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The Flow of Income

THE flow of income through an economy may be likened to the stream in that endless river which the ancient geographers sup-posed to surround the earth. A business or any other venture incurs costs because the materials, raw and processed, used up in produc­tion have prices; because workers by hand and brain earn wages and salaries; because interest and dividends are paid upon capital, and rent upon land and premises. Wages, salaries, interest, dividends, profits and rents are at once a cost to business and the earnings of the citizens, corporations and others who own the resources and supply the services consumed in production. Earnings in turn are the source of income. Income is paid in taxes, laid out in buying goods and ser-vices, and saved. Consumers spend upon goods and services for per-sonal enjoyment. Business buys capital goods for new construction and for the maintenance, renewal, replacement and repair of existing installations and plant. Governments spend on the goods and services reąuired for defence, for the maintenance of domestic order and for such collective purposes as education, health and the support of pen-sioners and other beneficiaries of public care. Buyers from overseas spend upon those goods and services which are exported. Outlay, spent on the purchase of output, constitutes the gross receipts of busi­ness and furnishes the fund out of which each and every economic enterprise hopes to meet its cost. The flow of income, through costs, earnings, outlays and receipts is joined and the circle is closed. The materials consumed in one business are the finished product of another. This element in costs in turn is composed of the wages, salaries, rents, interests and dividends paid out by the suppliers, together with their profits and the costs of any materials which they in turn have used. The costs of materials consumed by one business thus constitute the earnings of those who supply them less, of course, the costs of any materials the suppliers themselves might have used. In a closed economy, in one that is in which nothing is bought or sold outside, all take in each other's washing. The costs of all materials used by all enterprises are finally resolved into the earnings of those members of the economy who process materials and of those who own the capital eąuipment and the natural resources. Great Britain is an open economy. There is a large import from overseas of foodstuffs, raw and semi-finished materials, and an export of finished goods and services. The prices of domestically won resources constitute the earnings of their owners and so become a part of the flow of income; but the purchase price of materials bought from abroad is paid to recipients overseas and is not a part of the stream of domestic earnings and income. The costs of goods and services for export on the other hand add to domestic earnings and income, but the commodities so produced are shipped abroad and the sendces rendered to foreigners. Neither become objects upon which domestic income is spent. Output consists of all the goods and sendces produced by the national economy during the year. Goods and services are valued for this purpose at the prices received by the producer less indirect taxes but inclusive of subsidies. One part of output, C, is sold to households and persons by whom it is currently consumed. Another part, G, is absorbed by the current expenditure of public authorities, the largest of whom, of course, is the Central Government. A third part, B, is sold to businesses and public authorities for maintenance, replacement and renewal of capital, for new fixed investment and for additions to stock. A fourth, X, is exported and sold to customers overseas. The costs incurred in producing this output are paid in wages and salaries, W (including the pay of the armed forces), or taken as profits, P, or set aside as provision for depreciation, D. The value of imports, M, being a part of domestic costs but no part of domestic income is most conveniently deducted from the value of output. The value of output bought by purchasers during any given period is the same as the receipts taken by sellers during the same period. Wages, salaries, and rents together with depreciation are all met from receipts. There is no other source from which costs can be paid; and profits are assessed as the sum which remains. The value of the gross domestic product is thus equal to the gross domestic income gener-ated in the production of output. At any point of time, or at the end of any period of time, the balance may be struck and an account set up for the national economy as a whole.1 Gross domestic income and gross domestic product are enlarged (or diminished) in an open economy by income from property owned and held abroad by residents within the economy, or from property 1 Statement I overleaf. statement i The Production Account Cr. Dr. Current sales to persons and households Current sales to government and public authorities . . Gross fixed capital Additions to or withdrawals from C G I Wages, salaries and pay of armed forces . . Depreciation Profits . . W D P stocks Exports of goods and services . X less imports .... — M Gross Domestic Product . . Yd Gross Domestic Income . . . Yd owned in the economy by residents without. In the case of an economy such as the United Kingdom, income received from assets owned overseas by residents is greater than the income arising on property held by owners overseas and due to be paid abroad. The net return, A, from such foreign