DEFINITION AND KEY NATIONAL INCOME CONCEPTS

Definition of National Income

National income is a term used to measure the monetary value of the flow of the
output of goods and services produced in an economy over a period of time,
usually a year.

Basic National Income Concepts

1. Gross Domestic Product (GDP)

Gross domestic product measures the total output in the domestic economy. It is
the total monetary value of all final goods and services produced within a country
during a specified period of time, usually a year. It includes all the output
produced by local and foreign-owned firms domiciled in the economy. Nominal
GDP, real GDP and potential GDP are three different measures of aggregate
output.

Nominal GDP is the market value of all final goods and services produced in the
domestic economy in a one-year period at current prices. By this definition,

(i) only output exchanged in a market is included ( do-it-yourself services such

as washing your own clothes are not included);

(ii) output is valued in its final form ( output is in its final form when no further
alteration is made to the good which would change its market value); and

(iii) output is measured using current year prices.

Because nominal GDP values are inflated by prices that change overtime,
aggregate output is also measured holding the prices of goods and services
constant over time. This valuation of GDP at constant prices is called real GDP.
The third measure of aggregate output is potential GDP (trend GDP), the
maximum production that can take place in the domestic economy without
putting upward pressure on the general price level.

2. Gross National Income (GDP)

GNP is the market value of all final goods and services produced by the nationals
of a country during a specified period of time usually a year. It follows from this
definition that all goods and services produced by the nationals of a country
(within or outside) are embodied in the GNP.

3. Net National Product (NNP)

NNP is the net money value of final goods and services produced in an economy
in a time period, usually a year. It is obtained by deducting capital consumption
allowance from GNP.

4. National Income (NI)

This is the sum of all incomes earned by the factors of production in the economy
during a specified period of time, usually a year. The national income measures
the costs of the economic resources which have gone into the current production
(of this year’s output), hence, it gives us the value of output at factor costs rather
than at market prices.

METHODS OF COMPUTING NATIONAL INCOME

There are three mutually exclusive methods of computing national income. They
are:

(i) The Product/Output method; (ii) The Income method; and (iii) The Expenditure
method. Which method is to be employed will depend on data availability and the
purpose in hand.

1. The Product/Output Method

Under this method, the value of all goods and services in a given economy during
a particular period (e.g. a year) are added or aggregated

The first stage in the aggregation process is to determine the value of goods and
services produced within the geographical boundaries of a country known as
Gross Domestic product at market prices (GDP). GDP is calculated by summing the
values added at intermediate levels of production or the monetary value of all
final goods and services in a particular accounting period within a country. Market
prices are used to convert real values of goods and service to their monetary
values.

The addition of the relevant monetary values of goods and services produced
during the accounting period gives GDP.

GDP measures the value of goods and services produced within the domestic
boundaries of a country e.g. Nigeria. It includes goods and services of foreign
owned firms that are located in Nigeria.

The second stage is to determine GDP at factor cost. Market prices are used to
convert real values into monetary values to arrive at GDP. These values are
distorted because of indirect taxes and subsidies and do not reflect the factor cost
of output. To adjust for these effects, indirect taxes are subtracted and subsidies
added to GDP to arrive at GDP factor cost.

GDP at factor cost = GDP – indirect taxes + subsidies

The third stage in using the product method is to calculate the gross national
product at factor prices (GNP). GNP measures the final monetary value of goods
and services produced by Nigerian owned factors of production whether they are
located in Nigerian or overseas. For example, Nigeria’s GDP will include the
services of Chevron, a foreign owned oil consortium. But some of the profit made
by Chevron in Nigeria will be sent to Belgium and will be part of Belgium’s GNP.
This is so because Chevron is owned by Oil consortium in Belgium. Therefore,

GNP = GDP± Net property income (NPI)

NPI is the net difference of interest, profits and dividends coming into Nigeria
from Nigerian assets owned overseas matched against the flow of profits and
other incomes from foreign owned assets located within Nigeria.

Finally, we calculate the net national product. When capital stock is used to
produce goods and services they wear and tear. To account for wear and tear
depreciation is provided for. When depreciation is subtracted from GNP, we
obtain net national product at (NNP), which is identical to national income.
2. The Income Method

This method values GDP as the sum of final incomes earned by factors of
production located in a country for the production of goods and services for a
defined accounting period.

The first stage under the income method is to determine and sum of factor
incomes. We account for only factor incomes generated through the production
of goods and services.

Some of these incomes are wages, salaries, commissions, etc. before taxes, social
security and pension deductions which accrue to labour; rent, royalties, etc.
which accrue to land; interest and dividends which are earned by capital and
profits of private and public businesses which accrue to enterprise.

We therefore, exclude from the accounts transfer payments e.g. state pension,
private transfer of money from one individual to another.

The summation of these relevant incomes before taxes and other deductions
gives gross domestic income at factor cost (GDYf).

The next stage is to calculate gross national income at factor cost (GNYf). This is
done by subtracting or adding net property income (NPI) to GDYf. That is GNYf
=GDYf ±NPI

Finally we determine the net national income. This is done by subtracting

depreciation from the GNYF , this is what is referred to as national income.

3. The Expenditure method

Under the expenditure method GDP is the sum of the final expenditure on goods
and services produced in a country measured at market prices. There are four
main spending sectors: Household consumption (C), Firms (l), Government (G)
and Foreign sector (X-M).

Symbolically, GDP = C+1+G+(X-M)

where: C = Household spending on consumption i.e. personal consumption
expenditure.

