A key indicator of national income
Part 1. real goods, employment, and business management indicator
A key indicator of national income
GDP (Gross Domestic Product) and various national income indicators in the context of a country’s economic activities. It highlights that while GDP primarily focuses on economic activities within a country, national income indicators, such as GNI (Gross National Income), NDI (Net Disposable Income), and others, provide a broader perspective on the income of a country’s residents.
The key points are as follows:
GDP (Gross Domestic Product) is an economic indicator that primarily focuses on the value of all goods and services produced within a country.
National income represents the income earned by a country’s residents (residents). Various indicators are used to measure national income, and they consider different aspects of income distribution.
The difference between GDP and national income indicators lies in their inclusiveness or exclusiveness of specific types of income. National income indicators provide a more comprehensive view of the income received by a country’s residents compared to GDP.
The text mentions five widely used national income indicators, including Gross National Income (GNI), Net Disposable Income (NDI), Gross National Income (GNI), National Income, Net Disposable Income (NDI), and Disposable Household Income (NDI). These indicators each focus on specific aspects of national income and play essential roles in economic and social analysis.
These indicators are crucial for evaluating a country’s economic well-being, assessing the quality of life of its residents, and analyzing income distribution within the population.
Gross National Income(GNI)
First, let’s discuss Gross National Income (GNI) in English. GNI represents the total income earned by the residents (nationals) of a country over a specific period, which includes wages, interest, dividends, and other forms of income. In our interconnected world, not only goods and services but also factors of production like labor and capital are actively exchanged between nations. For instance, businesses in our country may employ foreign workers for production, and conversely, our nationals may engage in productive activities in other countries. Taking into account the movement of factors of production across nations, GNI is calculated based on the concept of “residency,” which means it measures income with our country’s nationals as the reference point.
Therefore, GNI is derived by adding the income earned by our country’s nationals (residents) from abroad to GDP and subtracting the income earned by foreign nationals (non-residents) within our country. In other words, GNI can be calculated as follows:
GNI = GDP + Income Earned by Residents Abroad – Income Earned by Non-Residents in the Country
This calculation accounts for the income earned by our country’s residents in foreign countries and subtracts the income earned by foreigners within our country, resulting in the Gross National Income.
As mentioned earlier, nominal GNI is calculated by adding nominal net income earned from abroad to nominal GDP. Similarly, real GNI, which reflects purchasing power, is calculated based on real GDP. However, unlike nominal GNI, real GNI includes not only real net income earned from abroad but also real trade balance changes due to changes in trade conditions. Here’s how it is calculated:
Real GNI = Real GDP + Real Net Income Earned from Abroad + Real Trade Balance Changes
To calculate real GNI, you start with real GDP, which accounts for changes in the quantity of goods and services produced, adjusting for inflation or deflation. Then, you add real net income earned from abroad, which considers changes in the value of income earned from foreign sources adjusted for price changes. Finally, you include real trade balance changes, which account for changes in the trade balance due to shifts in trade conditions.
This calculation provides a measure of the real economic output and purchasing power of a country’s residents, taking into account not only the domestic production but also the impact of foreign income and trade conditions.
Trade conditions represent the exchange ratio between export prices and import prices, indicating the rate at which goods are exchanged between export and import products. When trade conditions change, it affects production and consumption, leading to changes in national income. For example, when trade conditions worsen, the quantity of imports that can be purchased with the same quantity of exports decreases. This implies a reduction in the income from goods necessary for consumption and investment, resulting in a decrease in real income.
Therefore, since changes in trade conditions can impact real income by affecting the quantity of goods and services obtained, the calculation of real Gross National Income (GNI) includes “Changes in Real Trade Balance Due to Changes in Trade Conditions.” This component accounts for the impact on real income due to shifts in trade conditions.
In summary, trade conditions have a significant influence on national income by affecting production and consumption, and they are considered in the calculation of real GNI to provide a more comprehensive understanding of changes in real income caused by changes in trade conditions.
For example, let’s consider the year 2010 (base year) when it was possible to export 10 cars at a price of $10,000 each, resulting in total export revenue of $100,000. With this revenue, it was possible to import 1 piece of machinery priced at $100,000. However, in the year 2013 (comparison year), due to a decrease in the export price of cars from $10,000 to $5,000 each, it became possible to export 20 cars and use the revenue to import 1 piece of machinery.
