CIRCULAR FLOW OF INCOME & EXPENDITURE:
The circular flow of income and expenditure is the integrated flow of goods & services and resources among the different sectors of the economy. This helps to understand how an economy works in reality. To show a circular flow of income and expenditure, the economy is divided into four sectors: household sectors, business sector, government sector, and the foreign sector. Here, all these sectors are combined together to explain the circular flow of income and expenditure, it is further divided into the following three models:NATIONAL INCOME
National Income refers to the sum of income earned by all individuals of a nation in a particular period of time. In other words, it is the total income of the nation in a particular period of time. National Income data reveal the total economic performance of the economy as a whole. National Income tells us about the health of an economy. National Income represents receipts total, expenditure total and the value of production. Since one man's income is another man's expenditure and each commodity is bought and sold at its market price, national Income, national expenditure, and national product are equal.
Every nation's economy produces goods and services. The sum of market value of all goods and services produced by the economy of a nation in a year is called national income. Since the national income is the sum of income earned by all individuals of a country in a year, the following equation can be used to make clear about national income:
NI= Y1+Y2+Y3+...+Yn
Where,
Y= individual income
NI= National Income
n= No. Of individualsThere are various concepts that are associated with the study of National Income, some of the important concepts of national income are described below:
1. GROSS DOMESTIC PRODUCT (GDP)
The market value of all final goods and services produced within a country in a year is called gross domestic product. In order to calculate the value of a gross domestic product, all goods and services produced are multiplied by their respective prices and summed up. It is calculated by the formula below:GDP= P1Q1 + P2Q2 + ... + PnQn
Where,
P= Market price of final goods and services
Q= Quantity of goods and services
n= final number of goods and services
GDP includes only final goods and services. It doesn't include intermediate goods and services while calculation of GDP.
Final goods and services are those goods which are produced for final use. It is added to the GDP calculation process.
Intermediate goods and services are those goods which will be used as a part of any other products. It is excluded from GDP since it is not a final product.
Capital goods and services are those goods which will be used to produce other goods and services. It is counted on GDP because it is not sold as a part of any other products.
GDP at Market Price
GDP measured actual market price which either the customer or producers pay for the purchase of goods and services whether for consumption or investment is called GDP at Market Price. Additionally, it is the market value of all final goods and services produced in a year.GDP at MP (GDPMP)= P1Q1 + P2Q2 + ... + PnQn
Where,
MP= Market price
P= Market price of final goods and services
Q= Quantity of goods and services
n= final number of goods and services
GDP at Factor Cost
GDP measured as the sum of price paid to all factors of production in form of wages, profits, interest and rent for their contribution in production is known as GDP at factor cost. Net indirect taxes is deducted from GDP at market price to calculate GDP at factor cost.
GDP at FC = GDP at MP - Net indirect taxes
Where,
FC= Factor Cost
MP= Market price
Net indirect taxes= Indirect taxes-Subsidies
2. NET DOMESTIC PRODUCT (NDP)
The output obtained after deduction of depreciation from a gross domestic product is called Net Domestic Product. The decrease in value of fixed assets due to wear and tear is known as depreciation. It is calculated by using the following formula:
NDP = GDP - Depreciation
NDP at FC = NDP at MP - Net indirect taxes
3. GROSS NATIONAL PRODUCT (GNP)
GNP = GDP + Net factor income from abroad
4. NET NATIONAL PRODUCT (NNP)
Gross national product minus depreciation is called net national product. In other words, the Net national product is the market value of all final goods and services after allowing for depreciation. It is also called national income at market price. While producing goods and services, the machinery and other fixed capitals wear and tear. By deducting the value of depreciation from the value of a gross national product in a year, we get the value of a net national product. It is calculated by using the formula below:
NNP = GNP - Depreciation (also NNP at MP).
5. NATIONAL INCOME (NI)
National income is the total sum of earning of all factors of production in the form of wages, profits, rent and interest plus net factor income from abroad. In other words, national income means the sum of all incomes earned by domestically owned factors of production for their contribution in the production of goods and services.
Calculation Of National Income by Income method
NDP at FC = Wages + Rent + Interest + Profits
NNP at FC = NDP at FC + Net factor income from abroad
NI = NNP at FC
Where,
NI = National Income
Calculation of National Income by Product Method
GDP at MP = P1Q1 + P2Q2 + ... + PnQn
GNP at MP = GDP at MP + Net factor income from abroad
NNP at MP = GNP at MP - Depreciation
NNP at FC = NNP at MP - Net indirect taxes
NI = NNP at FC
6. PERSONAL INCOME (PI)
The total income received by all individuals and households of a country from all possible sources before payment of direct taxes during a year is called personal income. In other words, it is the sum of all incomes actually received by individuals and households of a country during a year. It is never equal to the national income because the factors of production do not get all part of the income they earned.
PI = NI - Undistributed corporate profit - Corporate income tax - Social security contribution + Transfer payments
7. DISPOSABLE INCOME (DI)
The total income received by all individuals and households of a country from all possible sources after payment of direct taxes is called disposable income. It is equal to personal income minus direct taxes. It is also known as personal disposable income. It is calculated by the following equation:
DI= PI - Direct taxes
8. PER CAPITA INCOME (PCI)
The average income of the people of a country in a particular year is called per capita income. It is expressed at the current prices. In order to find the per capita income, national income of a country in a particular year is divided by population of the country in that year.
PCI of 20XX= National Income Of Year 20XX / No of Population 20XX
