National Income Accounting.

1. National Income and its
determination
Module II
B.Chatterjee

2. Gross Domestic Product
GDP is the Market Value of all Final Goods and Services Produced on Domestic
Soil During a Given Time Period
Approaches to measure GDP:
Expenditure method: Private final consumption expenditure (C)+Private final
investment expenditure/Net domestic capital formation (I)+Government final
consumption expenditure(G)+Net Exports/Exports minus imports(X-M)
Income method: Compensation to employees(w)+Land (rent(r))+capital
(interest(i))+entrepreneur (Profits)
Gross Valued Added method: Adding net output/production of various
sectors in an economy

3. GDP measurement
Orange Inc Transactions
Wages paid to Orange Inc
Employees
$15000
Rent paid for land $5000
Oranges sold to public $10000
Oranges sold to Juice Inc $25000
Juice Inc Transactions
Wages paid to Juice Inc
Employees
$10000
Interest paid on capital used $2000
Oranges purchased from
Orange Inc
$25000
Revenue received from sale
of orange juice
$40000
Calculate GDP using expenditure, income and value added
methods

4. GDP measurement
Orange Inc Transactions
Wages paid to Orange Inc
Employees
$15000
Rent paid for land $5000
Oranges sold to public $10000
Oranges sold to Juice Inc $25000
Juice Inc Transactions
Wages paid to Juice Inc
Employees
$10000
Interest paid on capital used $2000
Oranges purchased from
Orange Inc
$25000
Revenue received from sale
of orange juice
$40000
Calculate GDP using expenditure, income and value added
methods
Expenditure method:
Adding the expenditure on final goods and services:
Final: the goods which are produced for final consumption/usage
If that is the case:
Then: 10000 (oranges sold to public)
+ 40000 (orange juice sold to public)= 50000
A common mistake:
10000 (oranges sold to public)
+ 40000 (orange juice sold to public)+ 25000 (WRONG)
VALUE ADDED METHOD:
If you want to figure what is the contribution of each sector,
then use value added method:
Value added by Orange (total production done by ORANGE)
10000+25000 (public+juice inc)=35000
VALUE ADDED BY JUICE INC:
40000-25000=15000
SO GDP BY VALUE ADED METHOD=35000+15000=50000
Income Method:
Wages: 15000+10000=25000
Rent: 5000
Interest: 2000
Profit for Orange: (35000-(15000+5000))=15000
Profit for Juice: (40000-(25000+2000+10000)=3000

5. Using GDP calculation methods for a Bread
Economy
Let us consider this bread economy:
• The bread economy, which has Farmer, Miller, Baker, Consumers.
• The farmer grows wheat and sells it to the miller at Rs. 500. Assume
that he incurs no cost for intermediate goods. Though there is a
labour cost of Rs. 100.
• The miller buys the wheat at Rs. 500 and turns it into flour. He incurs
a labour cost of Rs. 50. He sells flour to the baker at Rs. 700.
• The baker buys the flour and employs labour at a cost of Rs. 100 to
make it into a bread which he sells to the consumer at Rs. 1000.

6. GDP measurement
• Expenditure method/Final Demand (GDP at market price: GDPmp)= Sales
Receipt from Bread=1000.
• Value added method (GDPmp)=500+200+300=1000
• Income method (GDPfc)=W+P=250+750=1000
Expenditure method=valued added method=Income Method
Stage of
Production
(1)
Sales
Receipts
(2)
Cost of
Intermediate
goods
(3)
Value Added
(4)
Labor Cost
(5)
Factor
Incomes/cos
t
(6)
Farmer:
Wheat
500 0 500 100 W=100
P=400 [500-
100]
Miller: Flour 700 500 200 (700-
500)
50 W=50
P=150[700-
(500+50)]
Baker: Bread 1000 700 300 (1000-
700)
100 W=100
P=200[1000-
(700+100)]

7. Real GDP and Nominal GDP
• What is the difference?
• Real GDPbased on base year price (price of earlier year)
• Nominal GDPbased on current year price (price of current year)
• Why do we need Real GDP?
• Because of inflation. So that we can compare the production of two
time periods and eliminate the change in price.

