Question

Consider the following claim: “If a business has negative profits during the year, its contribution to value added in the national income accounts is also negative." If you agree with this claim, explain why and provide a numerical example that illustrates your argument. If you disagree with the claim, explain why and provide a numerical counter example.

Answer 1

If a business has negative profits (losses) during the year, its contribution to the value added in the national income is also negative is non-agreeable.

Income Perspective of the business

Consider a food joint working hard with a number of workers to produce the food to be delivered all day long. But due to some mishappening at his place, he has to close the shop. The food gets wasted, although the owner has already paid the wages to his employees and also for the raw materials for making that food.

Now since the food gets wasted, the owner does not earn any revenue. The profits are thus reduced by the amount of wages and price of raw materials paid. Numerically,

Particulars	Cost/Price
Raw Materials	$50
Wages	$100
Price of food	$20
Quantity Produced/Wasted	10

Revenue otherwise earned = Price * Quantity = 20 * 10 = $200

Costs = Raw material + Wages = 50 + 100 = $150

Profits = Revenue Earned by selling the food - Costs of producing the food

Profits = 0 - 150

Profits = -$150

Expenditure Side of the story

Here, the expenditure in the economy also remian same since no amount has been spent on purchasing the food.

Hence, there is no increase in total income, i.e. national income remains unaffected because the transaction has not affected wither the income or the expenditure side of calculating the National Income. The cost of production is reflected in negative profits for the business.

Total output + wages = Total output - profits