6 - The Definition of Income, Saving and Investment

Summary

Income

During any period of time an entrepreneur will have sold finished output to consumers or to other entrepreneurs for a certain sum which we will designate as A. He will also have spent a certain sum, designated by A₁, on purchasing finished output from other entrepreneurs. And he will end up with a capital equipment, which term includes both his stocks of unfinished goods or working capital and his stocks of finished goods, having a value G.

Some part, however, of A + G − A₁ will be attributable, not to the activities of the period in question, but to the capital equipment which he had at the beginning of the period. We must, therefore, in order to arrive at what we mean by the income of the current period, deduct from A + G − A₁ a certain sum, to represent that part of its value which has been (in some sense) contributed by the equipment inherited from the previous period. The problem of defining income is solved as soon as we have found a satisfactory method for calculating this deduction.

There are two possible principles for calculating it, each of which has a certain significance;—one of them in connection with production, and the other in connection with consumption. Let us consider them in turn.

(i) The actual value G of the capital equipment at the end of the period is the net result of the entrepreneur, on the one hand, having maintained and improved it during the period, both by purchases from other entrepreneurs and by work done upon it by himself, and, on the other hand, having exhausted or depreciated it through using it to produce output.