2.4.1 National Income — Practice Questions

Eight original multiple-choice questions on national income, written to the style and difficulty of Edexcel Paper 2 Section A. One is a calculation.

8 questions Edexcel A-Level Multiple choice Model answers included

Not read the notes yet? Start with the 2.4.1 National Income revision notes.

1. 1. A statistician measures a country's national income by the output method, then again by the income method, and then again by the expenditure method. In theory the three totals should

   Definition in context

   Select one answer

   A All be equal.

   B Differ by the rate of inflation.

   C Differ by the size of the trade deficit.

   D Rise in the order they are taken.
   Show model answer

   Answer: A (All be equal.). The three methods are three views of the same circular flow, so in principle they measure the same quantity.
   Everything produced is sold, and the money paid for it becomes income for whoever owns the factors that made it, which is then spent. Output, income and expenditure are therefore the same total counted at three different points in the circle.
   That identity is what makes the national accounts checkable: if the three estimates diverge badly, something has been measured wrong.

   Why the other options are wrong

   • B — Inflation affects whether the figures are nominal or real, and it affects all three equally. It does not open a gap between them.
   • C — The trade deficit is already inside the expenditure total, in the (X − M) term. It is not a wedge between the three methods.
   • D — There is no reason for one method to give a systematically larger figure than another. They are estimates of a single quantity.

2. 2. A country adds up the value of everything produced by its farms, factories, shops and service industries over a year. The method being used is the

   Definition in context

   Select one answer

   A Expenditure method.

   B Income method.

   C Output method.

   D Withdrawals method.
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   Answer: C (Output method.). The output method totals the value of the goods and services produced across every sector of the economy.
   The care needed with it is avoiding double counting: only final output counts, or the value added at each stage. Counting the steel and then the car built from it would inflate the total.
   It is the most direct of the three — it measures production itself rather than the income production generates or the spending it attracts.

   Why the other options are wrong

   • A — The expenditure method totals spending, using C + I + G + (X − M). It measures what is bought rather than what is made.
   • B — The income method totals the wages, rent, interest and profit earned from producing that output.
   • D — There is no withdrawals method. Withdrawals are savings, taxation and imports, which is a different idea entirely.

3. 3. Income is a flow and wealth is a stock. Of the following, the one that is a stock is

   Definition in context

   Select one answer

   A A monthly salary.

   B A portfolio of shares.

   C Annual dividend payments.

   D Weekly benefit payments.
   Show model answer

   Answer: B (A portfolio of shares.). A stock is measured at a point in time; a flow is measured over a period.
   A portfolio of shares has a value on any given day, without reference to a period — that is a stock, and it is wealth. It also generates income, which is the giveaway: wealth is the asset, income is what the asset pays out.
   Notice that all three wrong options carry a period in their description — monthly, annual, weekly. Anything that needs a time period to make sense is a flow.

   Why the other options are wrong

   • A — A salary is earned over a month, so it is a flow. It is the classic example of income.
   • C — Dividends are received over a year, making them a flow. The shares that pay them are the stock.
   • D — Benefits are paid weekly, so again a flow. They form part of disposable income.

4. 4. Table 1 shows the injections into and the withdrawals from an economy's circular flow over one year.
   Using Table 1, for national income to be in equilibrium, injections would have to rise by

   Calculation

   Table 1: Injections and withdrawals, £bn

   Flow	Value
   Investment	180
   Government spending	310
   Exports	240
   Savings	200
   Taxation	330
   Imports	265

   Select one answer

   A £65bn

   B £130bn

   C £730bn

   D £795bn
   Show model answer

   Answer: A (£65bn). Equilibrium in the circular flow requires J = W.
   Injections: £180bn + £310bn + £240bn = £730bn.
   Withdrawals: £200bn + £330bn + £265bn = £795bn.
   Withdrawals exceed injections by £795bn − £730bn = £65bn, so injections must rise by that amount to close the gap.
   As things stand more is leaking out than is coming in, so the circular flow is contracting and national income is falling.

   Why the other options are wrong

   • B — £130bn is twice the gap. Raising injections by the shortfall once is enough — the withdrawals side does not also have to move.
   • C — £730bn is total injections. The question asks by how much they must rise, not what they currently are.
   • D — £795bn is total withdrawals. Injections have to reach that figure, but they are already at £730bn, so the increase needed is the difference.

