Explain how national income is estimated/methods used to compute national income and indicate three problems of each method.

(i) Income approach. Here nation income is obtained by adding up all incomes received by factors of production in a given period of time, usually a year . Such incomes include rent, salaries, wages, interest and profits.

Problems faced in using the income approach measure.

• Double counting. this means including some commodities more than once e.g. counting inventories (inputs and unfinished goods) several times at different stages
• Inadequate information. E.g. on private expenditure and income, wages in the private sector.
• Transfer payment like gifts are difficult to determine. In most cases it is not clear whether such payment are for free or for work done.
• Shortage of qualified and motivated manpower to compile data

(ii) The expenditure approach.

Here we add up expenditures  on all final goods and services by all spending units of economy in a given time (year). Such expenditures include consumption, investment, government expenditure and net exports.

Problems faced I using expenditure approach

• Government utilities like roads, security etc. are usually subsidized and thus it is difficult to determine their actual value.
• Net exports and income earned from abroad are not easy to determine. For example foreign exchange from smuggled output is unknown; some income earned abroad is not declared and therefore not recorded.
• There is insufficient funds and facilities to compile data
• Illegal activities e.g. prostitution, gambling, smuggling generate income which is difficult to measure.
• The effect of inflation is difficult to adjust and is likely to be misinterpreted to mean increase in output.

(iii) The product (output) approach.

It involves adding up up money value of final goods and services from all productive activities of an economy in a given time (year)

Or

it involves adding up the value added at each stage of production for all production units in an economy in a given time (usually a year)

Problems faced in using product (output) approach.

• Non-monetary output; commodities which are not taken to market are difficult to give value e.g. subsistence output, work done by house wives, leisure foregone when work is done, houses built by owners.
• It is difficult to determine when output was produced e.g. perennial crops.
• The effect of inflation is difficult to adjust and is likely to be misinterpreted as increase in output.
• There are difficulties of determining what to include and what to exclude (subsistence output)and determine methods of valuing different items.
• Possibility of double counting