National Income Accounting

Meaning National Income National income is the yardstick of measuring aggregate performance of any economy. It is sum of the income earned by all the citizens of a country during one year. The income of citizens may be in the firm of wage income, rental income, interest income and profit income for their contribution of labor, land, capital and entrepreneurial talent while producing goods and services.

Definitions
Marshall, The labor and capital of a country acting on its natural resources produce annually a certain net aggregate of commodities, material and immaterial including services of all kinds.This is true national income or revenue of the country or national dividend. Pigou, National income is that part of objective income of the community, including of course income derived from abroad, which can be measured in money.

Cont.
Fisher, The national dividend or income consists solely of services as received by ultimate consumers, whether from their material or from their human environments. Also include services rendered during this year by durables. Keynes, suggested: Expenditure approach National income equal to total consumption expenditure and total investment expenditure; Y = C+I

Cont
Factor- income approach national income is estimated as the sum total of income received by all the factors of production. Symbolically: Y=F+Ep, Y=national income, F=Factor payment received in the by owners of land, labor and capital and Ep represents entrepreneurial profits

 Three approaches by united Nations: a. product approach net national product the aggregate of net value added in all branches of economic activity b.sum of the Distributive share income accrued to factors of production c.net national expenditure aggregate expenditure on final consumption of goods and services plus domestic and foreign investment

Modern approach to national income

National Income Accounting

The output depends on employment of factor inputs: Q = f(L, Ld, K, O) In money value: PQ = w + r + i + Revenue obtained from output sold is distributed among the factors of production in form of wage, rent, capital and profit. On the other hand, revenue obtained from the output sold is also the expenditure made on that output of some people who have bought the product.

National Income Accounting

Total Product = Total Income = Total Expenditure Hence, there are 3 methods of national income accounting accordingly. These are: 1. Product method PiQi 2. Income method w + r + i + 3. Expenditure method C + I + G + X M There needs some adjustment on these equations, but the equations however show the main theme of the measuring of national income.

Concepts of National Income Accounting

Gross Domestic Product (GDP) It is the most common measure of national income. It is the money value of all final goods and services produced domestically by a country during one year. It can be calculated or estimated by multiplying all the quantity of commodities produced by their corresponding market prices. So it is called the GDP at market price. GDP = PiQi = P1Q1 + P2Q2 + P3Q3 + + PnQn

Some features of GDP are:

GDP is stated in money terms, it is the money value of goods and services produced within the country It comprises only the final goods and services produced during a period of time The value of final goods and services is calculated at the current market price. GDP is also known as GDP at market price It included only those goods and services which have market value and which are brought in the market for sale It doesnotn include transfer payments, like pension, maternity benefits, unemployment allowance, etc. which donot contribute to production

Gross National Product (GNP)

GNP = GDP + NFIA (net factor income from abroad) GDP measures the total income produced domestically, whereas GNP measures the total income earned by nationals inside and abroad. To obtained GNP, we add receipts of factor income from the rest of the world and subtract payments made to the rest of the world.

Net National Product (NNP)

NNP = GNP - Depreciation To obtained NNP, we subtract depreciation from GNP. Depreciation of capital is the wearing out or consumption of stock of plants, equipments and residential structures during the accounting year. Depreciation is also called consumption of fixed capital.

National Income (NI)

National income is the total income earned by a nations residents in the production of goods and services. It differs from net national product by excluding indirect business tax and including business subsidies. NI = NNP (IT S) Indirect tax makes a wedge between the price that consumers pay for goods and the price that firms receive. Firms never receive this tax wedge and it is not part of their income which needs to subtract to obtain NI.

National Income Accounting

Per Capita Income (PCI) It is the average income of citizen of any economy. It equals national income divided by the total population in that economy. PCI = NI / Total Population

Nominal and Real GDP

GDP at current prices or nominal GDP - GDP measured using the prices of the year for which it is calculated Nominal GDP can be a misleading indicator of changes in output or income because it also embodies changes in the prices of goods and services. Real GDP or GDP at constant prices measures the total value of output using the prices of a selected year (the base year). Real GDP better for analysis overtime because it eliminates the effects of price changes

Cont
YEAR 1 QUANTITY Ice Cream Cake PRICE Ice Cream Cake VALUE Ice Cream Cake NOMINAL GDP Rs. 5,000 Rs. 10,000 Rs. 15,000 Rs. 10,000 Rs. 20,000 Rs. 30,000 Rs. 50 Rs. 100 Rs. 100 Rs. 200 100 units 100 units Rs. 100 units Rs. 100 units YEAR 2

Approaches to measure National Income

Expenditure Approach measures GDP as the sum of expenditures on final goods and services. Income Approach measures GDP as the sum of incomes of factors of production (wages, rent, interest and profit. Value-added Approach measures GDP as the sum of value added at each stage of production (from initial to final stage)

Expenditure Approach:
It is the aggregate of gross private consumption, gross private investment and gross purchases of government. It can be expressed as: GDP = C + I + G + X- M

GDP is the sum of consumption, investment, government purchases, and net exports.