This scenario illustrates that trade conditions worsened in 2013 compared to the base year, with a 50% deterioration in trade conditions. While real GDP in 2013 amounted to $200,000 (20 cars × $10,000 each), representing a 100% increase from 2010 ($100,000), the purchasing power of 20 cars in 2013 was equivalent to that of 1 piece of machinery in 2010.
In other words, in 2013, trade conditions worsened compared to 2010, resulting in a real trade loss of $100,000. Therefore, real Gross National Income (GNI) for 2013 is calculated as $100,000 less than the real GDP of $200,000, bringing it to the same level as in 2010.
On the other hand, the calculation process for “Changes in Real Trade Balance Due to Changes in Trade Conditions” is as follows:
Start with the total real trade balance that reflects changes in trade conditions: [(X – M) / P].
Then, assume that trade conditions remained the same as in the base year.
Calculate the real trade balance under this assumption: (x – m).
Finally, subtract this assumed real trade balance (x – m) from the total real trade balance that reflects actual changes in trade conditions [(X – M) / P].
This subtraction accounts for the impact of changes in trade conditions on the real trade balance, resulting in the “Changes in Real Trade Balance Due to Changes in Trade Conditions.” This component represents the difference between the actual real trade balance, considering changes in trade conditions, and the trade balance that would have occurred if trade conditions had remained the same as in the base year.
T = (X - M) / P - (x - m)
T : Real trade gains and losses due to changes in terms of trade
X-M : Nominal trade balance (export and export of goods and services at prices for the year)
P : Exchange price index (average of import and export price index = (Px + Pm)/2)
x-m : Real trade gains and losses without changing terms of trade (base year price differences between imports and exports of goods and services = (X/Px) – (M/Pm))
Net national income
Net National Income (NNI) is the total national income excluding depreciation. Depreciation refers to the wear and tear on assets such as factories, machinery, and structures that an economy possesses. In national income statistics, it is referred to as “capital consumption.” The pure value of goods produced during a certain period should be evaluated under the assumption that production takes place without a decrease in productive capacity. In other words, depreciation should be excluded from the value of goods produced.
Using an automobile factory as an example, when producing a car, various components and parts are required, and there are machines for assembling these components as well. Additionally, when making cars, both the parts and the assembly machinery experience wear and tear. In this scenario, the value added is calculated by subtracting intermediate input costs such as the purchase of parts from the total output value of the cars. From this value added, depreciation expenses are deducted, resulting in net value added. From a business perspective, depreciation is a cost that must be incurred at some point to sustain ongoing production activities as they are. Therefore, more emphasis should be placed on net value added, which represents the value newly created while maintaining the original machinery value, rather than total production.
Net National Income (NNI) = Gross National Income (GNI) – Fixed Capital Consumption
Gross National Income (GNI) or Gross Domestic Product (GDP) is more commonly used than Net National Income (NNI) or Net Domestic Product (NDP) in practice for several reasons, as explained by the OECD:
Complexity of Depreciation Calculation: Depreciation, also known as capital consumption or the wear and tear on assets, is a complex concept to calculate accurately. The methods for calculating depreciation can vary between countries, making it difficult to compare the scale of depreciation expenses across nations. This complexity makes it less practical for international comparisons.
Difficulty in Cross-Country Comparisons: Due to the variations in depreciation calculation methods and data, comparing the scale of capital depreciation between countries is challenging. GNI (or GDP) is often preferred because it provides a more straightforward and standardized measure for cross-country comparisons.
Minimal Impact on Key Comparisons: In many cases, the difference between GNI (or GDP) and NNI (or NDP) is not substantial when comparing national income or growth rates between countries. For many macroeconomic analyses and international comparisons, using GNI or GDP simplifies calculations without significantly affecting the results.
In summary, GNI (or GDP) is favored over NNI (or NDP) in practice because it offers a more straightforward and standardized measure for international comparisons, and the complexity of calculating depreciation can make NNI less practical for cross-country analyses. Additionally, the difference between the two measures may not be significant in many key comparisons.
