Question

What are the components of output and income? The value of total expenditure must equal the value of total income. Why?

Answer 1

The components of output and income = Consumption spending of the consumers + Investment expenditure + Government spending + Total Value of exports - Total value of imports.

The value of the total expenditure must equal the value of total income for the economy to be in equilibrium. If value of total expenditure exceeds the value of total income, then firms will have shortage inventories in their stock and thus in the next period firms will produce more to match the quantity produced with quantity demanded. Similarly if total expenditure is less than total output, then there will be excess inventory in their stock and thus in next period firms will reduce production to prevent wastage. Thus, value of total expenditure must always equal the value of total income.