determination of national income
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National Income Accounting is a set of rules and definitions for measuring
economic activity in the aggregate economy.
Importance of National Income Accounting
1. NI accounting helps in assessing the economic performance
2. It helps us to measure the level of production in the economy
3. By comparing national accounts over a number of years
4. NI accounting provides a basis for proper economic planning by
the government.
5. It helps to measure the standard of leaving of a country
6. It is used to compare the wealth of different countries
Measuring Total Output of Goods and Services
National income (NI) is the value of goods and services produced
by an economy over a period of time, usually one year.
Since NI measures production per period of time, it is referred to
as flow rather than stock. Flow measures the rate at which the
stock changes.
Gross Domestic Product (GDP)
Is the total market value of all final goods and services produced
in a given geographical location in one-year period?
Or
Is the sum of all income earned by Tanzania residents when
produce goods and services with resources located inside
Tanzania?
Gross National Product (GNP)
Is the aggregate final output of citizens and businesses of an
economy in one year?
GNP=GDP + (FI-FO) where FI is the factor income earned
abroad by nationals/citizens and FO is the factor income earned
locally by non-citizens.
FI-FO=NIFA (Net factor income from abroad)
Three Methods of Measuring National Income
There are three methods of measuring National Income:
u The output approach,
u The expenditure approach and
u The income approach.
This is because of the national income accounting identity.
The National Income Accounting Identity
The equality of output and income is an accounting identity in the
national income accounts.
The identity can be seen in the circular flow of income in an
economy.
u National Income is equivalent to National Output and
equivalent to National Expenditure
The Circular Flow of Income
1. OUTPUT APPROACH
Also known as Product Approach.
National Income (GDP) is equivalent to the money value of all
goods and services produced by all sectors in the country during
a year.
Counting the sale of final goods and intermediate products would
result in double and triple counting.
Two Ways of Eliminating Double Counting
a. The first is to calculate only final sales of goods and services
produced in the economy
b. A second way is to follow the value added approach. It is
calculated by subtracting intermediate goods from the value
of its sales.
The concept of Market Price and Factor Cost
In most cases, Market Price (MP) > Factor cost (FC)
GDPMP= GDPFC + Indirect Taxes – Subsidies
OR
GDPFC = GDPMP – Indirect Taxes + Subsidies
2. The Income Approach
National income is the total income earned by the factors of
production owned by a country’s citizens
The income approach to GDP breaks down GDP into four
components:
GDP = National Income + Depreciation + (Indirect taxes –
Subsidies) + Net Factor Payments to the rest of the world
3. EXPENDITURE APPROACH
4 components included here:
a) Household or consumer expenditure on consumption goods,
(C).
b) Firm or producer expenditure of capital goods. Also known
as gross investment or gross private capital formation (I).
c) Government expenditure on goods and services, excluding
transfer payment (G).
d) Expenditure on exports and imports (X – M).
Y = C + I + G + (X – M)
Real and Nominal GDP
o Nominal GDP is GDP calculated at existing prices (current
year prices).
o Real GDP is nominal GDP adjusted for inflation.
o Real GDP is important to society because it measures what is
really produced.
o Changes in nominal GDP can be due to:
Changes in prices
Changes in quantities of output produced
o Changes in real GDP can only be due to changes in quantities,
because real GDP is constructed using constant base-year
prices
o
o
Problems in Measuring National Income
A. PRACTICAL PROBLEMS
1. Problem of illiteracy
2. Lack of expertise
3. Problem of inaccessibility
5. Lack of reliable data.
6. Incomes from illegal activities
CONCEPTUAL PROBLEMS
1. Existence of non-monetized sector
2. Problems in estimating the value of depreciation, imputed rent,
etc.
3. Problem of double counting
4. Inclusion of services, problem of measuring quality.
5. Value of Leisure
