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Q: economic problem ( Answered 5 out of 5 stars,   0 Comments )
Subject: economic problem
Category: Business and Money > Economics
Asked by: mike5-ga
List Price: $3.00
Posted: 04 Dec 2002 21:36 PST
Expires: 03 Jan 2003 21:36 PST
Question ID: 119569
the national income accounts show that real income(Y) always equals
real expenditure(E),given the difinition of the circular flow of
economic activity. thus, the economy must always be in equilibrium,
since that is also where Y=E.

Is the statement right? why?
Subject: Re: economic problem
Answered By: lot-ga on 05 Dec 2002 05:43 PST
Rated:5 out of 5 stars
Hello mike5-ga 

Yes, the statement is right.

The circular flow of income concept is based around income =
expenditure (or consumption), as one person's expenditure is another
person's income.
For example If somebody spends $100 (expenditure) on a bicycle, that
$100 is distributed to the factors used to make that bycycle. The sum
of factor incomes (profit, wages, rent and interest) must equal $100

However there may be leakages from this circular flow of income in the
form of savings, where income derived from sales may not be all
expended and held from the system, therefore
Y = E + S (savings)
also there may be injections in the form of investment (money from
savings), therefore
Y = E + I (investment)

Since Investment is derived from the savings, essentially I = S

The Y = E principle is used to derive the figure for National Income
Accounting, as you can either add up total expenditure, add up total
income or total output which gives the same result, as National Income
= National Product = National Expenditure. This gives the basis or
identity to National Income accounting.

Using the expenditure method of accounting involves measuring the
total value of annual spending by individuals, firms and the
government on goods and services produced within the country. Only
expenditure on new goods and new production is counted, e.g.
expenditure on a second hand car is ignored, otherwise it would be
counted twice, National output does not increase simply because the
same car is sold again and again.

The income method of accounting involves recording all incomes before
taxation of all individuals, firms and trading surplus from the

The output method of accounting measures each industries output, e.g.
if a computer monitor manufacturer buys in $50 CRT tubes and sells the
monitors for $100 to the retailer who then sells it to the consumer
for $150 the total expenditure is not $50 + $100 + $150 = $300 but is
the value added by each industry, in this case $50 + $50 + $50 = $150

The Y = E principle and the closed economy circular flow of income
concept stems from Keynesian theory, John Maynard Keynes (1883-1946)
and his publication 'General Theory of Employment, Interest and Money'
in 1936 challenged the old classical economic theories. In real life,
calculations are more complex but the basic principle still holds.

Search Strategy:

Chapter 16 "National Income Acounting" page 189
Chapter 17 "National Income Determination" page 203
"Key Facts Passbook - Economics" by Roger Maile BA 
Published 1980 by Intercontinental Book Productions 

I hope that helps, if you need any clarification of the answer just

Kind regards
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