and R&D assets are valued to represent the economic benefits that these assets bring to the society as a whole.

As a direct valuation based on the observation of market prices in the second-hand market is often not possible, in the system of national accounts, the value of fixed assets is usually estimated using the Perpetual Inventory Method (PIM). Basically, this methodology resembles the current replacement cost method often applied in business accounting. The stock of assets is set equal to the sum of past years’ investments. Moreover, the depreciation of the assets is taken into account, to reflect the decrease in value due to the use of the relevant assets. Finally, one of course needs to account for the disposals of the relevant assets, either as a result of a sale or because the asset is scrapped at the end of its economic life-cycle. The goal of the PIM is to arrive at a valuation in current prices. Usually, one typically adjusts the investments in past years by applying an appropriate price index. In contrast, in business accounting, historic prices are typically used, i.e. the price levels for past investments are not (frequently) adjusted.

In some cases, the value of a non-financial asset may be established by estimating the net present value of future returns, appropriately adjusted with a discount rate. This method is typically applied to mineral and energy reserves, where the resource rent per unit of extracted reserves is combined with estimates of the total quantity of the reserves and the extraction pattern. To avoid highly volatile valuations due to quickly changing resource rents as a consequence of changing commodity prices, one usually applies a long-term average of the resource rent. The method may also be useful for, for example, internally generated artistic originals such as book manuscripts and music recordings, for which it may be difficult to find cost-based estimates to apply PIM.

As said before, market prices are only available for the combined value of a dwelling (or the non-residential building) and the land underneath it. One could thus derive the value of land as a residual, by subtracting the value of the dwelling calculated with the PIM from the combined value of the land and the dwelling. This may give rise to implausible, and occasionally negative, results for the value of land. Obviously, in these cases, a re-appraisal of the PIM estimates is needed. One may need to reconsider the assumptions applied for the depreciation patterns or the age-price profiles. An alternative method for measuring land is to measure it directly, via available information on prices per square meter. But here too, one needs to check whether the resulting sum of the buildings and the land is consistent with the market prices of the combined assets.

Figure 8.1 provides an example of the various valuation methods for land in Finland. It compares the direct valuation of land with the residual approach applying an average service life for dwellings of 50 and 60 years, respectively. It shows that the value of land is much more volatile when using the residual approach. The developments in the market prices of dwellings including underlying land are directly reflected in the value of land. An advantage of the residual approach is that the combined value of land and dwellings is based on actual market prices. However, the method is often not applicable for other types of land. For example in the case of non-residential real estate, market prices for the combined value of land and the building located on it may be difficult to find because of the scarcity of transactions and the uniqueness of any objects. More information can be found in Eurostat and OECD (2015).

Figure 8.1. Land underlying dwellings estimated with direct and residual method, Finland, 1985-2011

EUR, Billions

Source: Statistics Finland, National Land Survey of Finland.

 https://doi.org/10.1787/888933588991

Finally, in line with the general rule, inventories are also to be valued at current prices, not historical prices. For finished goods and work-in-progress, this means that they are to be valued at “basic prices”, i.e. the prices at which they are sold by the producer excluding taxes (less subsidies) on products. Valuables are also to be valued at current market prices.

Distribution of wealth across sectors

Looking at the distribution of net worth or net wealth across institutional sectors, Figure 8.2 shows the results for France, one of the few countries for which complete balance sheets, including non-produced non-financial assets, are available. The majority of domestic net wealth ends up in the households’ sector. Although government and non-financial corporations own substantial amounts of non-financial assets, their net worth is relatively low, or even negative, because of liabilities in the form of debt securities, loans, and, in the case of non-financial corporations, shares and other equity. Financial corporations, on the other hand, generally own few non-financial assets; for most of the countries, they range from 1% to 3% of total non-financial assets for the economy as a whole.

