Definitions

# national income

Measures of national income and output are used in economics to estimate the welfare of an economy through totaling the value of goods and services produced in an economy. They use a system of national accounting first developed during the 1940s. The primary measures of national income and output are Gross Domestic Product (GDP), Gross National Product (GNP), Gross National Income (GNI), Net National Product (NNP), and Net National Income (NNI).

There are three main ways of calculating these numbers; the output approach, the income approach and the expenditure approach. In theory, the three must yield the same, because total expenditures on goods and services (GNE) must equal the total income paid to the producers (GNI), and that must also equal the total value of the output of goods and services (GNP).

However, in practice minor differences are obtained from the various methods due to changes in inventory levels. This is because goods in inventory have been produced (therefore included in GNP), but not yet sold (therefore not yet included in GNE). Similar timing issues can also cause a slight discrepancy between the value of goods produced (GNP) and the payments to the factors that produced the goods, particularly if inputs are purchased on credit, and also because wages are collected often after a period of production.

## GDP vs GNP

Gross domestic product (GDP) is defined as the "value of all final goods and services produced in a country in one year". On the other hand, gross national product (GNP) is defined as the "value of all (final) goods and services produced in a country in one year, plus income earned by its citizens abroad, minus income earned by foreigners in the country". The key difference between the two is that GDP is the total output of a region, eg. United States, and GNP is the total output of all nationals of a region, eg. Americans.

To give an example of the difference between GDP and GNP, and also income, using United States:

>
''' National income and output (Billions of dollars)
Period Ending
Gross national product 11,059.3
Net U.S. income receipts from rest of the world 55.2
U.S. income receipts 329.1
U.S. income payments 273.9
Gross domestic product 11,004.1
Private consumption of fixed capital 1,135.9
Government consumption of fixed capital 218.1
Statistical discrepancy 25.6
National Income 9,679.7

GNP is becoming less used, as a larger number of nationals are working in nations abroad. Because of this, GDP is becoming a more popular measure.

## Derivatives of GDP

A number of ratios are derived from GDP. These include:

• NDP: Net domestic product is defined as "gross domestic product (GDP) minus depreciation of capital", similar to NNP.
• GDP per capita: Gross domestic product per capita is the mean value of the output produced per person, which is also the mean income.

These terms often use "expenditure", or "income" instead of "product". These are still the same, as for all goods that are produced, an amount of money equal to the value of the goods produced is spent on purchasing the goods, and the money spent purchasing the goods is paid to the workers as income. Therefore, production, expenditures, and income are all equal.

Also, "domestic" is often substituted with "national", as explained in GDP vs. GNP.

## The Output Approach

The Output Approach focuses on finding the total output of a nation by directly finding the total value of all goods and services a nation produces.

Because of the complication of the multiple stages in the production of a good or service, only the final value of a good or service is included. This avoids an issue often referred to as "double counting" - when the total value of a good is included in the national output in several stages of production. In the example of meat production, the value of the good from the farm may be \$10, then \$30 from the butchers, and then \$60 from the supermarket. The value that should be included in final national output should be \$60, not the sum of all those numbers, \$100. The values added at each stage of production over the previous stage are respectively \$10, \$20, and \$30. Their sum gives an alternative way of calculating the value of final output.

The method of National Income by Output, Value Added method:

GDP at market price = Value of Output in an economy in a particular year - Intermediate consumption

NNP at factor cost  = GDP at market price - Depreciation + NFIA (Net Factor Income from Abroad) - Net Indirect Taxes

## The Income Approach

The Income Approach focuses on finding the total output of a nation by finding the total income of a nation. This is acceptable, because all money spent on the production of a good - the total value of the good - is paid to workers as income.

The main types of income that are included in this measurement are rent (the money paid to owners of land), salaries and wages (the money paid to workers who are involved in the production process, and those who provide the natural resources), interest (the money paid for the use of man-made resources, such as machines used in production), and profit (the money gained by the entrepreneur - the businessman who combines these resources to produce a good or service).

The equation for measurement of National Income by Income Method:

NDP at factor cost = compensation of employee + operating surplus + Mixed income of self employee

National Income    = NDP at factor cost + NFIA (net factor income from abroad)

## The Expenditure Approach

The Expenditure Approach is the most popular national output accounting method. It focuses on finding the total output of a nation by finding the total amount of money spent. This too is acceptable, because like income, the total value of all goods is equal to the total amount of money spent on goods. The basic formula for domestic output combines all the different areas in which money is spent within the region, and then combining them to find the total output.

GDP = C + I + G + (X - M)

Where:
C = Household consumption expendituresPersonal consumption expenditures
I = Gross private domestic investment
G = Government consumption and gross investment expenditures
X = Gross exports of goods and services
M = Gross imports of goods and services

Note: (X - M) is often written as NX, which stands for "Net Exports"

## National income and welfare

GDP per capita (per person) is often used as a measure of a person's welfare. Countries with higher GDP may be more likely to also score highly on other measures of welfare, such as life expectancy. However, there are serious limitations to the usefulness of GDP as a measure of welfare:

• Measures of GDP typically exclude unpaid economic activity, most importantly domestic work such as childcare. This leads to distortions; for example, a paid nanny's income contributes to GDP, but an unpaid parent's time spent caring for children will not, even though they are both carrying out the same economic activity.
• GDP takes no account of the inputs used to produce the output. For example, if everyone worked for twice the number of hours, then GDP might roughly double, but this does not necessarily mean that workers are better off as they would have less leisure time. Similarly, the impact of economic activity on the environment is not measured in calculating GDP.
• Comparison of GDP from one country to another may be distorted by movements in exchange rates. Measuring national income at purchasing power parity may overcome this problem at the risk of overvaluing basic goods and services, for example subsistence farming.
• GDP does not measure factors that affect quality of life, such as the quality of the environment (as distinct from the input value) and security from crime. This leads to distortions - for example, spending on cleaning up an oil spill is included in GDP, but the negative impact of the spill on well-being (e.g. loss of clean beaches) is not measured.
• GDP is the mean (average) wealth rather than median (middle-point) wealth. Countries with a skewed income distribution may have a relatively high per-capita GDP while the majority of its citizens have a relatively low level of income, due to concentration of wealth in the hands of a small fraction of the population. See Gini coefficient.

Because of this, other measures of welfare such as the Human Development Index (HDI), Index of Sustainable Economic Welfare (ISEW), Genuine Progress Indicator (GPI), Gross National Happiness (GNH) and Sustainable National Income (SNI) are used.

## References

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