Saturday, August 12, 2006

Explain why governments are sometimes concerned with the level of national income in their countries

and discuss the usefulness of these data in assessing the level of people’s welfare.

As a theoretical concept, the level of national income is defined as a net national product at factor cost, i.e. the total value of goods and services produced by a country’s residents, net of capital consumption, taken at the value of returns to factors of production. Governments, faced with the practical difficulties of measuring such an entity, take to using gross domestic product (GDP) or gross national product (GNP), i.e. not factoring capital consumption, in their monitoring of national income.

Governments see a need to obtain such measurements and monitor the progress of these statistics primarily to chart the economic progress of the economy they have under their custody. GNP is a measure of the total market value of goods and services produced by a country’s residents within a fixed year of computation. GDP is much the same concept, except that instead of measuring production by factors owned by a country’s residents, it measures the production taken place by harnessing a country’s resources within its own boundaries. In this way, GNP and GDP serve as good indicators of the economic performance of countries. Governments, for political and economic considerations alike, have an interest in ensuring healthy economic progress and growth whether as a proof of correct policy decisions or as a warning of possible economic trends. If developments in national income are unfavourable, governments can adjust policy mechanisms to restore growth or health in the economy.

Another possible source of attention as towards government monitoring of national income statistics stem from the concept that national income statistics provide a reliable proxy indicator of the standard of living in a country and the material wellbeing of a population, by nature of its definition and components, and the concept of the circular flow of income. The accuracy of this figure as a proxy can be improved by obtaining an average measure of welfare for a person in the population, taking a per capita measure of national income. The data can also be corrected for inflation and purchasing power parity, although the latter is not crucial for self-examination.

However, it is imperative to note that while national income data per capita are reliable proxies for the standard of living and welfare, they are by no means complete measures of wellbeing, for they miss out non-material aspects of welfare, and face all the problems associated with average figures.

National income statistics may exclude certain sources of material satisfaction in an economy. This may not be due only to difficulties in data-collection, but may also be due to that fact that economies have an array of non-marketed goods – subsistence production, illegal and underground trading activities, gambling and drug-trafficking in some countries. These figures may add substantially to material welfare, depending on the unique circumstances of different economies, and their exclusion reduces the credibility of national income figures, especially for developing economies.

A major limitation of national income in estimating the welfare of a population is its inherent economic characteristic, and hence its inability in including non-material aspects of welfare. Typically health and education standards are cited most frequently as notable omissions in national income statistics. While it is understandable that these are measurement-resistant variables, their quality is important in determining the welfare of a population, and some form of analysis on standards of literacy, health, longevity, infant mortality, law and order, social ills, political freedom etc. are important complements to national income in assessing welfare.

Even if all these were taken into account, per capita measures cannot escape the major weaknesses of average figures. Data fails to take into account demographic diversities in the population. Per capita figures conceal possible differences in income distribution. Glaring income differentials are not a source of pride for any country or government, but national income figures fail to bring up the problem and hence preclude their absolute usefulness in indicating welfare of people.

The usefulness of national income figures is derived from the direction of the numerical movements in the figures. More often than not an increase in national income may correlate with an increase in welfare, although problems with averages may persist.

Nonetheless, it can be observed that not only governments, but the world community at large sees merit in using national income figures as a best measure of material wellbeing and the best indicator available of actual welfare. The efforts of the United Nations at formulating the Human Development Indices for countries testify to the concern with welfare, and the indices include the use of national income figures. While in keeping with the advice of economist John Kenneth Galbraith, “we should use it for what it tells us, as long as we know what it doesn’t tell us”, keeping in tandem with the changes in the direction of income statistics and their values, one has a best chance of getting a good picture of the actual level of welfare.

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