National Income, Methods of calculation

The total value of a country’s commodities and services generated throughout its fiscal year is its national income. It is, therefore, the result of all economic activity that takes place in any nation over a year. It is monetary in nature. It is the entire amount of revenue generated by its numerous economic activities in a given year. It is also critical in identifying the country’s development. This is all about what is national income? Moreover, it comprises interest, wages, rent, and profit generated by a nation’s production elements such as capital, labor, land, and entrepreneurship.

About National Income Accounting

Knowing the national income definition is vital to knowing about the accounting system. This accounting is a bookkeeping method used by governments to quantify the volume of economic growth over a specific period. This approach enables governments to examine the present income distribution or living standard among a demographic and the consequences of several economic indicators.

Consequently, the reliability of this analysis is only as good as the data obtained. National income accounting information of this type contains total revenues made by domestic firms, salaries given to domestic and international workers, and the total spending on income taxes and sales by individuals and corporations residing in the nation.

How can we calculate National Income?

• The producing units create goods and services.
• They do this by using four factors of production: labor, capital, land, and entrepreneurship.
• These four production elements collaborate to generate commodities and services by adding value to the current commodities.
• This added value, or NDP (net domestic product), is distributed to the owners of the four factors. They get employee pay, interest, rent, and profit in return for access to the producing goods and services.
• Profits gained by proprietors of factors of production are being used to purchase goods and services for investment and consumption.
• Manufacturing creates income. Income is used to fund expenditure, which in turn stimulates greater production.
• There are three stages to the cyclical flow of national wealth. So, there are three main methods for computing national income. Let’s now discuss each of them.

Methods for Calculating National Income

Now that you know what national income is and have a basic understanding, you must know the procedures for calculating it. So below are the three essential methods that help with the calculation.

Product Method or Value-Added Method

National income is calculated using this technique as a flow of commodities and services. First, we compute the monetary worth of all final products and services generated in an economy over a year. The term “final goods” refers to items consumed immediately and are not employed in the subsequent manufacturing process. Intermediate products are goods that are utilized in the manufacturing process. 

Because the worth of intermediate products has been used in the worth of final products, we do not include the cost of intermediate goods; alternatively, we would be twice calculating the cost of the goods. To circumvent the dilemma of double counting, we could utilize the value-addition approach, which calculates value-addition at each production stage and sums it up to reach GDP. Because the money value is measured at market prices, the GDP (Gross Domestic Products) at market prices is the total amount. 

Formula: NNPfc = GDPmp – Depreciation – Net indirect taxes + NFIA, OR, 

NNPfc = GDPmp – Depreciation – Net product taxes – Net production taxes + NFIA

Income Method

National income is calculated using this technique as a circulation of factor incomes. There are mainly four production aspects: labor, land, capital, and entrepreneurship. Labor is compensated with wages and salaries, money is compensated with interest, the land is compensated with rent, and entrepreneurship is compensated with profit.

Furthermore, specific self-employed individuals, like physicians, lawyers, and CAs, provide their own money and labor. Their income is referred to as mixed-income. All of these factor incomes are referred to as NDP at factor costs (NDPfc).

Formula: National Income = Rent + Compensation + Interest + Profit + Mixed Income

Expenditure Method 

Since you’re already aware of the income technique, let’s look at the expenditure method. The expenditure approach can also be employed during the disposal phase to determine national income. It determines national revenue by computing final GDP spending at market prices. The amount spent on finished goods is referred to as final expenditure.  

Final products are necessary for final investment and consumption. Therefore, the requirement for final investment and consumption is generated by all four economic sectors, including households, enterprises, the government, and the rest of the world. 

Formula: National Income: Household Consumption + Government Expenditure + Investment expense + Net Export (Exports – Imports)

NNPfc = C + G + I + NX 

Conclusion

This article includes the national income definition and three essential methods of its calculation. This computation is quite a difficult task. However, the methods and formulas described above for estimation are used to guarantee that there are no duplicate missing or counting data from the production elements. It also signifies an economy’s effectiveness and amount of productivity expansion.