Download Concepts of National Income BCI/CAIIB/ECONOMICS/2014 1

Concepts of National Income
BCI/CAIIB/ECONOMICS/2014
1. National Income is a useful yardstick to measure the annual economic performance of the economy.
2. National Income is defined as the sum total of factor income earned by the residents of a country in one year or
it is the market value of final goods and services produced by the residents of a country during an accounting year.
3. Broadly speaking, there are eight concepts of national income – GDPMP, GNPMP, NDPMP, NNPMP, GDPFC, GNPFC,
NDPFC and NNPFC. Here, MP refers to Market Price & FC refers to Factor Cost.
GDPMP is Gross Domestic Product at MP. GNPMP is Gross National Product at MP. Likewise, NDPMP is Net Domestic
Product at MP and NNPMP is Net National Product at MP.
Similarly, GDPFC is Gross Domestic Product at FC. GNPFC is Gross National Product at FC. Likewise, NDPFC is Net
Domestic Product at FC and NNPFC is Net National Product at FC.
For a better understanding of these concepts, we need to look at three fundamental terms:
a) Depreciation (or consumption of Fixed Capital) – This concept is used to make distinction between gross and net.
If we deduct depreciation from gross we get net and if we add depreciation to net we get gross.
So, GDPMP – D = NDPMP & NDP + D = Corresponding GDP
b) Net Indirect Tax (NIT) – NIT is the difference between Indirect Tax & Subsidies i.e, NIT= IT-S. This concept is used
to make distinction between MP and FC. If we deduct NIT from MP, we get FC and if we add NIT to FC we get MP.
So, NDPFC = NDPMP – NIT, NNPFC = NNPMP –NIT. Similarly, GDPMP = GDPFC + NIT & GNPMP = GNPFC + NIT
c) Net Factor Income from Abroad (NFIA) – This is defined as the difference between factor income received from
abroad and the factor income paid abroad. If we deduct NFIA from national, we get domestic and if we add NFIA to
domestic, we get national.
So, GNPMP = GDPMP + NFIA, NNPFC = NDPFC + NFIA
Net National Product at Factor Cost (NNPFC) is called National Income and Net Domestic Product at Factor Cost
(NDPFC) is called Domestic Income.
In an economy, there are Four sectors which are as follows:
Households – Families or individuals who supply factors of production (Land, Labour, Capital & Enterprise) to the
Firms and buy goods and services from the Firms.
Firms – Economic units which carry out production of goods and services with the help the factors of production.
Government – The State, which maintains law & order, imposes tax & fines makes laws and works for the well
being of its citizens.
External sector – It refers to economic transactions of the domestic country with the rest of the world.
Circular flow of money continues between the sectors of the economy. If we consider a simple or two-sector
economy, then we find that households render factor services to firms and firms produce goods & services to pay
for further services. Again, firms pay money (in the form of rent, wage, interest & profit) to the households for their
factor services the households in turn pay money to the firms to purchase their goods and services.
Of the three methods of looking at national income: i) Income distribution, ii) Final expenditure & iii) Value added,
we will discuss the first two in some details.
i) Income method – It is the method which measures National Income from the side of payments made in the form
of wages, rent, interest & profit to the factors of production for their productive services in an accounting year
increased by net factor income received from abroad. In this method, national income is measured at the stage
where factor incomes are paid out by the producing enterprises to the factors of production. The main steps are:
a) Classify the producing enterprises into Industrial sectors like Primary, Secondary & Tertiary
b) Estimate the factor income paid out by the production units in each sector in the form of –
- wages +salaries + employer’s contribution towards social security schemes
- rent & royalty, interest & profit
-mixed income of self employed units (where factors of production & enterprise is the same
individual/household)
c) Take the sum of Factor Incomes by all industrial sectors to arrive at the net domestic product at Factor Cost
(NDPFC) which is called Domestic Income
d) Add net factor income from abroad to NDPFC to arrive at the net national product at Factor Cost (NNPFC) which is
called National Income.
