2.4 National Income Flashcards
2.4.1, 2.4.2, 2.4.3, 2.4.4 The circular flow of income, injections and withdrawals, equilibrium levels and the multiplier
Define national income
The total value of income paid by firms to households in return for the factors of production
Define gross domestic product (GDP)
The total value of goods and services produced in an economy
What are the methods of measuring GDP?
- Expenditure method
- Income method
- Output method
All three of these methods can be used as all three value should be equal
National expenditure = national income = national output
What is the expenditure method?
Adding up the total expenditure (components of AD) on an economy’s goods and services (in a year)
What is the income method (to calculate GDP)?
Adding up all the factor incomes earned in the economy (in a year)
What is the output method (to calculate GDP)?
Adding up the final value of all goods and services (in the main economic sectors) produced in the economy (in a year)
What is the circular flow of income (CFI)?
A model of the economy which shows the movement of spending and income throughout, illustrating the connection between output, expenditure and income and showing how national income/GDP is calculated
Stages of the CFI diagram (4)
- Supply of capital, enterprise, land and labour (households to firms): firms use these factors of production to produce output
- National Income (Y - firms to households): compensation in the form of interest, profit, rent and wages
- Consumer expenditure (households to firms): incomes are spent to buy goods and services
- Output of goods and services (firms to households): revenue received from selling existing output can be used to increase output by buying more resources, etc.
What are injections (J)?
Additions to the CFI in the forms of investment (I), government spending (G) and exports (X) which boost the CFI
What are leakages/withdrawals (W)?
Removals from the CFI in the form of savings (S), taxation (T) and imports (M)
What happens if injections are greater than withdrawals?
(I + G + X) > (S + T + M): more money entering than leaving the CFI
1. There is an increase in the flow of money due to more factors of production being used, therefore more incomes being paid in return
2. More spending takes place, as households now have higher disposable incomes, increasing AD and causing more output to be required
3. Resulting in an increase in the level of national income (positive economic growth)
What happens if withdrawals are greater than injections?
(S + T + M) > (I + G + X): more money exiting than entering the CFI
1. There is a decrease in the flow of money due to less factors of production being used, therefore fewer incomes have to be paid in return
2. Less spending takes place, as households have less disposable income, decreasing AD and causing less output to be required
3. Resulting in a fall in the level of national income (recession)
What happens in injections are equal to withdrawals?
(I + G + X) = (S + T + M): the economy is in macroeconomic equilibrium
Economic growth does not change
What is the multiplier?
The ratio of the final change in income to the initial change in injection
Simple multiplier formula
K = 1/MPS
or
K = 1/(1-MPC)
