Saturday, 6 July 2013

National Income: Meaning ,Measurement, importance and difficulties

National Income Meaning and Measurement
Meaning

National income is an uncertain term which is used interchangeably with national dividend, national output and national outlay. On this basis, national income has been defined in a number of ways. In common parlance, national income means the total value of goods and services produced annually in a nation. In other words, the total amount of income accruing to a nation from economic activities in a year’s time is known as national income. It includes payments made to all resources in the form of wages, interest, rent and profits.

 Concepts of National Income

  1. G.D.P – Gross Domestic Product
It is the total value of products and services manufactured within the nation during a year. This is computed at market prices and is known as GDP at market prices.
(a) Nominal and Real GDP
When GDP is measured on the basis of current prices, it is called GDP at current prices or nominal GDP. Conversely, if the GDP is computed on the basis of fixed prices in some year, it is called GDP at constant prices or real prices.
And the Formula for computing Real GDP is as below.
Real GDP = GDP for the Current year x Base Year (Which is equal to 100)
                                                                              Current Year Index
Let us an illustration under this concept.
Illustration 1:
Presume the year 2000 – 2001 as the base year and GDP for 2010 – 2011 is $ 500,000 and the price index for this year is 500. Compute the Real GDP for the year 2010 – 2011.
Solution
       GDP for the current year = $500,000

      Base year index 2000 – 2001 is taken as 100

      Price index of the current year = 500
By substituting these values in the above formula, we obtain as under:
      500,000 x 100
                       500
     
      Real GDP for the year 2010 – 2011 = $100,000
     
(b) GDP Deflator
      This is an index of price changes of goods and services included in GDP. It is a price index which is calculated by dividing the nominal GDP in a given year by the real GDP for the same year and multiplying it by 100.
Thus the formula for computing GDP Deflator is as below.
     
      Nominal (or Current Prices) GDP         x 100
         Real (or Constant Prices) GDP
Let us see an illustration of this model.
Illustration 2
Calculate the GDP Deflator for the year 2010 – 2011, if the nominal GDP or current price is $250,000 and that of the Real or Constant price is $125,000.
Solution
Nominal GDP or Current Price = $250,000

      Real GDP or Constant Price = $125,000
Substituting the values in the above formula, we obtain as under.
= 250,000        x 100
         125,000
      = $200 Hence the GDP Deflator for the year 2010 – 2011 = $200
  1.  Gross National Product or GNP
The GNP is the total measure of the flow of goods and services at market value resulting from current production during a year in the nation, comprising of net income from overseas. GNP includes four types of final goods and services.
    1. Consumer’s goods and services to satisfy the immediate wants of people.
    1. Gross private domestic venturing in capital commodities comprising of fixed capital goods consisting of fixed capital formation, residential construction and inventories of finished and unfinished goods.
    1. Goods and services produced by the government and
    1. Net Exports of goods and services i.e. difference between value of exports and imports of goods and services, known as income from abroad.

 Measuring National Income

Measuring the level and rate of growth of national income (Y) is important for seeing:
  • The rate of economic growth
  • Changes to average living standards
  • Changes to the distribution of income between groups within the population
Gross Domestic Product
  • Gross domestic product (GDP) is the total value of output in an economy
  • GDP includes the output of foreign owned businesses that are located in a nation following foreign direct investment. For example, the output produced at the Nissan car plant on Tyne and Wear contributes to the UK’s GDP
Tracking UK economic activity
There are three ways of calculating GDP - all of which should sum to the same amount:
National Output = National Expenditure (Aggregate Demand) = National Income
(i) The Expenditure Method - aggregate demand (AD)
The full equation for GDP using this approach is GDP = C + I + G + (X-M) where
C: Household spending
I: Capital Investment spending
G: Government spending
X: Exports of Goods and Services
M: Imports of Goods and Services
The Income Method – adding together factor incomes
GDP is the sum of the incomes earned through the production of goods and services. This is:
Income from people in jobs and in self-employment
+
Profits of private sector businesses
+
Rent income from the ownership of land
=
Gross Domestic product (by factor incomes)
Only those incomes that are come from the production of goods and services are included in the calculation of GDP by the income approach. We exclude:
  • Transfer payments e.g. the state pension; income support for families on low incomes; the Jobseekers’ Allowance for the unemployed and other welfare assistance such housing benefit
  • Private transfers of money from one individual to another
  • Income not registered with the tax authorities Every year, billions of pounds worth of activity is not declared to the tax authorities. This is known as the shadow economy. 
  • Published figures for GDP by factor incomes will be inaccurate because much activity is not officially recorded – including subsistence farming and barter transactions
Value Added and Contributions to a nation’s GDP
  • There are three main wealth-generating sectors of the economy – manufacturing and construction, primary (including oil& gas, farming, forestry & fishing) and a wide range of service-sector industries.
  • This measure of GDP adds together the value of output produced by each of the productive sectors in the economy using the concept of value added.  .
Value added is the increase in the value of goods or services as a result of the production process
Value added = value of production - value of intermediate goods

