1. National Income Accounting Lecture2

2. What is National Income? National income is defined as the total value of all goods and services produced within a country in a particular period usually 1 year.

3. National Income definition u The national income is a sum of monetary values that are ​​ obtained by individuals as a result of contributing to the production process Factors of production land labor capital entrepreneurial ability Factors of production rent wages interest profit Payment + + + + National income

4. The importance of computing National Income u

5. The Economy Income and Expenditure u For an economy as a whole, income must equal expenditure (aggregate demand) because: u Every transaction has a buyer and a seller. u Every dollar of spending by some buyer is a dollar of income for some seller. u This process can be seen using a Circular Flow Diagram.

6. The Circular-Flow income diagram (two sectors) Firms Households Market for Factors of Production Market for Goods and Services SpendingRevenue Wages, rent, and profit Income Goods & Services sold Goods & Services bought Labor, land, and capital Inputs for production

7. The Circular-Flow Income diagram National income(factors of production income) National output from goods and services

8. The Circular-Flow Income diagram (Four Sectors) ConsumersProducers Government Sector Taxation (T)Spending (G) External world Sector Imports (M)Exports (X) Consumption spending (C)

9. final Gross national product (GNP) :It is the total market value of all final goods and services produced within a country in a given period of time. Gross National Product

10. National Product National product :It is the total market value of all goods and services produced within a country in a given period of time.

11. What Is Counted and Not Counted in GNP? u What is counted in the GNP Non-Market Activities : Goods and services that are produced and consumed at home and that never enter the marketplace. u What is not counted in the GNP: u Transfer payments. For example, social security and pensions. u Unpaid and domestic activities. (example: If you cut your grass or paint your house…)

12. Methods of measuring GNP To avoid the double account of GNP we will use the value-added approach u Value-added Approach: u Value-added Approach: measures GNP as the sum of value added at each stage of production (from initial to final stage) V.A = value of sales – value of intermediate goods

13. Value Added Approach Value-addedValue of intermediate good Value of SalesStage of Production 0700Wheat 7001000Flour 10002000Bread National output Example1: Suppose that bread is the only final good of an economy: It goes through several (3) stages of production Suppose that bread is the only final good of an economy: It goes through several (3) stages of production.

14. Value Added Approach Value-addedValue of intermediate good Value of SalesStage of Production 0700Wheat 800Flour 1000Bread National output Example2: Suppose that there are three final products of an economy: It goes through several (3) stages of production. Wheat value :700  final product Sales :200  The rest is used in the production of flour Flour value:800  final product Sales :150  The rest is used in the production of bread which Bread value sales :1000

15. Expenditure Approach Expenditure Approach: measures GNP as the sum of expenditures on final goods and services. GNP =C + I + G + (X - M)

16. Direct and Indirect Taxes u Direct taxes – Direct taxes are applied to property, Tax liability cannot be passed onto someone else. (Example: income tax, business profit taxes..) u Indirect taxes – an indirect tax can be passed on from the designate to the final consumer.(example: VAT, consumption, production, import and export…)

17. Gross investment / Net investment u Gross investment represents additions to the stock of durable capital goods (buildings, equipment, inventories) during a year that increase production possibilities in the future. u Depreciation measures the amount of capital that has been used up in a year. u Net investment = gross investment - depreciation

18. Expenditure Approach Example: Suppose the economy has only one product, namely, rice. Expenditure Q sold Price per unit Good 20000100020Rice 20000GDP

19. Income Approach Income Approach: measures GNP as the sum of incomes of factors of production (wages, rent, interest and profit). u Notice: we are computing GNP using the income approach.we need to add Indirect Taxes and Depreciation

20. Income Approach (continued) u GNP = rent + wages + interest + profit + indirect taxes + depreciation u GNP = National Income + indirect taxes + depreciation

21. u Example: Suppose that in the production of rice the sales and expenses are as follows: 20,000 20,000Sales Expenses: 8000 Wages Wages 2000 Rent Rent 1500 Interest Interest 6000 Profit Profit 1000 Indirect taxes 1500Depreciation 20,000 20,000 GNP=Sum of Payments to factors

22. Other Measures of Income u Gross Domestic Product (GDP) u Nominal and Real GDP u Personal Income u Disposable Personal Income

23. Gross Domestic Product (GDP) GDP is geographically focused, including only output produced within a nation’s borders regardless of whose factors are used GDP = GNP - Net external(foreign) income

24. Real and Nominal GDP u Nominal GDP the production values of goods and services at current prices. u Real GDP the production values of goods and services at constant prices.

25. Computing Real GDP u The general formula for computing real GDP is: u The price index represents a price level change as an index with a base of 100

26. Net Domestic Product Net domestic product (NDP): GDP less depreciation äThe amount of output we could consume without reducing our stock of capital

27. Personal Income u Personal income (PI): Income received by households before payment of personal taxes PI = NI – profits taxes – social security taxes – reserves +transfer payments

28. Disposable Personal Income All disposable income is either consumed or saved