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Chapter 3
Basics of National Income Accounting
Gross Domestic Product
Money value of all final goods and services produced
within the domestic territory and valued at market prices in
a given time period Time period : typically one year
: India – 1 April to 31 March
Product : output of goods and services
Money value : converting output into a common denominator of
money
Need for ‘Money Value’
Common Unit
Money (Rs)
(Measured in Kgs)
(Measured in litres)
(Measured in metres)
(Measured in tonnes)
Different commodities measured in different units Addition becomes difficult
Nominal GDP
GDP (output) is valued at current prices Current prices are the prices prevailing in the year in which
production takes place Reflects the change in output due to:
Price changing and / or Quantity of commodities produced changing
Commodity Output Price Value of Output Price Value of(Yr1) (Yr1) output (Yr2) (Yr2) output
Wheat (kg) 20 3 60 20 5 100Cloth (mt) 15 5 75 15 6 90GDP 135 190
Nominal GDP
Nominal GDP
Table shows GDP has increased Output has remained constant in both years Rise in GDP due to rise in price Inflationary trend needs to be discounted to get actual
change in availability of goods and services Use of ‘Real GDP’
Real GDP
GDP measures at constant prices Value current year’s output using base year prices Rise in GDP reflects rise in output
Commodity Output Price Value of Output Price Value of(Yr1) (Yr1) output (Yr2) (Yr1) output
Wheat (kg) 20 3 60 20 3 60Cloth (mt) 15 5 75 15 5 75GDP 135 135
Real GDP
Value of output has remained constant over the years
GDP Deflator
Measures the average price level of all goods and services
that constitute GDP in the economy
Output is kept constant
GDP Deflator = X 100
For year 2 –
GDP Deflator = X 100 = 140.74
On an average prices have risen by 41%
Nominal GDP
Real GDP
190
135
Terms to Understand
Domestic product vs National product Gross product vs Net product Final product vs Intermediate products Market price vs Factor Cost
Domestic Product vs National Product
Domestic Product is the output produced within the economic or domestic territory of a country
Domestic territory Includes :i. Political boundaries
ii. High commissions, embassies military bases located overseas
iii. Ships, fishing vessels, air crafts owned by residents
Domestic territory excludes : i. Embassies, aid agencies of
foreign governments situated in India
ii. Offices of international organisations such as World Bank, IMF etc
Indian HighCommission Islamabad
UK High Commission
World BankOffice
Indian Airline flying from
Kathmandu to Colombo
Normal Resident of a country
Normal Resident is defined as a person who Ordinarily resides in a country Economic interest lies within the economic territory
Resident ≠ Citizen Citizenship based on nationality Resident based on economic interest
Household Production unit
Resident
Normal Residents of a country
All households in an economy ≠ resident households Households = Resident + Non-resident households Non-resident households in a domestic territory include :
Foreign visitors on conferences, vacations, tours Seasonal workers within the domestic territory Diplomats of other countries living within the domestic territory Foreign employees in international organisations Foreign consultants, technicians, engineers who come on projects
Resident households outside the domestic territory include: Citizens of a country employed in their own embassies, consulates, military
bases Medical patients and students (as long as they continue to be a part of a
household of their home country) Citizens working in the local offices of international organisations
Domestic Product vs National product
National income is the income earned by residents of an economy Domestic income = income of residents in the domestic
territory
+ income of non-residents in the domestic territory National income = income of residents in the domestic
territory
+ income of residents from abroad National income = Domestic income
+ net factor income from abroad
Net factor income from abroad (NFIFA)
NFIFA = Factor income earned by residents abroad
- Factor income earned by non-residents in the domestic territory
Factor income earned by non-residents within the domestic territory
Factor income earned by residents abroad
minus
UK High Comm. Delhi (abroad)
Indian Security Guard
Factor Income
Factor
Services
British Security Guard
Factor Income
Indian High Comm., London
(domestic territory)Factor
Services
Domestic Product vs National Product
Domestic Product = National Product – NFIFA National Product = Domestic Product + NFIFA When NFIFA < 0; Domestic Product > National Product When NFIFA > 0; Domestic Product < National Product
Gross Product vs Net Product
Gross product includes depreciation Depreciation
Wear and tear of plant and machinery with use Foreseen obsolescence
Also called Replacement cost Consumption of capital
Gross product = net product + depreciation Net product = gross product - depreciation
If Gross product is Rs 200 and
Depreciation is Rs 50, then
Net product is Rs 150
New clothes
Faded clothes
wear and tear
Final vs Intermediate Goods
Intermediate Products Goods and services used for
furthering production
Final Products Goods and services used for
directly satisfying the wants of consumers
No good is either intermediate or final Distinction is based on the USE of the good
Household
Vegetables Food
Tasty Food Restaurant
Vegetables Food
Problem of Double Counting
Occurs when the value of a commodity is counted more than once in valuing the output of an economy
Output available is valued at Rs. 100 and not Rs. 150 (50 + 100) Rs. 50 (value of inputs) is already included in Rs. 100 (value of
output)
MILK
Cocoa Chocolate
YummyChocolate FactoryInput = Rs. 50
Sugar
Rs. 15 + Rs. 25 + Rs. 10Output = Rs. 100
Rs. 100
Problem of Double Counting
Leads to overestimation of output Can be avoided by :
taking only final goods and services taking value added at each production process
Farmer WheatRs. 20
MillerFlour
Rs. 30
BakerBreadRs. 40
CustomerBreadRs. 40
Value Added 20 – 0 = 20 30 – 20 = 10 40 – 30 = 10
Total value added = 20 + 10 + 10 = Rs. 40 Value of final product = Rs. 40
Indirect TaxFactor Cost: Rs. 100Sales Tax: 10%Market Price: Rs. 100 + Rs. 10
= Rs. 110
Product at Market Price vs Product at Factor Cost
Factor Cost + Net Indirect Taxes = Market Prices
IndirectTax
Subsidy___
Rs. 100
Factory
Rs. 10
Government
Results in : price
SubsidyFactor Cost: Rs. 100Subsidy: 10%Market Price: Rs. 100 - Rs. 10
= Rs. 90
GovernmentRs. 10 Rs. 100
Results in : price
Factory
Paid to factors of production
Paid by households
Factor Income vs Transfer Receipts
Factor Income Arise due to the result of
productive activity Paid to factors of
production Included in national
income estimates e.g. : rent, wages,
interest, profits
Transfer Receipts Do not arise due to any
productive activity Not paid to factors of
production Excluded from national
income estimates e.g. : scholarships to
students, old age pension, lotteries, remittances received from abroad