National Income and Its Measurement

1. National Income Definition

• Total value of a country's final output of all new goods and services produced in one year.
• A.C. Pigou: National income is that part of objective income of the community, including the income derived from abroad which can be measured in monetary terms.
• Focus on final goods and services to avoid double counting.

2. Key National Income Concepts

a) Gross Domestic Product at Market Prices (GDP_MP)

• Market value of all final goods and services produced within a domestic territory in a year.
• Production done by residents or non-residents within the country.
• Everything is valued at market prices.
• Formula: GDP_MP = C + I + G + X - M (Consumption + Investment + Government Expenditure + Net Exports)

b) GDP at Factor Cost (GDP_FC)

• GDP at factor cost is gross domestic product at market prices, less net indirect taxes.
• Market prices include product taxes and subsidies. Factor cost refers to prices received by producers.
• Formula: GDP_FC = GDP_MP - NIT (Net Indirect Taxes)
• Note: Net Indirect Taxes = Indirect Taxes - Subsidies.

c) Net Domestic Product at Market Prices (NDP_MP)

• Measures how much a country can spend to maintain current GDP if it cannot replace capital stock lost through depreciation.
• Formula: NDP_MP = GDP_MP - Depreciation

d) NDP at Factor Cost (NDP_FC)

• NDP at factor cost is the income earned by factors of production (wages, profits, rent, interest, etc.) within the domestic territory.
• Formula: NDP_FC = NDP_MP - Net Product Taxes OR NDP_FC = National Income.

e) Gross National Product at Market Prices (GNP_MP)

• Value of all final goods and services produced by normal residents of India, valued at market prices.
• GNP refers to all economic output produced by a nation's normal residents, regardless of location.
• Formula: GNP_MP = GDP_MP + NFIA (Net Factor Income from Abroad)
• NFIA = Factor income earned by residents from abroad - Factor income paid to non-residents from domestic territory.

f) GNP at Factor Cost (GNP_FC)

• Measures value of output received by factors of production belonging to a country.
• Formula: GNP_FC = GNP_MP - Net Product Taxes

g) Net National Product at Market Prices (NNP_MP)

• Measure of how much a country can consume in a given period of time.
• NNP measures output regardless of where production has taken place (domestic or abroad).
• Formula: NNP_MP = GNP_MP - Depreciation

h) NNP at Factor Cost (NNP_FC) - National Income (NI)

• Sum of income earned by all factors in the form of wages, profits, rent, interest, etc. belonging to a country.
• It is the National Product and is not bound by production in national boundaries. It is the net domestic factor income added with the net factor income from abroad.
• Formula: NI = NNP_MP - Net Product Taxes OR NI = NNP_FC

i) GVA at Basic Prices & GVA at Factor Cost

• GVA_MP - Net Product Taxes
• GVA at basic prices - Net Production Taxes

3. Three Measurements of National Income

a) Value Added Method (or Product Method)

• Measures GDP at market prices by totaling values of outputs produced at different stages of production.
• Caution: Avoid double counting (e.g., intermediate goods).
• Includes: Goods/services sold, goods/services not sold but supplied free of cost, second-hand items (not new production), non-economic goods (air, water - generally excluded), transfer payments (excluded), imputed rental for owner-occupied housing (included).

b) Income Method

• Aggregates payments made to factors of production (households, called factor payments).
• Income earned by citizens and businesses of a country.
• Factors of Production: Land (rent), Labour (wages), Capital (interest), Enterprise (profit).
• Formula: GDP = Wages + Interest Income + Rental Income + Profit + Indirect Taxes - Subsidies + Depreciation.
• Profit can be further sub-divided into: profit tax, dividend to all shareholders, and retained profit.
• Suitable for India for services sector.
• Excludes: Transfer payments, illegal activities, windfall gains.

c) Expenditure Method

• Measures final expenditure on GDP.
• Sum of expenditure refers to all spending on currently-produced final goods and services.
• Key components: Households (Consumption), Firms (Investment), Government (Government Expenditure), Foreign (Net Exports).
• Formula: GDP_MP = C + I + G + (X - M)
• C = Consumption, I = Investment, G = Government expenditure, X = Export, M = Import.

4. Factors Affecting National Income

a) Factors of Production

• Land: Natural resources (coal, iron, timber) available and accessible.
• Capital: Quality and quantity of capital, investment.
• Labour: Quality and productivity of human resources, manpower planning.
• Enterprise: Size of national income depends on number and skill of entrepreneurs.

b) Technology

• Important for nations with fewer natural resources.
• Affected by level of invention and innovation.

c) Government

• Provides a favourable business environment, law and order, infrastructure.

d) Political Stability

• Helps in appropriate allocation of resources.
• Wars, strikes, social unrests discourage investment and business.

5. New Methodology for Calculation of GDP in India (Since 2015)

• Earlier: Domestic GDP calculated at factor cost or basic cost (prices received by producers).
• New Formula: Accounts for market prices paid by consumers. Calculated by adding GDP at factor price and indirect taxes (minus subsidies).
• Shift to Market Prices is in line with international practice.
• Base Year Change: From 2004-05 to 2011-12. This incorporates changing structure of the economy, especially rural India.
• Data for new GDP series from 5 lakh companies (earlier 2,500 companies).
• Under-represented and informal sectors (smartphones, LED television sets) now account for gross domestic product.

6. Important Additional Points for UPSC

• Real GDP vs. Nominal GDP: Real GDP accounts for inflation (constant prices), Nominal GDP does not (current prices). Real GDP is a better measure of economic growth.
• GDP Deflator: A measure of the level of prices of all new, domestically produced, final goods and services in an economy. Calculated as (Nominal GDP / Real GDP) * 100.
• Green GDP: A measure of GDP that accounts for environmental costs of economic growth. Not officially calculated in India yet but an important concept.
• Per Capita Income: National Income / Population. A measure of average income per person.
• Limitations of GDP as a Welfare Measure: Does not account for income inequality, environmental degradation, quality of life, non-market activities (e.g., household work).
• Circular Flow of Income: A simple model showing the flow of money between households and firms in an economy. Important for understanding how income, expenditure, and production are interconnected.
• Savings-Investment Identity: In a closed economy, savings must equal investment. With government and foreign sectors, it becomes more complex.