This is made up of expenditure by households on durable and non-durable goods

and services, for example, household expenditure on plantain, cars, shoes, etc

I = Capital investment spending measured as gross private domestic Investment,

i.e. business fixed investment e.g. plant and machinery, all construction such as
business and residential buildings and changes in inventory.

G = General government spending i.e. government purchases of final goods and

services.

They consist of central government expenditure on defence, wages and salaries of

government employees and other expenditure on and by local authority.
However, it excludes all government transfer payments because such outlays do
not reflect any current production.

(X-M) = Net exports: - these consist of exports of goods and services minus
imports of goods and services.

Having identified the spending sectors we now begin to sum them up. The first
stage is to calculate total spending in the domestic economy on all goods and
service whether produced locally or imported for an accounting period. This is
referred to as Total Domestic Expenditure at market prices (TDE). That is, TDE =
C+I+G.

The second stage is to compute gross domestic expenditure (GDE) which is

identical to GDP. GDE is total spending on domestically produced goods and
services. Since TDE is total spending in a country on goods and services whether
produced in the country or imported we need to adjust the TDE to arrive at GDE.
There two adjustments:

a. Exports are goods produced within the domestic economy but exported. If we
are interested in total value of output which is GDE we must determine the value
of current output exported and add it to TDE.
b. Imports, on the other hand, are goods and services we spent money on but are
not produced within the domestic economy and must be subtracted from TDE to
have GDE.

Symbolically, GDE = C+I+G+(X-M)

GDE is calculated using market prices hence it must be converted to factor cost.
This is done by subtracting indirect taxes and adding subsidies to GDE at market
prices.

From GDE at factor cost, we add or subtract net property income (NPI) to obtain
GNE at factor cost. That is GNE at factor cost = GDE at factor cost ± NPI.

Finally, we subtract depreciation from GNE at factor cost to get NNE at factor cost
which is referred to as national income.

PROBLEMS OF MEASURING NATIONAL INCOME

I. Multiple or double counting: this has to do with intermediate goods,

intermediate expenditure and transfer payment. There is the likelihood of
valuing, for example, cassava and gari, counting expenditure on materials
for making suit, as well as the suit and counting incomes earned not for
productive activities (transfer payments). If this happens, the value of total
output will be grossly exaggerated. This problem is avoided to a very large
degree by taking note of only the value added or final expenditure and
excluding transfer payments.
II. Marketability of goods:- National income is the money value of goods and
services produced in a given period. A problem arises in connection with
goods and services that are not exchanged through the market. This
problem is solved to some extent by including goods and services that do
not enter the market.

Conventionally, items that do not enter the market are included.

(a) Rent is imputed to owner occupied houses.

 (b) Value is also imputed to food produced and consumed on the farm.

(c) Housewives’ services are excluded but services of maid – servants and
washer-men are included.

III. Depreciation:- Capital stock wears and tears when used to produce goods
or to render services. We account for this as depreciation or capital
allowance. To arrive at NNP depreciation is subtracted from GNP. The
problem here is how to accurately estimate depreciation. If the value of
depreciation is over estimated or under estimated national will be
invariable affected.
IV. Inadequate statistical data:- One basic problem of estimating national
income is the lack of statistical data. This problem is more pronounced in
developing countries like Ghana and Nigeria. Individuals, business firms
and the government at times do not keep proper records of incomes,
output and expenditure. Government departments with the
responsibilities to collect and collate vital statistical data do not keep up-
to-date records.
V. Price Level Changes: National income is measured in terms of money
whose value changes from time to time. It is therefore, difficult to make a
stable valuation of national income. This problem is dealt with by
expressing national income estimates in real terms in constant prices.
VI. National income records legal incomes of goods and services: This means
illegal incomes are excluded. This may pose a practical problem to the
national income accountants since some illegal incomes may find their
way into the national income.

USE OF NATIONAL INCOME ESTIMATES

I. Indices of Economic Welfare: National income estimates particularly the

per capita income is a very useful indicator of economic welfare. Per capita
income in real terms gives a rough idea about the economic welfare of
people in a country.
II. Used for Economic planning: National income estimates are used to
determine the savings and investment potential rate of economic growth of
 a country. To plan for an increase in the national income, current levels of
national income must be known.
III. Helps policy makers to understand the economic structure of a country:
The product approach provides detailed information on the contributions
of the various sectors and sub-sectors of the economy. Data provided by
the expenditure approach gives an idea about the proportion of income
invested, consumed or transferred. Finally, data provided by the income
approach provides information on functional distribution of income, which
is useful for income tax policies.
IV. Used to approximate the potential demand: Per Capita Income data is
used to estimate demand for various commodities. This is a very useful
piece of information for potential investors. An investor will be interested
in per capita income because generally the higher the per capita income, all
other things being equal, the higher will be the demand for goods and
services.
V. National income estimates are used to determine the subscriptions of
nations to international bodies e.g. IMF, IBRD, UN, ECOWAS etc to which
they belong.
VI. National Income estimates are also useful as a basis for inter-temporal and
international comparison of living standards: These estimates make it
possible for comparison of standard of living of two or more countries. In
this respect, the per capita income in real terms is normally used. In
addition, the performance of an economy after a planned period can be
ascertained by comparing the size of the national income before the plan
with the national income after the implementation of the plan. This is
known as inter-temporal comparison. The national income statistics of
different countries can be compared. This type of comparison is called the
international comparison.