2.1.3 Methods/approaches to measuring national income
Measuring national income is essential for understanding the economic performance of a country. There are three primary methods or approaches used to calculate national income:
- Production Approach (Gross Domestic Product – GDP): The production approach, also known as GDP approach, calculates national income by adding up the total value of all goods and services produced within a country’s borders during a specific time period, usually a year. It measures the value-added at each stage of production and includes only the final value of goods and services to avoid double-counting.
The formula for calculating GDP using the production approach is:
GDP = C + I + G + (X – M)
Where: C = Private Consumption Expenditure I = Gross Private Domestic Investment (Business investment in machinery, buildings, etc.) G = Government Spending X = Exports of Goods and Services M = Imports of Goods and Services
- Income Approach (Gross National Income – GNI): The income approach, also known as GNI approach, calculates national income by summing up all the incomes earned by individuals and entities within a country’s borders over a specific period. It includes wages and salaries, rents, interest, profits, and other forms of income.
The formula for calculating GNI using the income approach is:
GNI = Employee Compensation + Rent + Interest + Profit + Taxes – Subsidies + Net Foreign Factor Income
Where: Employee Compensation = Wages and Salaries Rent = Income from Land and Property Interest = Income from Capital and Savings Profit = Income from Business Activities Taxes – Subsidies = Net Taxes on Production and Imports Net Foreign Factor Income = Income earned from abroad minus income paid to foreigners
- Expenditure Approach: The expenditure approach calculates national income by summing up all the expenditures made on goods and services within a country during a specific time period. It considers consumption expenditure by households, investment expenditure by businesses, government spending, and net exports (exports minus imports).
The formula for calculating national income using the expenditure approach is the same as the GDP formula:
GDP = C + I + G + (X – M)
Where: C = Private Consumption Expenditure I = Gross Private Domestic Investment G = Government Spending X = Exports of Goods and Services M = Imports of Goods and Services