National Income(NI)
National income (NI) is defined as the total amount of income earned by residents of a country in the process of producing goods and services. NI represents the sum of all income generated within a nation and reflects the total income of its citizens.
NI is used in calculating Net National Income (NNI), where NNI is the amount obtained by subtracting indirect taxes, such as production and income taxes, from NI and adding subsidies. NNI represents the income that actually accrues to the citizens, excluding the impact of government and external factors.
In the national income statistics published by the Bank of Korea, NI is defined as factor cost national income. This distinction is made because national income can be measured by two different prices: market prices and factor costs. Market prices refer to prices determined in the market where goods and services are sold, while factor costs represent the costs incurred due to the use of production factors, such as labor and capital. Factor cost national income is calculated based on the compensation paid to production factors, providing insight into the real income of the nation’s citizens.
Factor cost refers to the amount obtained when net production and income taxes are deducted from market prices. Ultimately, it equals the sum of compensation to factors of production, which includes wages and salaries for labor and operating surplus.
For example, let’s consider a scenario where the government encourages the production of health-promoting milk by providing a subsidy of 50 won per bottle, but there is also a production tax of 70 won, resulting in a market price of 300 won per bottle. If the cost of raw materials for one bottle of milk is 100 won, then the value added by market price for one bottle of milk is 200 won (300 won – 100 won).
On the other hand, the value added by factor cost is calculated as follows: subtracting the production tax (70 won) from the value added by market price (200 won) and then adding the subsidy (50 won), resulting in 180 won. In other words, the national income by factor cost is 20 won less than the national income by market price.
So, in this example, the factor cost-based national income is 180 won, while the market price-based national income is 200 won, and the difference of 20 won represents the net production tax.
The national income discussed above focuses on income earned as compensation for participating in productive activities, known as primary income. In reality, disposable income, which individuals can use for consumption or savings, includes not only primary income but also current transfers received without any corresponding exchange of economic value.
Current transfers occur not only among economic entities within a country but also between residents (citizens) of the country and non-residents (foreigners). To account for these income transfers, there are income indicators that reflect the transfers of income occurring between all residents and non-residents of a country. These indicators include National Disposable Income (NDI), which reflects income transfers between all residents and non-residents, and Personal Disposable Income (PDI), which reflects income transfers between households and government, among other institutional sectors.
National Disposable Income (NDI)
National Disposable Income (NDI) is the income that the entire economy of a country can freely allocate to consumption or savings, taking into account income transfers between residents and non-residents. In other words, NDI is calculated by adding income received from foreign sources, such as remittances and other unrelated to productive activities (foreign current transfers), and subtracting income sent abroad, such as foreign aid and other payments (foreign current transfers).
Furthermore, when depreciation (capital consumption) is added to NDI, it becomes Gross National Disposable Income (GNDI). GNDI is used in the calculation of the gross savings rate and the gross investment rate, providing valuable insights into a country’s overall economic performance.
Personal Disposable Income(PDI)
Personal Disposable Income (PDI) is the income that households can freely allocate to consumption or savings. It reflects income transfers between households and other economic entities. To calculate PDI, you start with Personal Primary Income (PPI), which is the portion of National Income (NI) that is not paid to households. PPI is obtained by subtracting corporate income, interest received by the government, fees, and other income not paid to households from NI.
PDI, on the other hand, is derived from PPI by adding income transfers received by households from the government, businesses, and foreign sources while subtracting income transfers that households make to the government, businesses, and foreign entities. In essence, PDI represents the portion of income that households have available for their consumption or savings after accounting for various income transfers.
On the other hand, Personal Adjusted Disposable Income (PADI) includes social transfers in kind in addition to Personal Disposable Income (PDI). Social transfers in kind refer to goods and services provided by the government and other entities to households in the form of tangible items. Examples of social transfers in kind include free education and free medical care provided by public schools and healthcare facilities. Social transfers in kind are distinct from government cash transfers to households, such as support for the cost of living for low-income individuals and families.
PADI takes into account the value of these tangible goods and services provided to households, providing a more comprehensive measure of the income available to households for their consumption or savings after accounting for both cash transfers and in-kind transfers.