Expenditure method – This method measures the final expenditure on gross domestic product at market price
during an accounting year. This total final expenditure is equal to gross domestic product at Market Price. In this
method, national income is measured at the point of expenditure. The main steps in this method are:
a) Classify the economic units incurring final expenditure into distinct groups like household, firms, government etc.
b) Estimate the following expenditure on final products by all economic units- Pvt. final consumption expenditure (PFCE)
- Govt. final consumption expenditure (GFCE)
- Gross domestic capital formation (GDCF)
- Exports – Imports (X-M)
The sum total of all the above expenditure on final products of all the sectors of the economy gives us Gross
Domestic Product at Market Price (GDPMP).
If we deduct depreciation (D), net indirect taxes (NIT) from the gross domestic product at market price, we get net
domestic price at factor cost (NDPFC). So, NDPFC = GDPMP – D – NIT
If we add net factor income from abroad (NFIA) to the net domestic product at factor cost (NDPFC) we get net
national product at factor cost (NNPFC) which is the national income.
Let us work out with the help of a few examples:
1. From the following data, calculate: a) GDPMP b) NNPFC
i) Net domestic product at MP = 74905cr ii) NIT = 8344cr iii) Depreciation = 4486cr iv) NFIA = -232cr
a) GDPMP = 74905 + 4486 = 79391cr b) NNPFC = NDPMP – NIT + NFIA = 74905 – 8344 -232 = 66329cr
2. From the following data calculate: a) GNPMP b) NNPMP c) NDPMP d) NDPFC
i) GNPFC = 113882cr ii) Indirect taxes = 6744cr iii) Subsidies = 2839cr iv) NFIA = 298cr v) Consumption of Fixed
Capital = 8048cr
a) GNPMP = GNPFC + NIT = 113882 + 6744 – 2839 = 117787cr
b) NNPMP = GNPMP - D = 117787 – 8048 = 109739cr
c) NDPMP = GNPMP – D – NFIA = 109739 – 298 = 109441cr
d) NDPFC = NDPMP – NIT = 109441 – 3905 = 105536cr
3. Given the following data calculate: a) GDPMP b) GNPMP c) NNPMP d) NNPFC e) NDPMP f) NDPFC
i) GDPFC = 25215cr, ii) NIT = 1575cr iii) Depreciation = 1000 iv) NFIA = 40
a) GDPMP = GDPFC + NIT = 25215 + 1575 = 26790cr
b) GNPMP = GDPMP + NFIA = 26790 + 40 = 26830cr
c) NNPMP = GNPMP – D = 26830 – 1000 = 25830cr (or GDPMP – D + NFIA)
d) NNPFC = NNPMP – NIT = 25830 – 1575 = 24255cr
e) NDPMP = GDPMP – D = 26790 -1000 = 25790cr
(or NNPFC – NFIA + NIT)
f) NDPFC = GDPFC – D = 25215 -1000 = 24215cr
(or NDPMP – NIT)
Misc examples:
1. Rent free house to an employee by an employer is part of wages in kind. Therefore, it is part of national income.
2. Purchases by foreign tourists in India generate income for Indian people just like other exports and leads to the
creation of flow of goods & services. Therefore, such purchase is included in national income.
3. Salary received by Indian residents working in American Embassy in India is not part of domestic factor income in
India (As American Embassy is American Territory in India).
4. Profit earned by an Indian Bank Branch in Singapore is not a part of domestic factor income as the branch in
Singapore is not within Indian territory.
5. Compensation to employees given to residents of China working in Indian Embassy in China is not part of
domestic income.
6. Salary received by Indian residents working in American Embassy in India is a factor income from abroad (As
American Embassy is American Territory in India) and will be included in national income.
7. Gifts received from abroad are not included in national income because these are transfer receipts without
rendering any service or supply of goods in return.
8. Profits earned by branches of Foreign bank in India is a factor income paid abroad and so not a part of domestic
factor income.