Figure 8.2. Distribution of net worth across institutional sectors, France

Percentage of total net worth of the domestic economy

Source: OECD (2017), “Financial Balance Sheets, SNA 2008 (or SNA 1993): Non-consolidated stocks, annual”, OECD National Accounts Statistics (database), https://doi.org/10.1787/data-00720-en; and “Detailed National Accounts, SNA 2008 (or SNA 1993): Balance sheets for non-financial assets”, OECD National Accounts Statistics (database), https://doi.org/10.1787/data00368-en.

 https://doi.org/10.1787/888933589010

When it comes to the distribution of net worth across sectors, there may be considerable disparities across countries. In particular, the net worth position of governments with relatively low levels of debt may be quite different from those governments having built up large amounts of debt. The most notable example is again Norway, where government net worth (excluding mineral and energy resources) accounts for almost 3.5 times GDP, equalling around 40% of total domestic net worth.

Non-financial corporations’ non-financial assets and net worth

At the sector level, non-financial assets owned by the non-financial corporations’ sector almost entirely consist of assets used in the production of goods and services. The total value in Australia and France equals AUD 3 022 billion (183% of GDP) and EUR 4 292 billion (196% of GDP), respectively; see Table 8.3 below. But it has to be acknowledged that Australia, a country with considerable natural resources, does not record any of their mineral and energy reserves on the balance sheets of non-financial corporations, while these assets are negligible for French non-financial corporations.

Moreover, there are significant differences between Australia and France in terms of the shares of the various types of non-financial assets. A striking difference is the share of land in non-financial assets, which in France (32.0%) is almost double the share in Australia (16.1%). On the other hand, buildings other than dwellings account for 53.8% of total non-financial assets in Australia, while this share is only 18.2% in France. Dwellings are also a substantial category in French non-financial corporations, accounting for 15.5% of total non-financial assets. Machinery and equipment and intellectual property products have a share of 21.0% in Australia, and 18.2% in France.

Obviously, the past investments and the resulting capital stocks had to be financed, either by internal funding (gross saving) or by external funding (incurrence of debt or the issuance of new shares and other equity). Looking at net financial worth, the balance of financial assets and liabilities, one can again notice a remarkable difference between Australia and France; see Table 8.4. While Australian non-financial corporations have a negative financial worth of minus 152% of GDP in 2015, leaving them a total net worth of 31% of GDP, the French non-financial corporate sector has a negative financial net worth of minus 99% of GDP, resulting in a total net worth of 97% of GDP. In the net worth figure the stock market value of the corporations’ equity is included as a liability; therefore, a positive net worth means that the stock market value of the equity issued by non-financial corporations is lower than the intrinsic value (or net asset value), i.e. total assets minus liabilities (excluding equity), of these corporations. One can thus also conclude that the stock market value of Australian corporations’ equity is much closer to the intrinsic value of the corporations than in the case of French corporations. The French corporations are either significantly undervalued, or investors have much more confidence in the future earning capacity of Australian corporations. More details on the financing of the non-financial corporations’ sector can be found in Chapter 5.

General government’s non-financial assets

If we now turn to the government sector, Table 8.5 shows that their non-financial assets predominantly consist of land, buildings, and other structures. The latter category includes, amongst others, public infrastructure such as roads, sewerage systems, etc. Intellectual property products, which account for approximately 1.8% of GDP in Germany to as much as 6.3% of GDP in the United States, relate for the main part to public R&D. In resource-rich countries, such as Australia, mineral and energy reserves can also be an important category. In Australia, mineral and energy reserves actually account for more than half of the government’s stock of non-financial assets. As noted before, many government assets do not have any value on the market, but their value is still estimated using the PIM, and included in the national accounts because of their benefits for the society as a whole. For Germany and the United States, only data on the stocks of fixed assets and, in case of Germany, also stocks of land are available. Even for countries like Australia and France, who have the most complete set of national accounts data, one can see gaps in the information. For example, no estimates are available for government-owned valuables.

