National Income Concepts o o o National income

National Income Concepts

o o o National income or national product National Income and Related Aggregates Is defined as the total market value of all the final goods and services produced in an economy in a given period of time. This suggests that labor and capital of a country, working on the natural resources produces certain net amount of goods and services, the aggregates of which as known as national income or national product. There are many concepts of national income which are used by different economists and all of which are inter-related. These concepts are:

1. Gross National Product at Market Price (GNP mp) o GNP mp refers to the total value of all the final goods and services produced during the period of one year plus the net factor incomes earned from abroad during the year. o The word “gross” is used to indicate that the total national product includes in it that part of product which represents depreciation. o Depreciation means the wear and tear of the machinery and other fixed capital during the process of production. o GNP includes the economic activities of all the residents of a nation whether operating within the country or outside it.

It takes into account the incomes which the residents get from rest of the world and at the same time it excludes those incomes which arise from the economic activities within the country but have to paid out to the non-residents GNP being the monetary measure of all final goods and services produced, is widely used as an index for judging the performance of an economy. o 2. Net National Product at Marker Price (NNP mp): price is equal to GNP minus the charges of depreciation and replacements, where depreciation represents the values of fixed capital consumed during the process of production. o NNP mp = GNP mp – Depreciation. The concept of NNP is important because it gives an estimate of the net increase in the output of final goods and services.

3. Net National Product at Factor Cost (NNP fc) or National Income: o o o NNP fc or national income is equal to the sum total of factor incomes received by the factors of production during the year. It is equal to the sum of rent, wages, interests and profits in a given year. The sum total of incomes of the factors of production is known as national income or net national product at factor cost. Thus, the national income is equal to the NNP at mp minus revenue of the government by way of indirect taxes plus subsidies provided by the government to the business sector. NNP fc = NNP mp – {Indirect taxes + Subsidies} (or) NNP fc = NNP mp – net Indirect taxes

4. National Income at Current Price and Constant Price: o o o o When the value of goods and services is found out by multiplying the quantity produced during one year by the prices prevailing in that year, we call it National income at Current Prices. On the other hand, when the value of goods and services is calculated by multiplying the quantity during one year with prices of the base year, we call it National Income at Constant Prices. Example: (1) q 1 is the quantity of final product in year 1980 and p 1 is the price of that year. Then, the value of the final product I = q 1 p 1 Similarly, q 2 is the quantity of final product II in year 1980 and p 2 is the price of that year. Then, the value of the final product II = q 2 p 2 If we add up the value of all final goods and services produced, we get National Income at Current Prices. So, National Income at Current Price will be: q 1 p 1+q 2 p 2+ ……………. qnpn = NI at Current Prices

(2) Suppose we want to compare the national income figures of 1980 and 1990, we may find that the national income in 1990 is higher than that of 1980. o This increase in income may be due to (a) increase in output (b) increase in prices may be higher in 1990 than 1980. o To get the exact increase in real income, we need to multiply the quantity of goods produced in 1990 with the 1980 prices. This shows: National Income at Constant Prices: Quantity of Current period x Prices of Base period. Formula for Real National Income: Money National Income (Current year) x Price Index of Base year __________________________ Price Index of Current year

Measurement of National Income: o The methods of estimating national income of a country depends upon the availability of proper statistics. o This can be viewed from three interrelated angles, such as, in terms of production, income, and expenditure. o These three terms are broadly related to GNP, GNI and GNE respectively. o The ideal national income equation shows that National Income or NI =GNP=GNI=GNE.

o o To measure the national income of a country, we use three different methods, such as: (a) The product method (b) The income method (c) The expenditure method The Product Method The production method measures national income as the sum of net products produced by the production units in the given period. o Therefore, the production method involves the following steps: (i) Identifying the production unit (ii) Estimating their net products (iii) Valuing the goods and services (iv) Estimation of net income from abroad

o o o The next step in the production method is the estimation of net product of each sector. This comes from the Gross products minus the intermediate products minus the depreciation during the process of production. NNP = GNP – Intermediate products – Depreciation. The total estimates would give us Net Domestic Product at factor cost. The addition of net income from abroad to this total would give us net national income at factor cost or National Income.

The Income Method o The income method measures national income as the sum total of factor income shares accruing to the factor owners. o Factors of Production: Land, Labour, Capital and Organization. o Factor incomes: Rent, Wage, Interest and Profit. o One can easily aggregate all the factor incomes over a period of time and this aggregate figure is known as national income at factor cost. o There are major additions and deductions to the national income accounting. o Additions: Income from foreign sectors in the form of rent, profits etc. o Deductions: Incomes from all illegal activities: theft, robbery, smuggling, child labor, etc. o Incomes to the foreign sector acting in domestic sectors.

Comparison between Product method and Income method: NI fc = NI mp – Indirect tax + Subsidies. o For the sake of convenience, economists suggests that the Product method is for Primary sector and the Income method is for tertiary sectors. The Expenditure Method o Because of identical relation the GNP=GNI=GNE, the expenditure of one becomes the income of other. Hence, the GNE is calculated which will be identical with GNI. o The Expenditure in the Economy can be broadly divided into three types, such as, (i) Consumption Expenditure (ii) Investment Expenditure (iii) The pure Govt. Expenditure o

o Consumption expenditure provides direct satisfaction where investment expenditure is necessary to increase the productivity of the nation. o Pure Govt. expenditure is necessary for maintenance of law and order situation and providing the infrastructural facilities to the nation. o In detail, all expenses are again divided into five different categories: 1. Private Consumption Expenditure 2. Public Consumption Expenditure 3. Private Investment Expenditure 4. Public Investment Expenditure 5. Pure Government Expenditure