Say you buy a pizza from Dominos at a price of £9.99. This is the retail price and will count as consumption. The pizza has many ingredients at different stages of the supply chain – for example tomato growers, dough, mushroom farmers and also the value created by Dominos as they put the pizza together and deliver to the consumer.
Some products have a low value-added, for example cheap tee-shirts that you might find in a supermarket for little more than £5. These are low cost, high volume, low priced products.
Other goods and services are such that lots of value can be added as we move from sourcing the raw materials through to the final product. Examples include designer jewellery, perfumes, meals in expensive restaurants and sports cars. And also the increasingly lucrative computer games industry.
GDP by output – the distribution of GDP from different industries
The UK is an economy where the majority of GDP comes from the service industries such as banking and finance, tourism, retailing, education and health. In 2008 less than half of one per cent of our GDP came from agriculture. Manufacturing accounted for less than 15 per cent of GDP and construction a further 6 per cent. In contrast, the service industries now contribute nearly three quarters of national income.
Manufacturing and service industries are not separate! For example the health of a car exporting business will have a direct bearing on demand, output, profits and jobs in many service businesses such as transportation, design, marketing and vehicle retailing.  Equally service businesses such as online banking require plenty of physical inputs such as machinery and infrastructure to be successful.
The main service sector industries in the UK are:
  • Hotels and restaurants, and a range of services provided by local government   
  • Transport, logistics, storage and communication           
  • Business services and finance, motor trade, wholesale trades and retail trade                 
  • Land transport   and air transport, post and telecommunications
  • Real estate activities, computer and related activities, Education, Health and social work 
  • Sewage and refuse disposal
  • Recreational, cultural and sporting activities
The Share of National Output (GDP) for the UK Economy
The Share of National Output (GDP) for the UK Economy
Notice in the chart above how there are long-term shifts in the value added from the three main sectors – the pattern of GDP depends on many factors including the stage of a country’s development and the extent to which a nation has built up industries of competitive advantage in the world economy.
Gross National Income (GNI)
  • Gross National Income (GNI) measures the final value of incomes flowing to UK owned factors of production whether they are located in the UK or overseas.
  • Gross Domestic Income is concerned only with the incomes generated within the geographical boundaries of the country. Fr example the value of the output produced by Toyota in the UK counts towards our GDP but some of the profits made by overseas companies with production plants here in the UK are sent back to their country of origin – adding to their GNP.
GNI = GDP + Net property income from abroad (NPIA)
  • NPIA is the net balance of interest, profits and dividends (IPD) coming into the UK from our assets owned overseas matched against the flow of profits and other income from foreign owned assets located within the UK.
  • There has been an increasing flow of direct investment (FDI) into and out of the UK. Many foreign firms have set up production plants here whilst UK firms have become multinational organisations.
Nominal and Real - Measuring Real National Income
  • When we want to measure growth in the economy we have to adjust for the effects of inflation
  • Real GDP measures the volume of output. An increase in real output means that AD has risen faster than the rate of inflation and therefore the economy is experiencing positive growth. Consider this example
The money value of a country’s GDP is calculated to be $4,000m in 2007
In 2008, the money value of GDP expands to $4,500m but during the year, inflation is 3% causing the general index of prices to rise from a 2007 base year value of 100 to 103 in 2008.
The real value of GDP in 2008 is calculated thus:
Real GDP = money value of GDP in 2008 x 100 / general price index in 2008
= £4,500 x 100/103 = $4,369 (measured at constant 2007 prices)
Note here that the real GDP data is expressed at constant prices which mean that we have made an inflation adjustment. Look for this in the data response questions in the exam.
Total and Per Capita – Measuring Income per capita
How much does each person earn on average? We use per capita measures to give us a guide to this. Income per capita is a way of measuring the standard of living for the inhabitants of a country.
Gross National Income per capita = Gross National Income / Total Population
Our next chart shows two pieces of economic data
  • The level of UK gross national income (GNI) which has been expressed in real terms (i.e. it is inflation adjusted) and is measured in pounds sterling
  • The annual rate of change of real gross national income measured in percentage terms
The chart shows that real incomes per head of the population have risen over the years, i.e. average living standards have improved but that the rate of improvement is not uniform each year. We see that economic growth in the UK fluctuates from year to year, i.e. there is an economic cycle with periodic recessions (where the value of real national income declines.)
Real Gross National Income for the UK Economy –
During the recession (2008 to 2009) GDP per head decreased by 5.5 per cent
Remittances and Gross National Income
Remittances are transfers of money across national boundaries by migrant workers. Despite a dip because of the global recession, remittance flows have grown in the world economy over the longer-term as the scale of migration between countries has grown. For many developing countries, money coming in from remittances is an importance source of income.