capital is conseąuently positive, and is added to the gross domestic product (income) to reach the gross national product (income). This gross national income, Y, is spent by persons and house­holds upon goods and services for their current consumption, E, and is taken in taxes, T, both direct and indirect, paid by persons and companies. Income at the disposal of persons which has neither been spent nor paid in taxes is saved. Provision for depreciation is deducted from corporate earnings and the balance, not distributed as interest and dividend, is put to reserve either as undistributed profits or in other forms. Interest upon the national debt, pensions, and other benefits, as much as income from any other source, is spent on the purchase of goods and services for personal consump­tion; some of which carry indirect taxes such as excise duties and purchase tax. Part of this interest may also be saved. Pensioners, the beneficiaries of public care and the public creditor add no useful service to domestic product. Their incomes are found by transfer from taxes and other contributions raised from those who have earned money by work or by the ownership of useful property. These "transfer incomes", as they are calłed, are deducted from public revenues to avoid double counting, and the receipts of taxa-tion and compulsory contributions are included in the account, less such transfers. Expenditure on consumption, payment of taxes and savings taken together, exhausts income. Nothing remains—and gross national income is wholly accounted for by gross national expenditure. statement ii The National Income and National Expenditure Account Cr. Dr. Wages and salaries including pay of armed forces W Depreciation D Profits P Net income from property held abroad A Total of taxes Less transfer income to persons Taxes less transfers . . . Personal savings . Company savings . . . Total private savings . . . Depreciation allowances. Y gross national expenditure gross national income Gross national product (gross domestic product from the first account increased by A) is equal to gross national income; and gross national income is equal to gross national expenditure in the second. Things which are eąual to the same thing are equal to another and one may write consequently: C+G + I+X-M + A = E+Tn + SI) + D The value of goods and services bought in any period for personal consumption is necessarily equal to the value of goods and services which has been sold to consumers during the same period. The first records the outlays of consumers on purchases, the second the receipts of businesses from sales. The two are aspects of the same quantity. The value of goods sold in any period for personal con­sumption, C, can thus be set against the expenditure of consumers, E. Any difference between the costs previously paid out in the course of producing output and the price subsequently received from pur-chasers is, of course, absorbed by (unforeseen) variation in profit and other residual payments and in (equally unforeseen) additions of unsold goods to stock or withdrawal of oversold goods from Current expenditure of persons and households Direct taxes paid by per- sons tp Direct taxes paid by com- panies Indirect taxes less subsidies tn T B Tn Si Sr. Sp D stock. Increase or reduction of stock is already included as a part of the total output of capital goods, /. All such changes can and do have an impact upon income and the activity of trade; but the value of the goods and services bought in any period is necessarily equal to the value of the same goods and services which have been sold during the same period. The ąuantity (C — E) is thus zero. Government expenditure on goods and services (including defence) and transfer incomes less the revenue raised by taxes and all other compulsory exactions, T, is neither more nor less than the deficit or surplus overall in the combined accounts of all public authorities, including, among others, central government, local governments and such public institutions as the National Insurance Fund. For {(07 + B) — T] there may thus be substituted a single term ST representing the finał surplus (or deficit if the value of the expression is positive) in the public accounts taken as a whole. The National income and expenditure, rearranged in the form (C -£)+{/ - (S, + Dy] + (G - Tn) + {(Z + A) - M} = 0 can be shortened as {/ - (S, + Sr + £>)} = {M - (X + A)}. Public surpluses (Sr) are combined with the sum of private savings by persons and companies (Ss + D) into the one term, 5*, the gross sum of income withheld from current expenditure. The expression of savings and investment in the open economy then becomes / — S = M — (X + A). The surplus or deficit in the balance of payments is thus identical with the amount by which the value of capital investment of all kinds exceeds or falls short of the domestic income finally held back from expenditure and saved. These equa-tions are mathematical identities—tautologies in logie. In them-selves they prove nothing, beyond the obvious fact that, after the books are closed and the accounts made up, the two sides, income and expenditure, balance or differ by the net sum outstanding on current account as a result of all foreign transactions. But the identity also picks out and links together the ąuantities now seen as the resultants of the forces which act upon and react with income. These are the balance of payments, the surplus or deficit in the accounts of all public authorities and the several elements in the capital accounts of public enterprises, corporate business and private persons.