Macroeconomics

Measurement
Part 2: Measurement of National
Income
EXPENDITURE METHOD
 The economy is divided into four major sectors: household,
government, business and foreign. GDP at MP is the sum
of total final expenditures made by above sectors in a year.
Here final expenditure means expenditure on final product
which can be either consumer or capital goods.
Components are:
 Personal consumption expenditure (C): It consists of
expenditures on durable, non-durable consumer goods and
services eg: food, clothing, appliances, automobiles etc.
 Government expenditure (G): Purchase made by all levels
of government on items like security, administration,
infrastructure development etc. However, transfer payment
expenditure is omitted.
Items in Expenditure Method
 Gross Private Domestic Investment (I): It includes total
investment spending by business firms. Here investment
means additions to or replacement of physical productive
asses. Eg: purchase of newly produced capital goods,
change in business inventories.
 Net exports (NX): Net exports equals to total exports less
total imports. Subtract the expenditure on imported goods
and services as the measurement is only on the value of
domestic output.
 Net Indirect Taxes: In this method, indirect taxes cause the
expenditure side of the GDP to be greater than the income
side and subsides causes expenditure side to be lower
than income side. So, here indirect taxes are deducted
and subsidies are added to get GDP at factor cost.
Components
 Net factor income from abroad: It is equal to income
received by citizens of a country from abroad less
income paid to the foreigners. It is added to GDP to get
GNP.
 Depreciation: It is the wear and tear of fixed assets and
machineries and also called capital consumption.

While computing GDP, it is assume that anything produced

but not sold to consumers is “brought” by the firm that
produced it. Eg: if a car is produced by not sold, it goes
into business inventory and is considered “purchased” by
the automaker firm that produced it.
Certain Components Exclusions in
Expenditure Method
 Expenditures on previously produced goods.
 Expenditure on the purchase of used assets.
 Purchase of financial assets as there is no production of goods or
services corresponding to expenditures fore mere pieces of paper.
 Transfer payment i.e. expenditures by the government for which the
government does not receive a good or service in exchange.
 Expenditure on intermediate goods such as fertilizers, seeds by
farmers to avoid double counting purpose.
Tables for Expenditure Method

Items Amount
GDP at MP -
Personal Consumption Expenditure (C) (+)
Gross Private Domestic Investment (I) (+) -
Government Expenditure (G) (+) -
Net Export (Import – Export) (+) -
GNP at MP -
GDP at MP -
NFIA (+) -
NNP at MP -
GNP at MP -
Depreciation (-) -
NNP at FC -
NNP at MP -
Net indirect taxes (-) -
NI = NNP at FC -
The Circular Flow of total purchase
and total income
 Comparison on All Three
Measurement
Expenditure Approach Income Approach Production Approach
Compensation of Employees
(Wages & Salaries) + Employers Gross Value Added in the
Contribution to Social Security + Primary, Secondary and Teritary
Private Consumption Expenditure Other Frige Benefits) Sector at Market Price (+)

Operating Surplus of Firms (Rent +

Gross Domestic Capital Formation (+) Interest + Profit) (+) GDP at Market Price
Government Final Consumption Expenditure
(+) Mixed Income of Self-employed (+) Depreciation (-)

Net Export (=Export – Import) (+) Net Factor Income from Abroad (+) NDP at Market Price
Inventory Investment (=Change in Stocks of
Producers) (+)
GDP at Market Price NNP at Factor Cost Net Indirect Taxes (-)
Depreciation   NDP at Factor Cost
Net Factor Incoem from Abroad
NDP at Market Price   (+)
NNP at Factor Cost or National
Net Indirect Taxex (-)   Income
NDP at Factor Cost    
Net Factor Income From Abroad (+)    
NNP at Factor Cost or National Income    

The National Income Accounting Identity states that the sum of all spending must equal the
sum of all incomes which should again equal to the total value added/total output.
National expenditure = National income = National product
Other Items
 Personal Income: It is the amount of income that
individuals actually receive. It is equal to national income
minus major earned-but-not-received items as
undistributed corporate profits, social insurance taxes
(social security contributions), and corporate profits
taxes, plus transfer payments (which are received but
not earned).
 Disposable Income: Income that is used for consumption
or saving. It is equal to personal income minus personal
taxes (especially income taxes).
Difficulties in Measurement of
National Income
 Double Counting
 Calculation of Depreciation
 Change in value of money (or price level)
 Illegal income
 Non-availability of reliable data
 Choice of method
 Non-market activities
 Inclusion of services
 Unreported income
 Intermediate goods
Difficulties of Measuring National
Income in Developing Countries
 Large non-monetized sector
 Illiteracy
 Backward people
 Lack of occupational specialization
 Not sufficient trained manpower
Real GDP
 GDP at Constant Prices indicates economic growth to
measure the performance of the economy over time or in
comparison with other countries/in comparison with
previous periods. It is also known as real GDP. Here,
constant prices adjust for the effect of inflation and also
called GDP at Constant price.
 The market value of goods and services produced in a
country during a year. It is also known as nominal GDP.
Here current price make no adjustment for inflation and
also called GDP at Current price.
Real GDP
 Real GDP rises only if output is rises not the price of the
output is rises.
Quantity
Produced of
Price of Good X
Year Good X (units) GDP Real GDP
1 (base
year) 10 100 10 x 100 = 1000 10 x 100 = 1000

2 12 120 12 x 120 = 1440 12 x 100 = 1200

3 14 140 14 x 140 = 1960 14 x 100 = 1400

 Real GDP is the sum of all the current year quantities times
their base-year prices.
Economic Growth
Business Cycle
 Peak: At the peak of the business cycle, real GDP is at a
temporary high.
 Contraction: It represents a decline in real GDP.
 Trough: The low point in real GDP, just before it begins
to turn up, is called the trough of the business cycle.
 Recovery: Is the period when real GDP is rising. It
begins at the trough and ends at the initial peak.
 Expansion: This phase refers to increases in real GDP
beyond the recovery.
Business Cycle
Assignment

 Review the Article given in the following link:

http://republica.nagariknetwork.com/news/42019/

 If GDP is NRs. 400 billion and the country’s

population is 100 million, does it follow that
each individual in the country has NRs.
40,000 worth of goods and services?