National income

National Income

Developing Nations

Poor / Least

Developed Nations

Rich / Developed

nations

World

How do we measure the performance of an economy?

A country’s economic performance is measured by indicators of National Income ( GDP or GNP).

Performance of an economy is the level of production (of goods and services) or total economic activity.

It estimate’s the total value of production in an economy.

Definition of National Income

“National income is a measure of the total market value of the

goods and services (output) produced by an economy over a

period of time (normally a year)”.

1) It is a Monetary Measure

2) Goods and Services to be counted only once

( Final goods and not intermediate goods)

Need for the Study of National Income

A national income measure serves various purposes regardingeconomy, production, trade, consumption, policy formulation, etc.

1. To measure the size of the economy and level of country’s economic performance.

2. To trace the trend or speed of the economic growth in relation to previous year(s) as well as to other countries.

3. To know the structure and composition of the national income in terms of various sectors and the periodical variations in them.

4. To make projection about the future development trend of the economy.

5. To help government formulate suitable development plans and policies to increase growth rates.

6. To fix various development targets for different sectors of the economy on the basis of the earlier performance.

7. To help business firms in forecasting future demand for their products.

8. To make international comparison of people’s living standards.

However it has its own “Limitations”……….

3 Interpretation of National Income

National Income = National Product = National Expenditure

The sum of values of all goods and services produced

( Production).

The sum of all incomes, in cash and kind, accruing to factors of

productions in a year (Distribution).

The sum of consumers, investment and government expenditure (Expenditure).

Circular Flow of Income

Modern Economy is a monetary economy

Money act a medium of Exchange

A circular flow of money or income exist

Each money flow is in opposite direction to real flow

Flow of money income will not always remain constant

Economy

Household Sector

Firms or Business Sector

Government Sector

Foreign Sector

Two Sector Model of Income Distribution

Business Firms Households

Factor PaymentsRent, Wages, Interest, profits

Economic Resources Land, Labour, Capital, Enterprise

Consumption Expenditure

Goods and Services

Assumptions

No savings from household or business firms Government has no role in the national economy It’s a closed economy

Three Sector Model of Income Distribution

What if household save?

The expenditure on goods and services decline Savings reduces the flow of money expenditure to the business firms Firms hire fewer workers / reduce factor payments

Causes a fall in Economy's Total Income.

Hence savings a “leakage” from the money expenditure flow

Savings = Investments

Investment is injection of money in circular flow of income



Factor Payments


Financial MarketSav

ings

Borrowing

for investments

What if Investment ≠ Savings?

Investment < Savings

Stocks of goods will Increase Demand reduces Production falls Investment in capital goods will fall Income , output and employment Falls Flow of money contracts

Which leads to Rate of interest falls Leads to increase in investment

HenceSavings = Investments

What if Investment ≠ Savings?

Investment > Savings

Stocks of goods will falls Demand rises Production rises Investment in capital goods will rise Income , output and employment increases Flow of money expand

Which leads to Rate of interest rise Leads to increase in savings

HenceSavings = Investments

Why are poor countries poor?

Economic Wealth : Man-made resources (road, factories, machines, communication

system) Human Resources ( Hard and education) Technological Resources ( High tech machinery)

Poor countries should grow rich by investing money in physical resources and developing human and technological resources.

Poor countries should grow faster as new investments have the biggest rewards.

Rich countries don’t gain much from further investments:

“ law of diminishing returns”

Why are poor countries poor?

So what should they do? They should improve there education, technology and infrastructure. Since the Returns for investors are high, there should be no

shortage of Investment. Countries should take loan from banks for reconstruction and

development. Countries can take foreign aids from rich countries.

This didn’t happen? WHY? Except for countries like Taiwan, South Korea, China, India,

Singapore

Money Flows with Government Sector

Government absorbs a good part of the incomes earned by Households.

Government purchases goods and services from firms Government spends on capital goods, infrastructure, defence,

education and health etc. Household and firms pay taxes to Government. Government also finance their expenditure by borrowing from the

financial market Hence the Government

Intervenes and take preventive and corrective action to stabilise an Economy



Financial Market

Government

Borrowing

Factor Payments


Total Expenditure (E) = C + I + GConsumption Expenditure (C)Investment Expenditure (I)Government Expenditure (G)

Total Income (Y) = C + S + TConsumption ( C)Savings (S)Taxes ( T )

E = YC + I + G = C + S + T

I + G = S + TG – T= S – I

G> T (Budget deficit) Government borrows from the financial market

Four Sector Model of Income Distribution


Financial Market

Government

Borrowing

Factor Payments


Foreign Sector

Four Sector Model of Income Distribution

Balance of Trade Export (X) = Import (M)

National Income = C + I+ G+ Xn ( X-M)

C + I + G + Xn = C + S+ T

India’ GDP growth rate

05-06 : 9.2%06-07 : 9.4%

07-08 : 9%

Economic Development Phase 1 : Pre-1991

Policy tended towards protectionism, with a strong emphasis on import substitution, industrialisation, state intervention in labour and financial markets, a large public sector, business regulation, and central planning.

Faced crises like Wars – China (61) & Pakistan (65, 71) Oil crisis (73, 79) Severe Draughts (65-67)

Economic Development Phase 2 : Post-1991

Late 80’s Policy changes

Eased restrictions on capacity expansion for incumbents, Removed price controls and Reduced corporate taxes.

This increased the rate of growth, But led to high fiscal deficits and a worsening current account.

Balance-of-payment crisis The collapse of the Soviet Union, which was India's major

trading partner. Gulf War, which caused a spike in oil prices.

Concepts of National Income

The basic concepts…

GNP vs GDP Market Price Vs Factor costs Gross Vs Net Nominal Vs Real

PI ( Personnel Income) Disposable Income Per capita

Gross Domestic Product (GDP)

GDP = C + I + G + (X-M)

“sum total of values of goods & services produced in the country, in a given year”

GDP vs GNP

GDP vs GNP

Gross National Product (GNP)

GNP = GDP + net factor income from abroad

“sum total of values of goods & services produced by the nationals of a country, in a given year”

Net factor income from abroad:

Is the difference between

income received from abroad by the normal residents of India for rendering services in other countries and

the income paid to the foreign residents for the services rendered by them in India.

GDP vs GNP

Gross National Product (GNP)

GNPMP = GDPMP + net factor income from abroad

GNP = C + I +G + (X-M) + (R-P)

R = Income receipts from abroad

P = Income paid abroad

Requirements for Calculating GNP

It measures the market value of annual output It’s a Monetary measure GNP accounts for goods that are traded through official market

i.e free of cost are not included All good and services must be counted once Income earned through illegal activities are not included

GDP Vs GNP

GDP Used when the purpose is to measure the product generated in a

country. i.e. whatever is produced in India, will go to constitute GDP, no

matter even if foreigners have contributed towards it

GNP Used when the purpose is to measure the product that accrues

to the citizens of a country. i.e. whatever is produced by Indian nationals whether inside or

outside the country will form GNP of India

Market Prices Vs Factor Costs

The GNP / GDP can be estimated at Market Prices Factor Cost

The Market Prices is a resultant of Indirect Taxes; and Subsidies

Factor Cost = Market Price – Indirect Taxes + Subsidies

Hence Factor Cost estimates are more ‘real’.

Gross Vs Net

In the process of creating national product – there is erosion of total productive assets

Net estimates account for this erosion (called Depreciation)

Net = Gross - Depreciation

Nominal Vs Real

The price trend does not remain constant, it can rise or fall.

Hence the estimates in terms of money value will increase as price of commodities have risen even if their physical output hasn’t.

Economic Growth implies increase in real or physical output than the rise in money value of output.

Adjustment of the National Income figures for the change in prices needs to be done. – Deflating the NI

‘Real’ estimates account for this increase in prices

Nominal Vs Real

Increase in Price : Is denoted by Price Index

Price Index

Selection of Base year : (Current base year 1999-2000)

Price Index for Base year is taken to be 100

Price Index for the current year Current Year Prices / Base Year Prices X 100

So if Price index is 145 – then prices as compared to Base year have increased by 45%

Nominal Vs Real

Nominal Estimates Real estimates = ---------------------------- X 100

Price Index

Hence Nominal = Estimates at current prices Real = Estimates at fixed prices

The Estimates

Estimate Definition

GDP C + I + G + (X-M)

GNP GDP + NFIA

GDPFC GDPMP – Indirect Taxes + Subsidies

NDP GDP - Depreciation

Real GDP Nominal GDP/ Price Index * 100

GNI GNP

NNP GNP - Depreciation

NI NNPFC

National income (NI) or National Income at

Factor Cost (NNPFC)

It refers to the sum of all incomes earned by factor owners for their contribution of factor services namely land, labour, capital and enterprises in the form of rent, wages, interest and profit.

NI = NNPFC = NNP MP - Indirect Taxes + Subsidies

Personal Income (PI) It is the sum of all incomes received by all individual or households during a given year.

PI = National Income + Transfer payments – (Social security +

Corporate Income tax + Undistributed Profits)

Transfer Payments = Incomes which are not earned but received

( Old- age pensions, unemployment compensation, relief payments)

Disposable Income (DI)

DI= Personal Income – Personal Taxes

Or

Disposable income can either be consumed or saved

DI= Consumption ( C) + Savings (S)

DI includes Transfer payments

It is the total income earned and unearned of individuals minus direct taxes.

Per Capita Income (PCI)

Per capita income (or) output per person is an indicator to show

the living standards of people in a country.

If real PCI increases, it is considered to be an improvement in the overall living standard of people.

National Income

PCI = ---------------------------

Population

The EstimatesEstimate Definition

GDP C + I + G + (X-M)

GNP GDP + FIFA

GDPFC GDPMP – Indirect Taxes + Subsidies

NDP GDP - Depreciation

Real GDP Nominal GDP/ Price Index * 100

GNI GNP

NNP GNP - Depreciation

NI NNPFC

PI NI + Transfer Payments – (Social Security + Corporate Income Tax + Undistributed profits)

DI C + S or PI – Personal Taxes

PCI NI/ Population

Examples…

GNP 500 ( Rs Cr)

Capital Consumption Allowance - 50

Net National Product (NNP) 450

Indirect Taxes - 60

Subsidies 10

National Income ( NI ) 400

Corporate Profits - 70

Dividends 15

Government Transfer payments 25

Personal Income 370

Personal Indirect Taxes - 70

Disposable Personal Income (DPI) 300

Personal Consumption expenditure - 275

Personal Savings 25

Exercise

Q1. Find the Personal Disposable Income (PDI)

Rs. Trillion

National Income = 20

Undistributed Profits = 1.00

Corporate Taxes = 2.00

Personal Taxes = 1.50

Ans.

Exercise

Q2. Find the NIFA

Rs. crores

GDPFC = 7,00,000

NNPFC = 8,00,000

Depreciation = 7,000

Subsidies = 1,000

Indirect Taxes = 1,00,000

Ans.

Exercise

Q3. Find the GNPMP and NNPMP

Rs. crores

GDPFC = 10,000

NFIA = 500

Indirect Taxes = 1,000

Subsidies = 500


Ans.

Exercise

Q4. Find the GNPMP , NNPFC and PDI

Rs. Lakh crore

GNPFC = 15.00

Indirect Taxes = 2.00

Subsidies = 1.00

Depreciation = 1.2

Undistributed Profits = 0.5

Corporate Taxes = 3.00

Personal Taxes = 1.50

Ans.

Exercise

Q5. Find the GNPMP , GDPMP, NNIMP, NDPMP and PDI

Rs. crore

GDPFC = 30,000

Indirect Taxes = 4,000

Subsidies = 2,000


Undistributed Profits = 1,250

Corporate Taxes = 6,000

Personal Taxes = 4,000

Factor Income received from abroad = 7,500

Factor income paid abroad = 9,000

Ans.

Q6. A) Find the real national income or national income at constant price. B) Find the real annual growth in NI for various years

Year NI AT

Current Prices (Rs 000’ crores)

Wholesale Price Index Number

(Base 1993-94=100)

1994-95 854.1 112.6

1995-96 941.8 121.6

1996-97 1093.9 127.2

1997-98 1376.8 132.8

1998-99 1583.1 140.7

1999-00 1740.2 145.3

2000-01 1878.4 155.7

2001-02 2060.6 161.3

Methods of EstimatingNational Income

A quick recap…

NI = NNPFC

NNPFC = NDPFC + NFIFA

NDPFC = GDPMP – D + S – T

We will now estimate NDPFC by the 3 methods

3 Interpretation of NI

National Income = National Product = National Expenditure

Y= O=E

The sum of values of all goods and services produced ( Production).

The sum of all incomes, in cash and kind, accruing to factors of productions in a year (Distribution).

The sum of consumers, investment and government expenditure (Expenditure).

Sectors used for Estimates

3 Methods of estimating NI

1. Value Added Method

2. Income Method

3. Expenditure Method


Called as Output or Production method

Value added is the difference between a firm’s sales and its purchase of raw materials and services from other firms.

The economy is divided into different industrial sectors:

Agriculture, fishing, mining, manufacturing, construction,trade, transport, communication ..............

Contribution of each enterprise to the generation of flow is measured


ObjectiveEstimate

Total Output/ Production

Method of Estimation

Value Add

Value AddOutput

PriceInput Cost

Source of Data

Enterprises

The Process

Classification into industrial sectors

Calculate Net Output for each enterprise

Subtract – Input cost

Subtract – Depreciation & Indirect Tax

= Value Add of each enterprise

Collate for all enterprises in a sector

Collate for all sectors

Total units produced X MRP

O - I = P (production)

P – D + S – T

Sector contribution

NDPFC

Precautions

To be Included in NI

1. Rent of self- occupied

houses

2. Value of production for self

consumption

Not to be included in NI

1. Sale and purchase of second hand goods

2. Value of intermediate goods

3. Value of services of Housewives

2. Income Method

It approaches NI from distribution side

To produce goods and services we require the factors of production

The owners of these factors participate in the production for which they receive INCOME – Wages, rent, interest and profit.

It identifies the productive enterprises and classify them into various sectors

It’s the sum of incomes of all individuals of a country

2. Income Method

ObjectiveEstimate

Total Income

Income

Wages, Rents,

Interests,Profits.

Difficulties in differentiating

earnings

land vs capitallabour vs entrepreneurial

function

Source of Data

Enterprises

Income Classification

LabourCapital Mixed

The Process

Classification into industrial sectors

Classify factor payments

Measure Labour Payments

Measure Capital Payouts

Measure Mixed Income(Salaries cum Profits)

Collate for all enterprises in a sector

Collate for all sectors

Labour, Capital, Fixed

Wages & Salaries

Dividends, Undistributed ProfitsInterest, Royalties, Rent

Sector contribution

NDPFC

Self-employed

Why have we not accounted for

1. Depreciation & Indirect Taxes2. Rent/ Interest income received by Individuals

3. Exports/ Imports

Precautions

To be Included in NI

1.Imputed rent of self- occupied

houses

2. Value of production for self

consumption


1. Transfer Payments

2. Illegal Money

3. Windfall gains- prizes, lotteries

4. Corporate profit Tax

5. Sale of second- hand goods

3. Expenditure Method

ObjectiveEstimate

Total Expenditure

Nature of Expenditure

Individuals or Households

Government Enterprises

Expenditure by foreigners on Exports – Expenditure

on buying Imports

The Process

Final private consumption expenditure

Government’s final consumption expenditure

Gross domestic capital formation(Fixed capital + Addition to stocks)

Net Exports

Summation = Total Expenditure

Subtract : Depreciation

C (individuals/ households)

G

I (enterprises)

C + G + I + (X-M) = GDPMP

GDPMP – D = NDPMP

X - M

Subtract : Indirect taxes NDPMP – (S-T) = NDPFC

Precautions


1. Sale and purchase of second hand goods

2. Expenditure on intermediate goods

3. Expenditure on Transfer Payments

4. Purchase of shares and Bonds as they do not add to NI.

In Sum

Value Added NI = (P-D) + (S-T) + (X-M) + (R-P)

Income NI = (w + r + i + n) + (X-M) + (R-P)

Expenditure NI = (C + I + G) + (X-M) + (R-P)

Choice of Method

Choice of Method depends upon

i) The purpose of national income analysis

ii) Availability of necessary data

The task of estimating NI in India is with CSO ( Central statistical organization)

CSO uses output and Income method Output Method – Agriculture and Manufacturing Income Method - Services

Difficulties in calculating NI 1. Non- Monetized Transactions

2. Black Money

3. Double Counting

4. Transfer Incomes

5. Growing Service Sector

6. Household Services

7. Social Services

8. Environmental Cost

9. Government Incomes

10. Capital Gains

Difficulties in India

1. Reliable data is not available

2. Large regional diversity

3. Illiteracy

4. Lack of differentiation of economic functions

5. Presence of unorganized sectors

6. Presence of large non- monetized transactions

National income

Education

Transcript of National income