Coursework

Relationship between GDP and GNP

1. The difference in value in value between GDP and GNP is due to the net factor income
from abroad. The net factor income from abroad is calculated by subtracting the factor
income paid abroad from the factor income received from abroad.
Net factor income from abroad = Factor income received from abroad factor income paid abroad
2. Factor income paid abroad is the payment made to foregin citizens for the use of factors of
production owned by foreign citizens within the nation.
3. Factor income received from abroad is the income received by citizens of the nation for the
use of factors of production owned by the nation that are located abroad.
4. Net factor income from abroad will be included in the calculation of GDP.
5. Therefore, the relationship between GDP and GNP can be shown as:
GDP = GNP net factor income from abroad
And, GNP = GDP + net factor income from abroad
6.The relationship between GDPmp, GNPfc can be shown as:
GDPmp = GNPfc net factor income from abroad + indirect taxes sudsidies
And GNPfc = GDPmp + net factor income from abroad + subsides indirect taxes

7. The relationship between GDP, and GDPmp can be shown as :

GDPmp = GNPfc net factor income from abroad + subsidies
indirect text
And GNPmp = GNPfc + net factor income from abroad + indirect taxes subsidies

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 and foreign residents
of a country on final goods and services within the period of one year.
(b) Output (added value) method
The product (added value) method is a measure of the value of the country's total production within
the period of one year. The added value will cause an increase 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 in 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 national income, because

National expenditure = National product = National income

Expenditure (Final Value) Method

1. Using the expenditure method, national income can be calculated from the total of all
expenditures on final goods and services within a year.
2. It is important to calculate national income through the sum of expenditure on final goods only,
to avoid the problem of double counting.
3. An economy will produce intermediate goods and final goods. Intermediate goods 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 value of final goods
must not include the value of intermediate goods.
5. In the calculation of national income using the expenditure method, expenditure is made by the
following sectors:

(a) Expenditure by the household sector for final goods and services. This expenditure is known as
personal or private consumption expenditure (C).
(b) Expenditure by firms and governments to purchase capital for use in productionThis expenditure
is known as investment expenditure (I).
(c) Expenditure by the government sector for final goods and services. This expenditure is known as
government or public expenditure (G).
(d) Expenditure made by residents of a country for goods and services produced by 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 is know n as export expenditure (X). Net export is
the net difference between export 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, and overseas
sectors w ill result in gross domestic product at market price (GDPmp).

GDPmp = Household consumption expenditure (C) + Investment expenditure (I) + Government

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 from the GDP.
8. Changes in inventory must be taken into account because inventories are stocks ot unsold goods
that are included in the value of total production for the year.
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 must be subtracted from the GDP.
10. The GDP at factor cost (GDPfc) is calculated by subtracting indirect taxes and 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 the 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 method.
2. Added value is the increased value of a product after undergoing the production 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 double counting. In the
production process, each sector will use intermediate goods produced by other sectors. Therefore,
during the calculation of national production, 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 final goods and
services produced by all sectors of an economy within one year, or the total added value of products
produced at every stage of the production process within one year. Table 3.2 depicts the calculation
of added value within the 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 added value of
RM6000 (RM16 000 - RM10 000). Finally, timber is processed into furniture, 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 equal 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 the 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 counting in the calculation of national product (national income).
11. Using the product method, economic sectors are divided into the following three 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 services.

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 and adding subsidies
to the GDPmp.
GNPfc = GDPmp+ Subsidies - Indirect taxes
14. The gross national product (GNP) is calculated by differentiating the products produced by
factors of production owned by citizens of the country that are located abroad from the products
produced by factors of production owned by foreign citizens that are located within this country.
Therefore,

GNPfc = GNPmp + Factor income from abroad - Factor income paid abroad
15. The net national product at factor cost (NNPfc) or national income is generated when
depreciation is subtracted from the GNPfc. NNPfc = GNPfc - Depreciation
16. An example of calculation of national income through the product method is shown 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 government 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 goods such as
houses and cars (not for purposes of investment).
6. Interest on government loans is charged to governments that borrow money to finance 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 transfer payments are pensions to
retirees, scholarships for students, and unemployment allowances.
8. An example of calculation of national income using the income method is depicted in Table 3.4