Question

Explain the income method of measuring national income.

Answer 1

The income method measures national income by adding up all the incomes earned by factors of production (land, labour, capital, and entrepreneurship) for their contribution to the production of goods and services within the domestic territory of a country during a year.

1. Factor Incomes Included:

• Compensation of Employees (Wages & Salaries): Incomes of workers in cash and kind, including employer’s contributions to social security.
• Operating Surplus: Includes rent, interest, and profits earned by property owners and entrepreneurs.
• Mixed Income of Self-employed: In UDCs and informal sectors, many people are self-employed (e.g., farmers, shopkeepers, small businesses) where it is difficult to separate wages, rent, interest, and profit. This is termed mixed income.

2. Exclusions: While using this method, we do not include:

• Transfer payments (pensions, scholarships, gifts).
• Income from sale of second-hand goods.
• Windfall gains (lotteries, gambling).
• Illegal incomes.

3. Steps of Calculation

• Identify producing enterprises and classify factor payments.
• Add all factor incomes: NI = Compensation of Employees + Operating Surplus + Mixed Income of Self-employed 
  This gives NDP at factor cost.
  • Adjustments: Add Net Factor Income from Abroad (NFIA) to convert Domestic → National.
  • Add Depreciation if Gross is required.

4. Formula: National Income = Labour Income + Capital Income + Mixed Income + Net Factor Income from Abroad