Adding available numbers on governments’ non-financial assets to net financial worth, the balance of financial assets and liabilities, one can make an assessment of government’s total net worth. It shows that the Australian government has a quite substantial net worth of more than 110% of GDP. If one excludes the pension liabilities, it is even larger: 135% of GDP. For France and Germany, net worth equals 11% and 16% of GDP, respectively. For Germany, no data are available for other non-produced assets, but one may assume that these assets are rather insignificant in the case of Germany. Total net worth of the US government is in negative territory, also when one excludes pension liabilities, but here it has to be noted that no estimates are available for land and other non-produced assets. Including these assets, one may assume that net worth becomes positive.

Households’ non-financial assets and related indebtedness

As noted in Chapter 4, households perform a variety of functions in the economy: owners of unincorporated enterprises producing goods and services, owner-occupiers of dwellings, and consumers of goods and services. The first two functions show up in the stocks of non-financial assets as well. Unincorporated enterprises own buildings, machinery and equipment, and other fixed assets to produce the goods and services. However, dwellings and the associated underlying land represent by far the largest share of households’ stock of non-financial assets. Households’ economic function of being consumers of goods and services is not reflected in the stocks of non-financial assets. As stated before, cars for personal use, equipment used in-house, and other consumer durables are not recorded as investments in non-financial assets, because they are not used in the production of goods and services as defined in the 2008 SNA. As these durable goods also represent a store of value for households, and part of them may be financed through incurring (consumer) debt, the 2008 SNA recommends estimating these durables as a memorandum item, although very few countries produce estimates on these stocks.

Data on non-financial assets, for which loans have been incurred, may be quite relevant to better monitor and analyse household indebtedness. Figure 8.3 shows the evolution of the value of dwellings (including underlying land) and household mortgage debt for four countries. Generally, as expected, the value of the dwellings including underlying land is substantially higher than the related mortgage debt. Looking at the evolution of the value, one can directly observe the impact of the 2007-09 economic and financial crisis, except in Germany where the value shows a continuous moderate upward trend. House prices in the United States have still not recovered from the crisis. When it comes to mortgage debt, one can observe an upward trend in Australia and France, and a negative trend in Germany. In the United States, the crisis clearly reversed the developments in mortgage debt, increasing before and steadily decreasing after the crisis. Comparing mortgage debt to the value of the dwellings, there are some notable differences across countries. For the United States, mortgage debt as a percentage of the value of the dwellings is consistently 30% or higher, with a strong upward trend to a high of 46% in 2009. At the other side of the spectrum, mortgage debt in France has reached a maximum of 13% in more recent years. Australia showed an upward trend until 2011, reaching the highest level at 28%, after which the debt has been slowly trending downwards in recent years. For Germany, one can see a consistent downward trend to 17% in 2015.

Figure 8.3. Dwellings (including underlying land) versus mortgage loans

Source: OECD (2017), “Financial Balance Sheets, SNA 2008 (or SNA 1993): Non-consolidated stocks, annual”, OECD National Accounts Statistics (database), https://doi.org/10.1787/data-00720-en; and OECD (2017), “Detailed National Accounts, SNA 2008 (or SNA 1993): Households’ financial assets and liabilities”, OECD National Accounts Statistics (database), https://doi.org/10.1787/8668ceb2-en.

 https://doi.org/10.1787/888933589029

While analysing Figure 8.3, the situation at the macro level may look rather stable and fine, with relatively modest developments in mortgage debt combined with increasing values of real estate, thus suggesting the absence of significant financial risks and vulnerabilities. But this can be quite different at a more granular level, for particular household groups. For example, households having purchased a house at a relatively high price, just before the end of a housing price bubble, may be very vulnerable once house prices start to decrease, and they may end up with a mortgage loan which is substantially higher than the value of their dwelling. Therefore, it is considered very important to have more detailed information on the distribution of wealth across household groups, which is also useful for the analysis of financial stability and monetary policy responses. This information is the topic of Indicator 5 below.