Question 2 There are generally three methods used to calculate national income: (a) Expenditure (final value) method

The expenditure (final value) method is a measure of the expenditure of local an d foreign residents of a country on final goods and services within the period o f one year. (b) Output (added value) method The product (added value) method is a measure of the value of the country's tota l production within the period of one year. The added value will cause an increa se in the price of goods after going through the production process. (c) Income (factor cost) method The income (factor cost) method is a measure of the total factor income paid to various factors of production such as labour, capital, entrepreneurs, and land i n the production of the country's products. This method also measures the total income generated by each sector in the economy within the period of one year. Theoretically, all of the three methods will result in the same value of nationa l income, because National expenditure = National product = National income Expenditure (Final Value) Method 1. Using the expenditure method, national income can be calculated from the tota l of all expenditures on final goods and services within a year. 2. It is important to calculate national income through the sum of expenditure o n final goods only, to avoid the problem of double counting. 3. An economy will produce intermediate goods and final goods. Intermediate good s are goods that must be processed further before use by consumers. Examples of intermediate goods are cocoa seeds, lumber, palm oil, and iron ore. Final goods are goods that can be immediately used by consumers without having to be further processes, such as chocolate, furniture, cooking oil, and clothes. 4. In the calculation of national income through the expenditure method, the val ue of final goods must not include the value of intermediate goods. 5. In the calculation of national income using the expenditure method, expenditu re is made by the following sectors: (a) Expenditure by the household sector for final goods and services. This expen diture is known as personal or private consumption expenditure (C). (b) Expenditure by firms and governments to purchase capital for use in producti o This expenditure is known as investment expenditure (I). (c) Expenditure by the government sector for final goods and services. This expe nditure is known as government or public expenditure (G). (d) Expenditure made by residents of a country for goods and services produced b y other countries. This expenditure is known as import expenditure (M). However, the sale of goods and services produced by residents of one country to abroad i s know n as export expenditure (X). Net export is the net difference between exp ort expenditure and import expenditure. Net experts = Exports - Imports Or Net exports = X - M 6. The sum of all types of expenditure made by households, governments, firms, a nd overseas sectors w ill result in gross domestic product at market price (GDPm p). GDPmp = Household consumption expenditure (C) + Investment expenditure (I) + Gov ernment expenditure (G) + Net exports (X - M) + Changes in inventory

7. Exports cause the inflow of money, while imports cause the outflow of money. Therefore, exports must be added to the GDP while imports must be subtracted fro m the GDP. 8. Changes in inventory must be taken into account because inventories are stock s ot unsold goods that are included in the value of total production for the yea r. 9. If the value of change in inventory is positive, this value must be added to the GDP. However, if the value of change in inventory is negative, this value mu st be subtracted from the GDP. 10. The GDP at factor cost (GDPfc) is calculated by subtracting indirect taxes a nd adding subsidies to the GDPmp. GDPfc = GDPmp Subsidies - Indirect taxes 11. The gross national product at factor cost (GDPfc) is obtained by adding the factor income from abroad and subtracting the factor income spent abroad from th e GDPfc. GDPfc = GDPfc + Factor income from abroad - Factor income spent abroad 12. The net national product at factor cost (NNPfc) is calculated by subtracting depreciation from the GNPfc. NNPfc = GNPfc - Depreciation 13. An example of calculation of national income through the expenditure method is depicted in Table 3.1

Product (Added Value) Method 1. Using the product method, national product is calculated from the total value of final products created by each sector in the economy using the added value m ethod. 2. Added value is the increased value of a product after undergoing the producti on process in an economic activity, for example, in the production of furniture. 3. This calculation only involves the value of the final products, to avoid doub le counting. In the production process, each sector will use intermediate goods produced by other sectors. Therefore, during the calculation of national product ion, the value of intermediate goods used in the production process is excluded. 4. Therefore, using the product method, national product is the total value of f inal goods and services produced by all sectors of an economy within one year, o r the total added value of products produced at every stage of the production pr ocess within one year. Table 3.2 depicts the calculation of added value within t he production process of furniture.

5. In a logging activity, the value of logs is equal to the total factor income paid to factors of production to produce the logs, i.e. RM8000. 6. When logs are processed into sawn logs, many other factors of production must be used. The total payment to these factors of production is RM2000 (RM10 000 RM8000). This means that the added value to produce sawn logs is RM12000. 7. Sawn logs will then be processed into timber. This process will create an ad ded value of RM6000 (RM16 000 - RM10 000). Finally, timber is processed into fur niture, which is a final good to be used by consumers. This process also creates an added x alue of RM600 (RM22 000 - RM 16 000).

8. The total added value is equal to the value of the final good (furniture), i. e. RM22 000. 9. The total added value for all goods and services produced in an economy is eq ual to the total value of final goods in the economy. 10. If the added value method is not used in the calculation of national income using the product method, the value of intermediate goods will be included in th e calculation of the value of final goods, thus causing the national product to be overvalued. Therefore, the added value method is used to prevent double count ing in the calculation of national product (national income). 11. Using the product method, economic sectors are divided into the following th ree main sectors: (a) Agriculture and mining sector; covering agriculture, forestry, fishery, and farming, as well as mining and quarrying. (b) Industrial sector covering factories, construction, and utility supply such electricity, gas, and water. (c) Services sector; covering transportation, communication, trading, hotel and restaurant, financial insurance, property, government services, and other servic es. 12. The total value of final goods and services created by the economic sectors is equal to the gross domestic product at market price (GDPmp). 13. The GDP at factor cost (GDPfc) is calculated by subtracting indirect taxes a nd adding subsidies to the GDPmp. GNPfc = GDPmp+ Subsidies - Indirect taxes 14. The gross national product (GNP) is calculated by differentiating the produc ts produced by factors of production owned by citizens of the country that are l ocated abroad from the products produced by factors of production owned by forei gn citizens that are located within this country. Therefore, GNPfc = GNPmp + Factor income from abroad - Factor income paid a broad 15. The net national product at factor cost (NNPfc) or national income is genera ted when depreciation is subtracted from the GNPfc. NNPfc = GNPfc - Depreciation 16. An example of calculation of national income through the product method is s hown in Table 3.3

Income (Factor Cost) Method 1. Using the income method, the income of factors of production consists of: (a) Rent (from land ) (b) Wages and salaries (from labour) (c) Interest (from capital) (d) Profit (from entrepreneurs). 2. In the calculation of national income using the income method, the income of factors of production consists of: (a) Wages and salaries (b) Net interest (Gross interest - Interest on consumer loans - Interest on gove rnment loans) (c) Rent (d) Private corporate income (e) Corporate profit. 3. National income is generated from the total income of factors of production. 4. Interest from consumer and government loans must be subtracted from national income, because both these forms of interest are not considered to be income for capital used for national production. 5. Interest on consumer loans is charged on consumer loans for the purchase of g

oods such as houses and cars (not for purposes of investment). 6. Interest on government loans is charged to governments that borrow money to f inance national expenditure, such as expenditure on defence and security. 7. Income from transfer payments is not included in the calculation of national income because this income is not income from productive factors. Examples of tr ansfer payments are pensions to retirees, scholarships for students, and unemplo yment allowances. 8. An example of calculation of national income using the income method is depic ted in Table 3.4.