5. 5. In an economy, savings, taxation and imports together exceed investment, government spending and exports. The circular flow of income will

   Applied reasoning

   Select one answer

   A Expand, as more enters the flow than leaves it.

   B Reach equilibrium immediately at the new level.

   C Remain at its current size indefinitely.

   D Shrink, as more leaves the flow than enters it.
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   Answer: D (Shrink, as more leaves the flow than enters it.). The first job is classification. Savings, taxation and imports are the three withdrawals; investment, government spending and exports are the three injections.
   So the stem says W > J. More money is leaking out of the circular flow than is being added to it, and the flow contracts — national income falls, and the economy moves towards recession.
   Learning the two lists is what makes questions like this quick: S, T, M out and I, G, X in.

   Why the other options are wrong

   • A — This is the case where injections exceed withdrawals, which is the reverse of what the stem describes.
   • B — Equilibrium requires J = W, and here they are unequal. The flow has to change size before the two can meet.
   • C — An imbalance between the two sides is precisely what changes the size of the flow. It stays constant only when they are equal.

6. 6. In the simplest circular flow model, containing only households and firms, firms pay out wages, rent, interest and profit. This is best described as

   Applied reasoning

   Select one answer

   A A real flow from firms to households.

   B A real flow from households to firms.

   C A money flow from firms to households.

   D A money flow from households to firms.
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   Answer: C (A money flow from firms to households.). The model has two kinds of flow running in opposite directions.
   Real flows are the things themselves: households supply land, labour, capital and enterprise to firms, and firms supply goods and services back.
   Money flows pay for them: firms pay income to households for the factors, and households pay consumer expenditure to firms for the goods.
   Wages, rent, interest and profit are money, and they move from firms to households — the payment for the factors of production.

   Why the other options are wrong

   • A — Real flows are goods, services and factors of production, not payments. Money is not a real flow.
   • B — Both halves are wrong: this is money rather than a real flow, and it travels from firms to households.
   • D — The direction is reversed. Households pay firms as consumer expenditure; firms pay households as income.

7. 7. Table 1 describes four money flows in an economy.
   Using Table 1, the only flow that is an injection into the circular flow is

   Data interpretation

   Table 1: Four money flows

   	Flow
   Flow 1	Households pay income tax
   Flow 2	A firm buys new machinery
   Flow 3	Households buy imported cars
   Flow 4	Households put money into pension funds

   Select one answer

   A Flow 1.

   B Flow 2.

   C Flow 3.

   D Flow 4.
   Show model answer

   Answer: B (Flow 2.). Injections are additions of new spending into the circular flow: investment, government spending and exports.
   A firm buying new machinery is investment — spending by firms on capital goods, and the only injection here.
   The other three are all withdrawals: income tax is taxation, buying imported cars is imports, and pension contributions are savings. Each is income not spent on domestic output, so each reduces the size of the flow.

   Why the other options are wrong

   • A — Income tax is taxation, a withdrawal that goes to the government.
   • C — Buying imported cars is imports. The money leaves the domestic circular flow and goes overseas.
   • D — Money placed in pension funds is saving — income not spent, leaking into the financial sector.

8. 8. In practice a country's three measures of national income rarely give exactly the same figure. The best explanation is that each measure

   Applied reasoning

   Select one answer

   A Is calculated for a different time period.

   B Is drawn from different and incomplete data.

   C Measures a fundamentally different quantity.

   D Uses a different rate of inflation to deflate it.
   Show model answer

   Answer: B (Is drawn from different and incomplete data.). The three should be equal in theory, and the reason they are not is entirely practical.
   Each is built from a different source: the output measure from production surveys, the income measure from tax records and company accounts, the expenditure measure from retail and trade data. Every one of those sources is a sample, every one misses the informal economy, and each misses a different part of it.
   The published discrepancy is a measure of that imprecision rather than of any real economic gap — which is why statistical agencies report it openly instead of forcing the numbers to agree.

   Why the other options are wrong

   • A — All three are compiled for the same year. A timing difference would be a straightforward error rather than an unavoidable one.
   • C — They measure the same quantity by three different routes, which is exactly why they ought to agree.
   • D — The discrepancy shows up in the nominal figures too, before any adjustment for inflation is made.