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National Income. National Income Accounting. Introduction.

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national income

National Income

National Income Accounting

  • National income accounting provides us with ex-post data about national income, it cannot explain the level and determinants of national income. The following identities are true for any level of income. In order to explain and predict the level of national income, models are constructed.
Factor Market

Product Market

Factor services

Goods & services

Real Flow


Factor Owners


Money Flow

Factor Income




The flow of economic activities in a 2-sector economy

gnp v s gdp
GNP v.s. GDP
  • Gross National Product (GNP)
  • The total value at market prices of final goods and services produced by the citizens in an economy in a specified period.
  • Gross Domestic Product (GDP)
  • The total value at market prices of final goods and services produced within the domestic boundary of a territory in a specified period
gnp gdp
  • Flow concept
  • Resale of existing houses 
  • Sale of used cars / existing shares 
  • Commission / Brokers’ fee 
  • Imputed rents of owner-occupied dwellings 
  • Capital gain is not income (Irving Fisher)

Only the interest earned from the capital gain is considered as income

real gnp nominal gnp per capita gnp
Real GNP & Nominal GNP & Per capita GNP
  • Real GNP=(Nominal GNP/GNP Deflator)*100
  • Per capita GNP = GNP / Population size
measurement of national income
Measurement of National Income
  • Income Approach

 NNP at factor cost OR National Income

  • Output Approach

 GDP at factor cost

  • Expenditure Approach

 GDP at market Prices

Expenditure Approach


GDP at market price


Indirect sales tax


Indirect subsidies

GDP at factor cost


Net income from abroad

GNP at factor cost



NNP at factor cost

 Output Approach

Factor Income-from abroad

Factor Income paid abroad 

Income Approach

 W+I+R+P

NNP at factor cost


Retained profits


Social insurance / Mandatory Provident Fund


Direct business Tax


Transfer payments

Personal income


Direct personal taxes

Disposable personal income

- Consumption = Saving

income approach
Income Approach
  • W+I+R+P = NNP at factor cost
  • Profits are stated net of depreciation / capital consumption allowances
  • If the figures exclude net income from abroad, NDP at factor cost can be obtained.
  • NDP at factor cost + Net income from abroad =
output approach
Output Approach
  • The total value of the final goods and services produced by the primary / secondary / tertiary industries
  • In order to avoid double counting, the value-added method is adopted to exclude intermediate goods.
  • GDP at factor cost + Indirect Taxes – Indirect Subsidies =
  • Distinguish between Indirect / Direct / Business / Personal Taxes
expenditure approach
Expenditure Approach
  • People spend their income. Thus, the total expenditure on final goods and services must be equal to the total value of final goods and services produced domestically.
  • Any output that is not sold to consumers is bought by producers in the form of unintended inventory investment.
  • C+I+G+(X-M) = Aggregate / Total expenditure
expenditure approach13
Expenditure Approach
  • Private Consumption Expenditure (C)
  • Gross Investment Expenditure (I)

Firms : plant (in progress) / unused raw materials

Households : residential building

Inventory investment : intended unintended (reduce information cost)

- gross domestic fixed capital formation*

- change in stocks & work in progress

*gross national fixed capital formation GNP at market prices

  • Government Expenditure (G)

roads/education/medical & health services/law & order/public works/…

salary to civil servants, NOT transfer payments

at the cost to taxpayers, NOT at market prices

  • Net Exports (X-M)

the value of imports is included in C, I, G, X

Exports include domestic exports & re-exports

items excluded from national income accounting
Items excluded from National Income Accounting
  • Second-hand goods
  • Intermediate goods
  • Non-marketed goods / services

Volunteer work / Housework

  • Unreported / Illegal market transactions
merits uses of national income statistics
Merits & Uses of National Income Statistics
  • Reflecting & comparing the standards of living of different countries

Per capita real GNP  standard of living

  • Providing information to the government and firms for economic planning
  • Reflecting the economic growth of a country

% change in real GNP over a period of time

limitations of national income statistics
Limitations of National Income Statistics
  • Factors that may understate the standard of living / the welfare
  • Exclusion of the value of leisure

Same Q produced with fewer working hours  higher welfare

  • Exclusion of non-marketed / unreported transactions
limitations of national income statistics17
Limitations of National Income Statistics
  • Factors that may overstate the standard of living / the welfare
  • Undesirable Side-effects of Production

Air pollution / traffic congestion /…

Understate the real / social costs to society  externality /divergence between social costs & private costs

when comparing economic performances using national income statistics
When comparing economic performances using national income statistics,
  • Price Level

use real GNP  eliminate the effect of inflation

  • Size of Population

 use per capital GNP

  • Income Distribution

more even distribution  higher welfare

  • Composition of National income

more consumption, less national defence  higher welfare

  • Exchange Rates

expressed in the same currency

whether the exchange rates reflects the purchasing power of the 2 currencies

  • A general and sustained increase in the prices of all goods and services

GNP deflator / GDP deflator

Consumer Price Index (CPI)

Producer Price Index (PPI)

  • When constructing price indices
  • different weighting will be given to different commodities reflecting their relative importance on the consumers’ expenditure
  • A base year is chosen during which the economy experiences no economic crisis
calculating a price index cont d
Calculating a Price Index (cont’d)
  • Price Index in 1991



  • Price Index in 1992



  • The general price level in 1992 has increased by %
  • Only persistent increase in the price indices implies inflation
consumer price indices
Consumer Price Indices
  • Only consumer goods are included
  • Persistent increase in the CPI implies an increase in the cost of living unless there is a compensating rise in money income
  • CPI(A), CPI(B), HSCPI are constructed to measure the change in the cost of living of different income groups since they have different consumption patterns. Different weights are assigned to different categories of goods to reflect their relative importance.
Uses of the CPIIn the following table, the real income is increasing, this implies that the standard of living is also increasing for a typical citizen
limitations of the cpi
Limitations of the CPI
  • Only consumer goods are included

 CANNOT reflect the inflation rate accurately

  • Change in consumption pattern

 the weights are fixed  misleading

  • Change in quality of goods

 CPI due to better quality  overstate inflation

  • Possibility of Substitution

 overstate the impact of inflation if consumers substitute cheaper goods for dearer goods

Implicit GNP DeflatorTo measure inflation, this is a better indicator as it has a wider coverage of commodities
  • Working Population OR Labour Force

Working Population=Employed+Unemployed+Self-employed

  • Un-employment Rate

=(Unemployed/Labour Force)*100%

  • Under-employment Rate
method of analysis
Method of Analysis
  • Endogenous variable

the value of the variable is determined inside the model ( x, y)

  • Exogenous variable

the value of the variable is determined by forces outside the model ( m, c)

any change is regarded as autonomous













C=f(Y) C=a C=a+cY C=a+c’Y C=c*Y

I=f(Y) I=I* I=I*+iY