Question

Discuss in detail how national economic performance can be measured using GDP’s income approach.

Answer 1

This approach calculates National Income, NI. NI is the sum of the following components:

Labor Income (W)
Rental Income (R)
Interest Income (i)
Profits (PR)

NI = W + R + i + PR

Labor Income (W):
Salaries, wages, and fringe benefits such as health or retirement. This also includes unemployment insurance and government taxes for Social Security.

Rental Income (R):
This is income received from property received by households. Royalties from patents, copyrights and assets as well as imputed rent are included.

Interest Income (i):
Income received by households through the lending of their money to corporations and business firms. Government and household interest payments are not included in the national income.

Profits (PR):
The amount firms have left after paying their rent, interest on debt, and employee compensation. GDP calculation involves accounting profit and not economic profit.

The income approach to measuring gross domestic product (GDP) is based on the accounting reality that all expenditures in an economy should equal the total income generated by the production of all economic goods and services. It also assumes that there are four major factors of production in an economy and that all revenues must go to one of these four sources. Therefore, by adding all of the sources of income together, a quick estimate can be made of the total productive value of economic activity over a period. Adjustments must then be made for taxes, depreciation, and foreign factor payments.