National Income
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National Income · National wealth |
National Income
"National Income is the money value of all goods and services produced in a country during a year" J.M. Keynes.
National income measures the money value of the flow of output of goods and services produced within an economy over a period of time. The level and rate of growth of national income provide various purposes regarding economy, production, trade, consumption, policy formulation, etc.
Definitions
National income is a measure of the total value of the goods and services (output) produced by an economy over a period of time (normally a year). It also represents the total value of the primary incomes receivable within an economy less the total of the primary incomes payable by resident units (Glossary-OECD ). Economists have defined national income using some variations. For example, Alfred Marshall describes it as “The labour and capital of the country acting on its natural resources produce annually a certain net aggregate of commodities, material and immaterial, including services of all kinds… This is the net annual income or revenue of the country, or the national dividend”. According to Irving Fisher, the national income represents “the national dividend or income consists solely of services as received by ultimate consumers, whether from their material or from their human environment”; while from Paul A. Samuelson’s point of view “Gross national product (GNP) is the most comprehensive measure of a nation’s total output of goods and services. It is the sum of the dollar (money) value of consumption, gross investment, government purchase of goods and services and net exports”. There are some variations among these definitions, but the basic idea is that the national income is simply the income of the whole nation. It gives an idea about the economic position of a nation and represents the capacity to acquire goods and services for consumption. It is a determinant of material living standards and is also important for other aspects of progress. Indeed, the basic objective of an economy is to achieve economic progress. This is reached by coordinating natural resources, human resources, capital, technology etc. Thus, national income will help to assess and compare the progress achieved by a country over a period of time. Further, measuring national income is essential for various purposes that include projection about the future course of the economy, assisting government as the basis to design (or redesign) suitable development policies, helping firms in forecasting future demand for their products and facilitating international comparison.
The Importance of National Income
Measuring national income is crucial for various purposes. It allows to:
- measure the size of the economy and level of country’s economic performance;
- trace the trend or the speed of the economic growth in relation to previous year(s) also in other countries;
- know the composition and structure of the national income in terms of various sectors and the periodical variations in them.
- make projection about the future development trend of the economy.
- help government formulate suitable development plans and policies to increase growth rates.
- fix various development targets for different sectors of the economy on the basis of the earlier performance.
- help business firms in forecasting future demand for their products.
- make international comparison of people’s living standards.
Measuring National Income
National income calculation is not an easy task. There exist three methods:
- Product or Output Method
- Income Method
- Expenditure Method
The most important consequence for the computation of national income is that received income (Y) is equal to the consumption expenditure (C) made by the consumers ( i.e. Y=C), though other components of national income - savings or investment (I), public expenditure by government (G) and expenditure on net exports (X-M) – miss in this circular flow model. If we include all the above components of national income, Y= C will become: Y = C + I + G + (X-M)
Through the model above, it is more clear the link between income and production. Indeed, income is generated through production process, and the GDP (one of the major indicators of national accounts) represents the measure of an economy’s total output. It is also used as a measure of total income and total expenditure in that economy. Thus, income is equal to expenditure and expenditure is equal to the value of output produced in the economy; or better :
Income = expenditure = output
Y = E = O
Similarly, investment expenditure, government expenditure and net expenditure on trade will be added in to the circular flow. These additions are called injections. However, after aggregating all leakages (outflow) and injections (inflow) in any one year, the total income components of the economy will be equivalent to the total expenditure or total output. Therefore, analyzing each of all the three methods, the same results can be achieved.
Measure methods
Output or Product Method
This method is based on the total production of a country during a year. The measures of GDP are calculated by adding the total value of the output (of goods and services) produced by all activities during any time period, such as a year. The major challenge of this method is the problem of double-counting. All production units are classified into primary, secondary and tertiary sectors. Then, the various units are identified under these sectors and the goods and services, produced in each of these sectors, will be estimated. The sum total of products generated in these three sectors is the total output of the nation. The next step is to find out the value of these products in terms of money. This method helps to find out contributions of various sectors to national income.
Income Method
In the income method, the measures of GDP are calculated by adding all the income earned by various factors of production which are engaged in the production of output. The various incomes included to compute the gross national income are: wages and salaries, income of self-employed, profits and dividends of business corporations, interest, rent, surplus of government enterprises and net flow of income from abroad. Factors of production together produce output and income and the sum will be equal to the income of the nation. In other words, total (national) income is equal to the reward given to various factors of production. See data about GDP measure using the income approach (source OECD.Stat )
Expenditure Method
National income can also be calculated by adding up the expenditure incurred for goods and services. Government as well as private individuals spend money for consumption and production purposes. The sum total of expenditure incurred in a country during a year will be equal to national income.
Another important aspect concerning the computation of national income is the difference between a measurement at “current price” and /or at “constant price”. The measure based on current price uses the ongoing market prices to compute the value of output. It is quite possible that the current price may always be higher than real value due to many factors like taxes and inflation (or rising prices). Hence, national income arrived at ‘current price’ includes such influences as inflation and taxes. With inflation as a common feature in almost all the economies, it is necessary to measure the national income after deducting any such increase in the value of any output or income. National income at ‘constant price’ measures the national income after making necessary adjustment to eliminate the effect of inflation. Thus it is based on unchanged price of output. As the national income at ‘constant price’ is computed, based on the real worth of the purchasing power of income, it is also called as ‘real national income’ or national income in ‘real’ terms.
See also
Studies
Wassily Leontief, "National Income, Economic Structure, and Environmental Externalities", 1973. The conventional interpretation of net national income valued in some constant prices can be conveniently rationalized in terms of the ad hoc assumption that preferences of a representative average consumer can be described by a social utility function or a fixed set of well-behaving social indifference curves [1].
Page edited by --Vanessac 16:14, 6 May 2009 (UTC)