Using data from the World Bank, for the world as a whole in 2010:
  • Stock of immigrants: 215.8 million or 3.2 percent of population
  • Females as percentage of immigrants: 48.4 percent
  • Refugees: 16.3 million or 7.6 percent of the total immigrants
Top 10 remittance recipients in 2010 (billions): India ($55.0bn), China ($51.0bn), Mexico ($22.6bn), Philippines ($21.3bn), France ($15.9bn), Germany ($11.6bn), Bangladesh ($11.1bn), Belgium ($10.4bn), Spain ($10.2bn), Nigeria ($10.0bn)
Top 10 remittance recipients in 2009 (percentage of GDP): Tajikistan (35.1 percent), Tonga (27.7 percent), Lesotho (24.8 percent), Moldova (23.1 percent), Nepal (22.9 percent), Lebanon (22.4 percent), Samoa (22.3 percent), Honduras (19.3 percent), Guyana (17.3 percent), and El Salvador (15.7 percent)

Importance of National Income Computation in Modern Economic Analysis

The computation of national income is one of the very important statistics for a country. IT has several important uses and therefore there is a great need for there regular preparation. The following are some of the important uses of national income statistics:
Level of Economic Welfare
The national income estimate reveals the overall performance of the country during a given financial year. With the help of this statistics the per capita income i.e. the income earned by every individual is calculated. It is obtained by dividing the total national income by the total population. With this we come to the level of economic welfare in terms of its standard of living.
Rate of Economic Growth
With the help of national income statistics we can know weather the economy is growing or declining. In simple words it helps us to know the conditions of a country economy. If the national income is growing over a period of year it means that the economy is growing and if the national income has reduced as compares to the previous it reveals that the economy is detraining. Similarly the growing per capita income shows an increasing standard o living of the people which is a positive sign of a nations growth and vice versa.
Distribution of Wealth
One of the most important objectives that is achieved after calculating national income is to check its distribution among different categories of income such as wages, profits, rents and interest. It helps to understand that how well the income is distributed among the various factors of the economy and their distribution among the people as well.
Ease in Planning
Since the national income estimates also contain the figures of saving, consumption and investment in the economy so it proves to be a valuable guide to economic policy relating to planning and active government intervention in the economy. The estimates are used as a data for future planning also.
Formation of Budget
Budget is an effective tool for planning and control. It is prepared in the light of the information regarding consumption, saving, and investment which are all provided by the national income estimates. Further we can asses and evaluate the achievements or otherwise of the development targets laid down in the plans from the changes in national income and its various components.
Conclusion
Thus we may conclude that national income statistics chart the movement of a country from depression to prosperity its rate of economic growth and its standard of living in comparison with rest of the world.

  
DIFFICULTIES   IN    THE    MEASUREMENT   OF    NATIONAL INCOME

The correct estimation of national income is by no means an easy task.   Difficulties   of   various   kinds   are   generally   faced   in   the measurement of  national  income. These difficulties may be classified into two categories:
(i)      Conceptual difficulties or Theoretical difficulties, and
(ii)     Practical difficulties.
While   the  theoretical  difficulties  a   ear  in   almost  all countries the practical  difficulties  are  generally’  witnessed  in  the  underdeveloped countries.