Comparison of three Methods: o The product method is very suitable for the primary sector such as agriculture, industries etc. o The income method is appropriate for the tertiary and service sectors. o The Expenditure method is only for the calculation of identical relationship between three methods. It is because we may not get the details of all expenditure correctly. Neither it is possible nor it is desirable to reveal all types of expenditure. o In fact, the expenditure method is only to complete the identical relationship i. e. GNP=GNI=GNE=NI

PRICE INDEX o A price index (plural: “price indices” or “price indexes”) is a normalized average (typically a weighted average) of o prices for a given class of goods or services in a given region, during a given interval of time. It is a statistic designed to help to compare how these prices, taken as a whole, differ between time periods or geographical locations. o Price indices have several potential uses. For particularly broad indices, the index can be said to measure the economy's price level or a cost of living. More narrow price indices can help producers with business plans and pricing. Sometimes, they can be useful in helping to guide investment. Some notable price indices include: o Consumer price index o Producer price index o GDP deflator

Consumer Price Index o A consumer price index (CPI) is a measure estimating the average price of consumer goods and services purchased by households. A consumer price index measures a price change for a constant market basket of goods and services from one period to the next within the same area (city, region, or nation). o It is a price index determined by measuring the price of a standard group of goods meant to represent the typical market basket of a typical urban consumer.

Producer Price Index o A Producer Price Index (PPI) measures average changes in prices received by domestic producers for their output. It is one of several price indices. o Its importance is being undermined by the steady decline in manufactured goods as a share of spending. o The Producer Price Index (PPI) program measures the average change over time in the selling prices received by domestic producers for their output.

GDP Deflator o The GDP deflator (implicit price deflator for GDP) is a measure of the level of prices of all new, domestically produced, final goods and services in an economy. In most systems of national accounts the GDP deflator measures the ratio of nominal (or current-price) GDP to the real (or chain volume) measure of GDP. The formula used to calculate the deflator is: Dividing the nominal GDP by the GDP deflator and multiplying it by 100 would then give the figure for real GDP, hence deflating the nominal GDP into a real measure.

o GDP deflator for India in 2008 - 7. 2% o The GDP deflator is utilized as a measure of shifts in the prices of goods and services that are produced in a given country. o It is understood that the GDP deflator can help provide a more accurate picture of the current status of the gross domestic product within the country. Because the GDP deflator is understood to be an example of an implicit price deflator for GDP, economists consider calculating this economic indicator as an essential component in ascertaining the current strength or weakness of the country’s economy.

INDEX NUMBERS An INDEX NUMBER measures the variation in the time series in a period as a percentage of the time series in a base period. o LASPEYRES INDEX number measures the change in price for a fixed buying pattern. The LASPEYRES INDEX for the n-th period is obtained by the following formula: L=100 x Σ pni q 0 i Σ p 0 i q 0 i o PAASCHE INDEX number, measures the change in price for a fixed buying pattern, in the case the quantity change from the base year amount. The PAASCHE INDEX for the n-th period is obtained by the following formula: P= 100 x Σ pni qni Σ p 0 i qni

INDEX number, measures the average change in price for a fixed buying pattern. The INDEX for the n-th period is obtained by the following formula: For the above example, we have: o L 1: 0 = 100 x (776. 06 x 102. 1 + 3345. 56 x 1. 8)/(562. 48 x 102. 1+2677 x 1. 8) = 136. 9616 o P 1: 0 = 100 x (776. 06 x 87. 9 + 3345. 56 x 2. 7)/(562. 48 x 87. 9. 1+2677 x 2. 7) = 136. 3084 I = (Square root of L * P)

NEW SERIES ON NATIONAL ACCOUNTS STATISTICS WITH 1993 -94 AS THE BASE YEAR o o In the past, National Accounts Statistics have been revised decennially changing the base to a year in which decennial Population Census has been conducted. It was primarily because in the base year estimates, the information on working force has played an important role and working force estimates have been obtained from the population census which are conducted decennially. In this sequence, the base of the National Accounts Statistics should have been revised to 1990 -91 from 1980 -81. It may be mentioned that any major changes in the choice of the alternative sets of data or methodologies are considered only along with the base year revision exercise. It has been customary not to make changes every now and then and necessary major changes are kept for implementation at the time of base year revision exercise.

o In the present revision exercise, the CSO has mainly been guided by three considerations, namely; o (i) revision of base year to a more recent year (for meaningful analysis of the structural changes in the economy), o (ii) complete review of the existing data base and methodology employed in the estimation of various macro-economic aggregates including choice of the alternative databases on individual subjects, and o (iii) to the extent feasible, implementing the recommendations of the 1993 System of National Accounts(1993 SNA).

Of the various methodological improvements/changes in databases effected in the new series mention may be made of the following: o Estimation of working force by economic activities using the worker population ratio and the workforce participation rates estimates based on the quinquennial survey on employment and unemployment conducted by the NSSO, 1993 -94 (50 th round) and the total population as obtained from the 1991 population census; o Coverage of the agricultural production in the fore/backyard, floriculture, deep sea fishing, valuation of the output of prawns and shrimps separately, data on which is available from the Ministry of Agriculture;

o Estimating GDP relating to trading activities in the private organised segment of the economy using the working force estimates available from DGE&T and inclusion of activities relating to National Industrial Classification, 1987 (NIC) codes 840 and 841 (lottery sales, services) for the first time; o Coverage of public services in the quasi-government bodies and o Contribution of Employees Provident Fund Organisation in the GDP; o Estimation of the contribution of tailoring services (NIC 964) separately;

Interpreting National Income in Business