8. • Year1: 1000 units Price=Rs 4
GDP=4000 (nominal)
Year 2: 1000 units price=rs 8
GDP=8000 (nominal)
Nominal GDP growth=[(8000-4000)/4000]*100. This is wrong. Only price
increased. Production didn’t.
If you use price of year 1=Rs4 (base year) to measure the GDP of year 2,
then:
GDP for year 2=1000*4=4000: Real GDP
Growth using real GDP is 0%.

9. Find out Nominal GDPs, Real GDPs, and GDP
growth rates using 2011 as the base year
23-03-2023 to be used only for lecture purpose at NMIMS SOC 9
Good or
Services
2011
P Q
2012
P Q
2013
P Q
Apples 2 40 3 60 5 60
T-Shirts 8 90 10 150 9 170
Bicycles 80 100 90 110 110 100
Mobiles 70 120 80 130 80 180

10. Summarize
• To measure GDP we may use Expenditure/Final Demand method
where we add all the expenses/spending on final goods and services.
This is called GDP at market price. GVA method may also be used to
calculate the same.
• GDP can also be measured by Income Approach where we add the
incomes derived by the factors of production. This is called GDP at
factor cost.
• According to the circular flow, GDP at market price and GDP at factor
cost both are conceptually equal.
• GDP at factor cost is conceptually the same as national income.
However, a few adjustments have to be made to derive the value of
national income from GDP
• GDP growth is measured using real GDP

11. GDP vs GNP
Resident
Status
Geography Factor
Income
Resident US 300
Non-
Resident
India 500
If India’s GDP is 1000, what would be India’s GNP?
GNP=1000+(300-500)=800
GNP=GDP+ Net factor income from abroad (NFIA)
GDP=GNP-NFIA
NFIA: factor incomes earned by our residents from the rest of the world minus factor incomes
earned by non-residents from our country.
Count in India’s GDP Count in India’s GNP
No Yes
Yes No
Country and
Location
Infosys in US
IBM In India

12. Is there any difference between GDP/GNP at
market price and GDP/GNP at factor cost?
• Let’s say there is only one final product in the economy, whose
market price is Rs.100 and has an excise duty of Rs.20.
• GDP at market price is 100, but GDP at factor cost is 80
GDPfc=GDPmp- (net indirect taxes)
GNPfc=GNPmp- (net indirect taxes)

13. What is Gross about Gross Domestic Product?
Suppose Rs.100 crores worth of investment goods (say machines and
tools) are added in the current year, but Rs. 25 crores of investment
goods have been used up in the production of current’s year’s output.
While calculating GDP we add 100 crores.
If we add 75 crores, what we will be calculating is Net Domestic
Procuct.
GDP- depreciation= Net Domestic Product (NDP)
GNP- depreciation= Net National Product (NNP)

14. From GDPmp to National Income
National Income: factor incomes earned by the residents of a country
Step 1: Convert GDPmp to GNPmp
GNPmp=GDP+NFIA
Step 2: Convert GNP at market prices (GNPmp) to GNP at factor cost
(GNPfc)
GNPfc = GNPmp - Net indirect taxes
Step 3: Convert GNPfc to NNPfc
NNPfc= GNPfc – depreciation
National Income (NI)is NNPfc

15. Summarize
• Expenditure method/Final demand method and value added
methods gives GDPmp
• Income method gives NNPfc which is National Income (NI)
• Conceptually these two are the same, as per the circular flow of
income.
• The only difference in NI and GDPmp is:
NNPfc/NI= GDPmp+ NFIA — net indirect taxes — depreciation
23-03-2023 to be used only for lecture purpose at NMIMS SOC 15

16. Treatment of certain transaction in national
income accounting
Social security payments received by a retired factory worker (not
included)
The services of a painter in painting the family home (not included)
The money received by Smith when she sells her economics textbook
to a book buyer (not included)
23-03-2023 to be used only for lecture purpose at NMIMS SOC 16

17. Treatment of certain transaction in national
income accounting
• sale of second hand goods (not included in national income
accounting)
• changes in inventories (included in national income accounting)
• owner occupied dwellings (imputed value included in national income
accounting)
• services of house wives (imputed value included in national income
accounting)