Conceptual difficulties. These difficulties relate to the various concepts of  national income. Some of the important conceptual difficulties are as follows:
(i)      Determination  of  intermediate  and  final  goods.  The national income of  a  country  consists of only  final  goods  and  services. Final goods refer to those goods which are readily available for consumption. Final goods are required for their own sake. While estimating the national income, it is always not possible to make a clear distinction between  intermediate goods and final goods. For example, cotton used at a surgical Clinic is the final  product for a  doctor,  but  if  the  same cotton is used by the cotton milt to manufacture  cloth, it will be treated as intermediate product. To stretch this example further, if this  cloth  manufactured by Delhi Cloth Mills is used by Wings or Liberty company to  manufacture ready-made  garments,  this  cloth  will  be  regarded  as  an  inter- mediate product.

(ii)     Services without remuneration. In our daily life we observe a father teaching his son, a mother taking  care  of  her  child,  a  housewife looking   after  the  household affairs,   and  so on. No   factor payment  is  made for these  services,  and  therefore, they do not form part of the national income. But  if  the  same  services  are provided by a tutor, a baby-keeper and a house-maid, respectively, factor  payments  shall   have  to  be  made.  So,  in  the  changed circumstance the  same  services will be included  in the national income.

(iii)    Transfer payments. Transfer payments refer to those payments for which e receive has not to perform any economic’ activity. Pocket allowance given to a son, by his father, or the  pension paid  by the  government  to  the  retired  employees,  are  a  few  examples of   transfer   payments. Transfer      payments     are  the   sources  of income  for  the  households and  the  business firms,  but these do not form part of the national income.

(iv)    Pricing  of  products.  Valuation  of  the  final  products  for  the purposes   of                national        income  estimation is a difficult task. We know  that  the  prices  change  every  month,  every  week,  and  in certain cases from day to day; therefore, which price should be chosen to ascertain  the money value of the products, is really a tough choice. Besides, we find different typed of prices existing in the market, e.g., wholesale price, retail price, ,etc.

Practical difficulties. Different types of  practical difficulties arise  in the  estimation  of  national, income. More important difficulties are as follows:

(i)      Non-monetised  sector.  A   large   part  of   the   underdeveloped countries   consists                  of            non-  monetised  sector,  Nan-monetised sector  refers  to  that  part  of  the  economy  where  the  exchange transactions are not performed in money or in order words, barter system of  exchange prevails in the non-monellsed sector. Goods which  do not enter  into the  monetary  sector are  thus excluded from the national income.

(ii)     Lack of occupational specialisation. It means that a person performs a        number    of           economic  activities        at  one   and  the  same  time. Consequently, an individual has different sources of earnings at one and the same time. Far example, a teacher teaches in the school and also takes private tuitions in extra time, or a farm-laborer works on the farm and also works in a factory in the off season,  and  so  on. It  becomes  impossible  to  trace  out,  the  main  source  of  earning of         an  individual  in   such  cases.  In  the  absence  of  adequate information  about  the  source  of  income,  a  large  part  of  income remains excluded from the national income.

(iii)    Non-availability of reliable data. This difficulty arises mainly in the underdeveloped  countries where majority of people are living in the world of dark letters. Illiterate people neither understand the importance  of  the  income-data,  nor  can  they  maintain  proper records  in  this respect. Sometimes, the producers, in order to evade income tax, deliberately distort information relating to their incomes.  Sometimes,  the  enumerators  do  not  possess  requisite knowledge  of collecting,  classifying       and      analysing   the   data. Enumerators and investigators vitiate investigations by suing their personal bias  and  prejudices. National  income  estimation  based upon inadequate and inaccurate statistics need not be dependable.

(iv)    Goods  for  self-consumption.  Producers  of  final  goods  retain  a part of their produce for self- consumption. Far example, a farmer retains  a  part  of  the  total  crap  far  personal  consumption,  or  a weaver retains a part of the produced cloth far self-consumption, and  the   like.  Goods  which,  are  retained  by  the  producer  for personal  consumption  do  not  fetch,      money    price, and    are therefore excluded from the national income.

(v)     Double  counting.  Many  goods  and  services  appear  mare  than once in the national  income estimation. It is not always possible to make a clear distinction between intermediate  goods and final goads.        Likewise,        whether       the             durable      goods      like  building, furniture,  machines,  etc.,  should form  part  of  a  year’s  national income or should be continuously included in the national income till these are finally consumed. We ‘can further take the example of goods and services which satisfy communal wants The government constructs roads, parks, hospitals, bridges, etc., far the welfare of the  masses,  but  different  people  derive  different  utilities  from these  services.  How  to  make allowance for such services in the national income is again a difficult problem

1 comment: