NATIONAL INCOME AND RELATED AGGREGATES

Transcription

1 NATIONAL INCOME AND RELATED AGGREGATES The modern concept of National Income is more dynamic in the content than earlier concepts. The National Income Committee of India defined national income as: A National Income estimate measures the volume of commodities and services turns out during a given period, counted without duplication. We can think of the aggregate income of an economy in three different ways. In an economy, there are three flows, flowing at the same time: income, output and expenditure. When something is produced factors of production is paid which is their income, which they (income receiver) spend on consumption or investment. Actually, expenditure is just another name for income. Three types of flows: income, output and expenditure are always equal to each other for a particular period of time giving rise to what we call triple identity: output = income = expenditure. GROSS NATIONAL PRODUCT (GNP) Gross National Product is the total amount of final goods and services which the labour and capital of a country working on its natural resources produced in a year. When we express the value of this aggregates output in money, it is called Gross National Income. Gross National Product at market price is the market value of the aggregate goods and services produced in the country in a year. There are two things we should be careful about GNP It is a monetary measure of the total goods and services produced during the period, because there is no other method of adding up the heterogeneous types of goods and services. GNP thus obtained is what economists would call Nominal GNP. But nominal GNP can not be considered to compare one year with the other. We may find nominal GNP for a particular year may be greater than previous year only because the price is raised, there being no change in actual production. For comparison over a time we need real GNP obtained when any change in price of goods and services which enter into output have been removed and taken care of. In calculating the value of production, we must take care to avoid firms are further processed by the other firms. Only the value added must be taken into account, that is, the value of intermediate goods has to be deducted. There comes a problem of distinction between final goods and intermediate products. Final products are those once produced and/or purchased but not resold during the current accounting period and goods purchased for resale with or without further processing in the physical sense are termed as

2 intermediate goods. Coal purchased by the household for direct consumption is final product but by a steel mill is an intermediate product. GNP figure represents the gross value of final product turned out by the whole economy in a specific period. NET NATIONAL PRODUCT (INCOME) When we deduct depreciation charges for renewals, repairs and obsolescence from gross national income we have Net National Income at market price. Thus, GNP at market price depreciation = NNP at market price. Depreciation means the loss of value suffered by nation s stock of fixed capital through wear and tear. The concept of NNP is that it clarifies the net increase in total production over and above current consumption and current replacement investment. GROSS NATIONAL EXPENDITURE In an economy total income always equal total expenditure, on account of the dual nature of monetary transactions. Without expenditure, there cannot be any income as one man s expenditure is other man s income. The earning of the factors of production is made of expenditure on goods and services by individual. GNE is the sum total of all consumption and investment expenditure. GNE consist of personal consumption expenditure, gross private domestic investment on new construction, net foreign investment and government purchase of goods and services excluding transfer payments, GNE is sum of all final expenditure and is not the sum of all expenditure made in a country during a given period. Only those transactions are to be included which pertain to the purchase of final goods and services and which don not exchange hands again during the same period, that is, it is essential to exclude all purchases which are of intermediate nature. GNE = C + I + I + G CP P h f p - Private consumer spending I h - Gross home investment I f - Net investment foreign expenditure Gp - Government purchases of goods and services

3 NET NATIONAL INCOME AT FACTOR COST It is the sum total of all payment made to the factors of production. The sum total of goods and services in a year are produced by the co-operation of the factors of production and such their money value is also distributed among the factors of production. National income at factor cost is as follows- All wages, salaries and supplementary incomes earned by employees against productive services rendered, plus Interests paid to private individuals, plus Net rent of all individuals, including imputed payments like the rents of selfowned houses, plus Net profit of all kinds of business, including the income of individual business like farmers, partnership, professionals men like lawyers, net earning of joint stock companies compromising dividend payments, undistributed profits and corporate taxes, minus Transfer payment that is those income payments for which no productive services is made in returns. In other words, which represents not payments for production of goods and services, but transfers of income through state or a similar public body from one set of individuals to another like social security ( unemployment allowance, old age pension etc) NNP at factor cost = wages, salaries, supplement + gross profit of corporate, non- corporate, public sector undertaking + all categories of rents including imputed rents + all types of interest earning + factors payment from abroad transfer payments. Relationship between Net National at market price and Net National Income at factor cost Indirect taxes goods produced are sold at market prices which include the indirect taxes imposed by the government. Indirect taxes are levied on commodities, such as excise duty on cloth etc. the market value exceeds when the tax is imposed by the amount of indirect tax, but this amount does not go to the factors of production. Net National income at factor cost shows the income actually received by the factors of production. Let us take an example, if the cost of producing a certain output is

4 Rs. 100, which is given to various factors of production as wages, salaries, rents, interest and profits. The government imposes taxes worth Rs. 25 on this output so that it is sold in the market for Rs This is the market value of the output, while the income payments made to the factors of production amount to Rs. 100 only. So we deduct the amount of indirect taxes from the NNP at market price to arrive at the NNP at factor cost. NNP at market price indirect tax = Net National Income at factor cost Subsidies a subsidy causes the market price to be less than the factor cost. Subsidy is an aid in money. Suppose handloom cloth is subsidized at the rate of Rs 10 per yard and sells at Rs20 per yard, the factors of production will receive Rs30 per yard. The money value of the cloth at the factor cost would be equal to its market price plus the subsidies paid on it. NNI at factor cost = NNI at MP plus subsidies indirect taxes Government Surplus some times government render productive services and earn profits- these profits or surplus earned by the government must be deducted before we can find out Net National Income at factor cost because these profits do not go to factors of production in the form of incomes but are deposited in the government treasury and therefore, must be deducted NNI at factor cost NNI at market price plus subsidies indirect taxes and govt earned profits OTHER CONCEPTS 1. Personal income it is the total of incomes received by all persons from all sources, it consist of wages and salaries, interest, rent and dividends received by individuals including the corporate bodies. It also includes the income of selfemployed persons such as farmers, shop-keepers etc. personal income is equal to national income minus the undistributed profits of companies and public enterprises plus transfer payment received by persons. The difference between personal income and national income is that transfer payments while excluded from national income are included in personal income. 2. Disposable income personal income as defined above is not the income over which persons have complete command to spend, to save or to give away in any manner they like. Income tax, tax insurance contributions are obligatory payments which must be deducted to obtain what may be called Personal Disposable Income. When all possible deducted all possible deduction of all

5 sorts are made the remainder may be called Disposable Income. Thus, it is that part of the personal income that remains in the hands of the individuals after payment of direct taxes 3. Per capita income Per capita income of a country usually refers to the average earning or income of an individual in a particular year in that country. Per capita income is expressed at current prices. To find out the per capita income of a certain year in a country, we divide the national income of that country by the population of that country. Therefore high national income and less population will higher per capita income. Per capita enables us to know the standard of living of the people and is an indication of economic development. GROSS DOMESTIC PRODUCT GDP is the short from for gross domestic product. This is the most often used term to measure what are known as National Income accounts, which, as the name suggests are the measure of how much product a country generates. It includes the value of final goods and services produced, such as agricultural, industrial, etc. and the value of services as transportation, communication, doctors, lecturer etc. the output of each of these is valued at its market price, and the values are added together to get GDP. Production is transformation of inputs into output, GDP inputs such as labour and capital are called factors of production and the payments made to the factors of production are called factor payments. GDP is gross because it includes the cost of depreciation of plant and machinery, or any other capital good that is used in the process of production. If we subtract the cost of depreciation, we get Net Domestic Product. It is called Domestic because it measures the value of goods and services produced within the geographical boundaries of a country. So this includes the value of exports but not the value of imports as they are not made in the home. The price of any good in the market includes the tax levied on it, it is called the GDP at market price and if it excludes the taxes it is called the GDP at factor cost. GDP is measured into three categories- agricultural, industry and services. In India, agriculture GDP is measured both inclusive and exclusive of GDP in the forestry, fishing and logging, apart from GDP from cultivation. Industry contribution to GDP is measured at disaggregated level by dividing the industries into groups on the basis of the kind of product being manufactures. Accounting for services is problematic because administration and government services contribution to GDP is well accounted for and are rendered by unregistered small entities which is next to impossible to measure

6 DIFFICULTIES IN CALCULATING NATIONAL INCOME ACCOUNTING 1. Types of goods and services the kinds the goods and services which should be included in national income pose a problem. Goods and services having money value are included in the national income but there are goods and services which may have no corresponding flow of money payments. Services which are performed for love, kindness and mercy and not for money have no money value. The difficulty is whether these services should be included in national income and how to measure their money value, e.g., a paid maid servant s services are included in the national income but the later when she marries the master; she is not paid anymore, though she continues to perform the services. There is, thus reduction in the national income. There fore there is a general principle to exclude such household activities of housewives, home repairs, washing, cleaning, and shaving or do it yourself activities from national income because of the great practical difficulties in valuing the output resulting from activities. 2. problem of double counting Double counting implies the possibility of a commodity like raw material or labour being included in national income more than once, e.g., a farmer sells maize worth rupees two hundred to a mill-owner, the mill-owner further sells maize flour to the whole sale dealer, who further sells it to consumer; if we calculate it at every stage, its money value will increase to eight hundred rupees but actually the increase in the national income had been to the extent of two hundred rupees only. The best way to avoid this difficulty is to calculate only the value of all goods and service that enter into final consumption and not the value of intermediate goods and services. 3. excluded market transaction certain transaction that take place in the market are excluded from the computation of national income because they violate the general rule for the recognition of income- the goods and services must be currently produced and must use up the currently available scare resources. Many of the transactions are such that represent merely the transfer of wealth or the exchange of the commodities produced in some previous accounting period. Transfer payment- it is associated with the income method of national income calculation. The transfer of money from one person or group to another person should be avoided and the best way to solve this difficulty is to consider only disposable income of individual or groups i.e., personal income minus all transfer payments. Transfer payment

7 refers to those income payments which are not the result of any current productive activity on the part of income receiver. It refers to merely a transfer or redistribution of income from person to person, form firms to persons or government and from government to persons and business firms, e.g., social security payment like pension, direct relief payment like unemployment allowance, prize, money of business firms, gifts, charity payment, awards, scholarship. Capital gains- capital gains or losses represent increases in the value of the capital assets resulting from a rise or fall in the market prices of the assets. These gains and losses which are caused by changes in the valuation of assets are excluded from the national income accounts because they do not represent any increase or decrease in the national product flow stream on account of productive activity rendered. If the market value of land or building rise on account of inflation, the owner no doubt will gain. But from a macroeconomic accounting viewpoint, such gain are immaterial and do not matter because the real estate of the economy, thereby, does not increase. The increase in the value of land due to mere rise in prices is basically different from the increase in the value of land resulting from improvement made on it, these improvements like planning, digging a well, leveling etc. represent current flow f productive activities, as such, the increase in the value of land will be included in the national income accounts but not otherwise; if it merely a change gain or windfall. Illegal activities- al unlawful and illegal activities, whether economic or not, are omitted from national income accounting. Income earned through illegal activities like smuggling, black marketing, gambling, betting, adulteration, bribery etc are excluded on the ground that these activities are illegal and therefore cannot be included in the national income accounts. Second hand sale the most obvious item for exclusion from the national income and product accounts is the second hand sales. In such sales the individual or economic units merely exchange ownership of an already existing good, when no income is created in the process from the current production. Even if the profit is made, there is not income generated in the accounting sense, for the gain is offset by recording of the good at the transaction price by the buyer. In short the entire transaction has to be ignored whether gain or loss. If however, a reward is offered to someone who brings the buyer and seller together, the reward is recorded as income. The function of the

8 broker, used car salesman, dealers of many kinds, auctioneer, are few examples. 4. Problem of imputed values- there are certain goods and services which do not appear in or cannot be brought to the market. In such cases we have to impute values to them. It means to give or to fix their values, in case they had been brought to the market. The procedure although very logical yet is beset with number of practical difficulties because the task of imputing or fixing values is not easy. Crops raised on the farm like wheat, rice etc. and consumed by the farmer and his family on the farm, person living in his own house, managing directors of corporate receiving fringe benefits like free residence, furniture, medical allowances etc. in addition to the salary. The monthly salary of the managing director will be imputed in the national income and also the imputed money value of the fringe benefits. When some goods and services, representing current economic activities in the economy don not appear on the market, an imputed value equal to the market value of similar goods and services is assigned to them for the purpose of including the value of these goods and services in the national product and income account. 5. Depreciation- depreciation implies a reduction in the value of capital stock or capital goods due to wear and tear, constant use etc. during the process of production the wear and tear or capital consumption occurs, resulting in, at the same time, a decline in the relative efficiency of the plant and equipment on account of obsolescence. However the problem of correctly estimating depreciation is equally difficult task e.g., a machine may be used more intensively in one year than the other. But the rate of depreciation remains the same though it should differ between two years. Again the depreciation of the similar equipment may differ between two business units. CALCULATION OF NATIONAL INCOME The important methods are as follows- 1. The product method- it is also known as inventory method or commodity service method. It consists in finding out the market value of all goods and service produced in a country during a given period. We sum up the value of the gross product of all producers in an industry and from this total are deducted the value of the intermediate products consumed and depreciation of equipment during the process of production. The total of estimate would give us net domestic product at factor cost classified by individual origin. The addition of

9 net income from abroad to this total would give us net national income at factor cost. 2. The income method- this method consist in adding together all the incomes that accrue to the factors of production by way of wages, rents, interest, and profits. This gives us national income classified by distributive shares. The factors owners are paid for the productive services rendered them in money. The total money payment made to the factor of production in the economy presents the total money value of factors of production. Thus GNP is found by adding up the total factors incomes generated in producing the national product. 3. The expenditure method under this method we added up the personal consumption expenditure, the gross private domestic investment, the government purchases of goods and services and the net foreign investment to obtain GNP at market prices. We deduct depreciation to obtain NNP at market price; less indirect taxes give us national income at factor cost. In this method, the GNP is regarded as a flow of total goods and services bought through the money payments by the community. Expenditure method might differ from the value of GNP obtained through the product method because the total purchase by the community during any given time period may be either more or less than the total production of the period 4. Social accounting method this is another method of measuring national income developed in the recent times. According to the social accounting method various types of transactions are classified in different group. These are producers, traders, final consumers, etc. estimates of national income are prepared after taking into consideration the figures of transactions of certain representative persons with similar economic position belonging to different groups. 5. Combined method it is not possible to estimate correctly the national income by adopting a particular method. Each method has its own weaknesses. In order to overcome these practical difficulties we make use of two or three methods to find out true national income- it is called mixed or combined method.

10 VALUE ADDED VERSES FINAL GOODS APPROACH GNP is the money value of all final goods and services produced in an economy during a given period; it has to be seen that the intermediate goods are excluded as their inclusion may amount to double counting resulting in an over estimation of the GNP. There are two possible solutions to their problem- Take the sum of the values added at each stage Take the values of the final products In the final gods method we exclude the value of all those goods and service which are of intermediate nature to the process of production in the preparation of bread, and include only final goods in the computation of GNP. In the other method is the value added approach under which we estimate the increase in the value which each sector of the economy imparts during the production to the inputs which it gets from other sectors, and then we add up the value increases made by all different producing sectors of the economy. The values added by a process to products passing through it during a given period can be found by subtracting the value of the inputs from the value of the product leaving the process. Suppose we imagine a simple economic system producing bread only. This system produces all the necessary inputs for the production of the bread, but the final product that it produces is bread alone. We assume, there are mainly four parts to the production process, first, wheat is produced, then flour, then dough and finally the bread. Production Sales Cost intermediate Value added process goods (1) (2) (3) (4) Wheat Flour Dough Bread Value of final Product Total Sum of all value added

11 We can see the wheat is produced and sold to the flour maker for rupees four. Since there is no production prior to wheat, the wheat producer added the value of Rs.4 to economy output. The value added by the wheat producer is Rs.4. the flour maker further the flour to dough maker for Rs.6. the flour maker paid Rs.4 for wheat (input) and sold the flour(output) to the dough maker for Rs.2. the value added by the flour maker, therefore, is Rs.2. when the dough maker finishes his work with the flour, i.e., he sells the product to the bread maker for Rs.12 the value added by the dough maker is Rs.6. the bread maker prepares bread worth Rs.20, there by adding the value of Rs.8 to the product. Thus the total sale is Rs.42 but this includes the value of intermediate products and thereby represents more than final product alone. If we subtract from Rs.42 the cost of intermediate goods we get the value of final product, i.e., bread worth Rs.20. the sum of all value added is equal to the value of the final product. This is obtained by adding the value of all final output. In order to avoid the problem of double counting, value added method should be employed

12 1. National Income = NNP at factor cost 2. personal disposable income = personal income personal income tax 3. GNP at market price = GDP at market price + factor income from abroad 4. GNP at factor cost = GNP at market price Indirect tax + subsidies 5. GDP at market price = GDP at factor cost + indirect tax subsidies 6. GDP at factor cost = GNP at factor cost net factor income abroad 7. NNP at factor cost = GDP at market price + net income from abroad depreciation + subsidies indirect tax 8. NDP at factor cost = NDP at market price indirect tax + subsidies 9. NDP at market price = NNP at market price net factor income abroad 10.Net income from abroad = GNP at market price GDP at market price 11.Net income from abroad = NNP at market price NDP at market price 12.Personal saving = Personal disposable income consumption 13.Depreciation = GNP at market price NNP at market price 14.Subsidies = GNP at factor + indirect tax GNP at market price 15.NNP at market price = GNP at market price depreciation 16.GDP at factor cost = wages + dividends + retained profits + profit tax 17.GNP at factor cost = GDP at factor cost + net factor income from abroad 18.net factor income from abroad = factor income received from abroad factor income paid abroad 19.GNP at market price = GDP at market price + net factor income from abroad