Three routes to the same total: income, expenditure and output

Overview

GDP at market prices and GDP at basic prices and why the identity between income.

What you need to know

Answer each one before you reveal it.

Questions from this subtopic

Each one with the model answer underneath.

1. 1

   Why should the income, expenditure and output measures of national income give the same figure?

   Model answer

   They measure the same circular flow at three different points. The value of what is produced is paid out in full as factor incomes, so output equals income; those incomes are then used to buy the output, so income equals expenditure. Because it is one flow counted three times, the three totals are identical by construction rather than by coincidence.

2. 2

   List the items summed under the income method of measuring national income.

   Model answer

   The income method adds the incomes earned by the factors of production from producing output: wages and salaries paid to labour, rent from land and property, interest on capital, and the profits of companies and the self-employed. Only incomes earned from producing goods and services are included.

3. 3

   Why are transfer payments such as state pensions and unemployment benefits excluded from the income measure of national income?

   Model answer

   They are not payments for any contribution to output; they simply move purchasing power from one group of people to another. Counting them would inflate the total without any goods or services having been produced, and would also double-count, because the money was already recorded as income when the taxpayer earned it.

4. 4

   Write down the expenditure method of calculating GDP and explain why imports are subtracted.

   Model answer

   GDP by expenditure is consumption plus investment plus government spending on goods and services plus exports minus imports, or C + I + G + (X - M). Imports are subtracted because the consumption, investment, government spending and export figures all include some spending on foreign-produced goods. Since the aim is to measure domestic production only, the value of imports has to be taken out again.

5. 5

   An economy records consumption of 1,540 billion pounds, investment of 380 billion pounds, government spending of 520 billion pounds, exports of 720 billion pounds and imports of 790 billion pounds. Calculate GDP by the expenditure method.

   Model answer

   GDP = C + I + G + (X - M) = 1,540 + 380 + 520 + (720 - 790). Net exports are 720 - 790 = -70 billion pounds. So GDP = 1,540 + 380 + 520 - 70 = 2,370 billion pounds.

6. 6

   An economy pays out wages and salaries of 1,350 billion pounds, rent of 120 billion pounds, interest of 180 billion pounds and profits of 720 billion pounds, and its expenditure measure of GDP comes to 2,370 billion pounds. Calculate GDP by the income method and comment on the result.

   Model answer

   GDP by income = 1,350 + 120 + 180 + 720 = 2,370 billion pounds. This is the same figure as the expenditure calculation, which is what the identity between income, expenditure and output requires. Agreement between the two routes is a check that nothing has been omitted or double-counted.

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