Economic Analysis For Business Decisions 7.

Business Decisions and Government: National Income

5-10-09 A Sanjeev raj

Def- National Income

The total market value of all final goods and services produced in the economy in a given year.

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The Circular-Flow Diagram The equality of income and expenditure can be illustrated with the circular-flow diagram.

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The Circular-Flow Diagram

Revenue

Goods & Services sold

Market for Goods and Services

Spending Goods & Services bought

Firms

Households

Inputs for production

Wages, rent,

Market for Factors of Production

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Labor, land, and capital

Income

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Three measures of National Income

Total value of goods and services produced Total of all income received by factor owners in a year Total of consumption expenditure, net investment expenditure and government expenditure on goods and services.

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 National Income at Current Price and National Income at Constant Price: Current Prices refer to the prices prevailing in the market during the year for which estimates are made. Constant Prices refer to the prices prevailing in the market in the base year. National income is measured at both the levels in order to enable a comparison
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Market prices versus factor cost

A commodity when goes to the market, indirect taxes are imposed on it. This is the market price. When we deduct the net indirect taxes we get factor cost.

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Domestic versus national

A concept which includes the contribution of the domestic sector alone and not of the foreign sector is the domestic concept. When we add the contribution of the foreign sector we get national concept.

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The National Income Accounts

Like accounts of a business, has two sides (which theoretically should balance) Product side = Income side Product Side: Measured by GDP or GNP Income side: Measured by National Income
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The Economys Income and Expenditure

For an economy as a whole, income must equal expenditure because:

Every

transaction has a buyer and a

seller. Every Rupee of spending by some buyer is a Rupee of income for some seller.
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Gross National Product

Gross national product (GNP) is the total income earned by a nations permanent residents (called nationals). It differs from GDP by including income that our citizens earn abroad and excluding income that foreigners earn here.

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Net National Product (NNP)

Net National Product (NNP) is the total income of the nations residents (GNP) minus losses from depreciation. Depreciation is the wear and tear on the economys stock of equipment and structures.
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Gross Domestic Product

Gross domestic product (GDP) is a measure of the income and expenditures of an economy. It is the total market value of all final goods and services produced within a country in a given period of time. Indias GDP 8.1% quarter ended 200506
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The Measurement of GDP

GDP is the market value of all final goods and services produced within a country in a given period of time.

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The Measurement of GDP

Output is valued at market prices. It records only the value of final goods, not intermediate goods (the value is counted only once). It includes both tangible goods (food, clothing, cars) and intangible services (haircuts, housecleaning, doctor visits).

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GNP and GDP tend to be used as synonyms, although GDP is definitely the preferred measure among economists
GDP measures all production within India, by whoever happens to be working here; GNP measures the production of all Americans, wherever they happen to be working.

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Personal Income

Personal income is the income that households and non corporate businesses receive. Unlike national income, it excludes retained earnings, which is income that corporations have earned but have not paid out to their owners. In addition, it includes households interest income and government transfers.
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Disposable Personal Income

Disposable personal income is the income that household and non corporate businesses have left after satisfying all their obligations to the government. It equals personal income minus personal taxes and certain non tax payments.
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Approaches to Measurement of National Income Circular flow of income arises out of the process of activity chain in which: Production creates income ; Income generates spending ; Spending induces production

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Measurement of National Income

Since factor income arise from the production of goods and services, and since incomes are spent on goods and services produced, 3 alternative methods of measuring national income are possible

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Methods
Value Added Method. Income Method. Expenditure Method.

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Value Added Method

This is also called output method or production method. In this method the contribution of each enterprise to the generation of flow of goods and services is measured. In this method the economy is divided into different industrial sectors such as agriculture, fishing, mining, construction, manufacturing, trade and commerce, transport, communication and other services. Then Net value added at factor cost (NVAfc) by each productive enterprise is estimated.

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In order to arrive at the net value added at factor cost by an enterprise we have to subtract the following from the value of an output of an enterprise.
Intermediate consumption which is the value of goods such as raw materials, fuels, purchased from other firms. Consumption of fixed capital (i.e., Depreciation). Net indirect taxes. Summing up the net values added at factor cost by all productive enterprises of an industry or sector. We then add up net values added at factor cost by all industries or sector to get net domestic product at factor cost (NDPfc)

1. 2. 3. -

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NI = NDPFC + Net factor income from abroad.

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Precautions:
The following precautions should be taken while measuring NI of a country through value added method. Imputed rent values of self occupied houses should be included in the value of output. Sale and purchase of second hand goods should not be included in measuring value of output of a year. Value of production for self consumption are to be counted. Value of services of housewives are not included. Value of intermediate goods must not be counted.

1. 2. 3. 4. 5.

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Income Method
This method approaches NI from distribution side. National Income is obtained by summing up the individuals of a country. This method of estimating NI has the great advantage of indicating the distribution of national income among different income groups such as landlords, owners, workers, entrepreneurs.

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Steps: Measurement Income method.

1. 2. a. b. c.

of

NI

through

Identify the productive enterprises and then classify them into various industrial sectors such as agriculture, fishing, etc. Classify the factor payments. Factor payments are classified into the following groups. Compensation of employees. Rent. Interest. Profits: Profits are divided into 3 sub groups: Dividends. Undistributed profits. Corporate income tax.

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- Mixed income of the self employed. 3. Measure factor payments.

4. Adding up of factor payments. 5. By summing up we obtain NDPFC NDPFC = Net Domestic product at factor cost. 6. NI = NDPFC+ Net factor income earned from abroad.

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Precautions:
1. 2. 3. 4. 5. 6. 7. 8. Transfer payments are not included. Imputed rent are included. Illegal money is not included. Windfall gains are not included. Corporate Profit tax are not included. Death duties, gift tax, wealth tax are not included. Receipt from the sale of second hand goods are not included. Income equal to the value of production used for self consumption used by farmers and others are included.

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Thank You

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