Cont
Consumption consists of the goods and services bought by households. It is divided into three subcategories: nondurable goods, durable goods, and services. Nondurable goods are goods that last only a short time, such as food and clothing. Durable goods are goods that last a long time, such as cars and TVs. Services include the work done for consumers by individuals and firms, such as haircuts and doctor visits.

Cont
Investment consists of goods bought for future use. Investment is also divided into three subcategories: business fixed investment, residential fixed investment, and inventory investment. Business fixed investment is the purchase of new plant and equipment by firms. Residential investment is the purchase of new housing by households and landlords. Inventory investment is the increase in firms inventories of goods (if inventories are falling, inventory investment is negative).

Cont
Government purchases are the goods and services bought by central, state, and local governments. This category includes such items as military equipment, highways, and the services that government workers provide. It does not include transfer payments to individuals, such as Social Security and welfare. The last category, net exports, takes into account trade with other countries. Net exports are the value of goods and services exported to other countries minus the value of goods and services that foreigners provide us. Net exports represent the net expenditure from abroad on our goods and services, which provides income for domestic producers.

Cont.
Consumption sector expenditure of household XXXX XXXX XXXX XXXX XXXX XXXX XXXX XXXX XXXX XXXX Government expenditure on final goods Investment expenditure ( private +public) Foreign trade sector (export-import) Change in inventory (closing-opening) Gross domestic product at market price Less: depreciation Net factor income from abroad Less: net indirect tax National income

 Based of factor incomes of people, business organization and the government of the country. The factor incomes means rent, wages, interests and profits. we add net factor incomes earned from abroad. There are people self-employed too. Their income is in mixed form. Thats; why, it is added separately. Profit, interest and rent earned by government in a year is added as property and entrepreneurial income of government. The sum of factor incomes in the country gives NDP at FC. To NDP at FC we add net factor income from abroad and we get NNP at FC or NI as following. NDP at factor cost = w + r + i + NNP at factor cost or NI = w + r + i + + net factor income from abroad (NFIA)

Income Method

Cont.
wages and salaries Rent Profits corporate tax corporate savings dividends Mixed income of self employed Property and entrepreneurial income of govt. NDP at FC Net factor income from abroad NI or NNP at FC XXXX XXXX XXXX XXX XXX XXX +XXX XXXX XXXX =XXXX +XXXX =XXXX

Product method:
monetary values of final products or value added in each stage of production The economy (country) is divided into 3 different sectors namely: primary, secondary, tertiary. Primary: agriculture, forestry, livestock rearing etc. secondary: health, sanitation, transportation, education etc tertiary: tourism, sports, music etc.

 A. final product method In this method, NI is measured on the basis of monetary values of final product. Firstly, we find monetary values of final product of primary, secondary and tertiary sectors. Sum of the final products gives GDP at MP. To GDP at MP we add net factor income from abroad and from it we subtract depreciation and net indirect tax to find NI.

Final product of primary sector

XXX X

+Final product of secondary sector XXX X +Final product of tertiary sector GDP at MP -Depreciation -Net indirect tax +Net factor income from abroad NI XXX X XXX X XXX X XXX X XXX X XXX

Cont..
Value added in primary sector B. value added method: In this method, NI is measured adding the values added in each stage of production and distribution. Firstly we add values added in primary, secondary and tertiary sectors. Sum gives GDP at FC. From that we subtract depreciation and to it we add net factor income from abroad to find NI. XXX X +Value added in secondary sector XXX X +Value added in primary sector GDP at FC Less Depreciation +Net factor income from abroad NI XXX X XXX X XXX X XXX X XXX X

National Income Accounting

Difficulties National Income Accounting 1. Non-market activities National income accounts only those activities that occur in market. Economic activities that occur within the household and do not come in the markets are excluded in the national income accounts. For example, housewife services like cooking, washing, cleaning, etc. are excluded from national income measurement . It underestimate the NI.

National Income Accounting

2. The underground economy Economic activities that are legally prohibited are not included in the national income measurement. Such economic activities are gambling, prostitution, drug dealing, etc. 3. Price change National income is the money value of goods and services. Money value depends on market price which often changes. The changing prices is one of the major problem of the accounting.

National Income Accounting

4. Second-hand transaction Transactions of used commodities merely change the ownership and are not the additional production. Inclusion of such second hand sales make overestimates of national income. 5. Double counting Counting of same production again and again cause over estimation of national income. Some times it is very difficult if goods is intermediate of final.