National Income and their Interrelationship

The following points highlight the top three concepts of national income and their relationship. The concepts are: 1. Gross National Product (GNP) 2. Net National Product 3. Net National Income at Factor Cost.

Concept of National Income # 1. Gross National Product (GNP):

It is the total value of all final goods and services produced in the economy in one year.

In the words of W.C. Peterson, “Gross National Product may be defined as the current market value of all goods and services produced by the economy during an income period.”

There are two ways of avoiding double counting in estimating the GNP.

One is to count only final goods and services leaving out all intermediate goods. Final goods and services are those which directly satisfy the consumption needs while intermediate goods are meant to be used up in the productive process itself.

The second method of avoiding double counting is to calculate the ‘value added’ in each productive sector of the economy. The value added in a productive process during a period is found by subtracting the value of the inputs from the total value of the product leaving the process. The sum total of the value added by all the processes would give us the value of GNP.

The GNP calculated in this way excludes the value of imports because their cost is automatically deducted from the value of output of the industries using them. To get the net national product, depreciation would have to be deducted from the sum of ‘values added.’ The ‘value added’ method and the ‘final products’ method give the same results.

While the former takes into consideration the flow of output past each process the ‘final products’ method counts the quantity of commodities which are delivered at the end of a given period, with suitable adjustments for the goods still in transit at the beginning and the end of the period.

The ‘value added’ method is in line with normal business accounting procedures because every firm records the value of its output and the value of materials used. The ‘final products’ method is beset with a number of difficulties in that it requires a division of actual output in consumer’s goods and producer’s goods.

Concept of National Income # 2. Net National Product:

When we subtract depreciation charges for renewals, repairs and obsolescence from the GNP we obtain the Net National Product at market prices.

Thus:

GNP at MP – Depreciation =  NNP at market prices

Depreciation means the loss of value suffered by nation’s stock of fixed capital (building, machinery, equipment etc.) through wear and tear. The problem of valuing the depreciation of the capital stock is one of the most troublesome in the field of national income accounting.

The convention has been to accept business records as a measure of depreciation without attempting to rework the estimates in terms of current replacement cost. Thus net national product means the market value of all final goods and services after providing for depreciation.

The great merit of the concept of NNP is that it clarifies the net increase in total production over and above current consumption and current replacement investment. It signifies the long run improvement in physical productivity of capital.

The concept of NNP has the great advantage of telling us the net increase in total product. It stresses the long-term significance of maintaining the productive capacity of the economy. As such it is extremely useful in the study of economic growth.

Concept of National Income # 3. Net National Income at Factor Cost:

When output is produced factors of production get payments in the form or wages, rents interest and profits. NNI is the sum-total of all income payments made to the factors of production. The sum total of goods and services in a year is produced by the cooperation of the factors of production and as such their money value is also distributed among the factors of production.

Hence, national income may also be regarded as the total or incomes received by the factors of production or by persons supplying the services or resources used in production. These payments take the form of wages, rent, interest and profits.

Thus the chief constituents of national income at factor cost are as follows:

(1) All wages, salaries and supplementary incomes earned by employees against productive services rendered, plus

(2) Interest paid to private individuals plus

(3) Net rents of all individuals; including imputed payments like the rents of self-occupied houses plus

(4) Net Profits of all kinds of business, including the incomes of individual businesses like farmers, partnerships, professional men like lawyers, net earnings of joint stock companies comprising dividend payments, undistributed profits and corporate taxes. Minus

(5) Transfer Payments, i.e., those income payments for which no productive service is made in return. In other words, these represent no payments for production of goods and services, but transfer of income through state or a similar public body from one set of individuals to another like interest paid on national debt, social security payments (e.g., unemployment benefit and old age pensions) etc.

These Transfer Payments must be deducted from the total national income as determined by adding the total payment made to the factors of production. In addition to the concept of net national income it is useful to have some idea of certain other income concepts which are required for some particular purposes.

Important amongst these are the following:

Personal Income:

Taxation authorities need an idea about the incomes actually received by the assesses from different sources. They need on estimate of personal income so that they can form their taxation policy. Personal Income is the total of incomes received by all persons from all sources; it consists of wages and salaries, interest rent and dividends received by individuals including the corporate bodies (like clubs and churches treated as collective persons).

It also includes mixed incomes of self- employed persons such as farmers, shopkeepers and barristers, and all transfers received from public authorities by persons, such as pensions, unemployment benefit, family allowances, etc.

Personal income is thus equal to national income minus the undistributed profits of companies and public enterprises plus-transfer payments received by persons. The difference between ‘national income’ and personal income is that transfer payments while excluded from ‘national income’ are included in personal income.

The steps involved in calculating personal income may be shown as follows:

National Income

less Corporate profits

less Employer contributions for social insurance

plus Govt. Transfer payments

plus Business Transfer payments

plus Net interest paid by government

plus Interest paid by consumers

plus Dividends

less Employee contributions for social insurance

Equals Personal Income

Disposable Income:

Personal income as defined above is not the income over which persons have complete command to spend, to save or to give away in any manner they like. Income tax, national insurance contributions are obligatory payments which must be deducted to obtain what may be called Personal Disposable Income.

Even in this income are included contributions like pension, fixed commitments like the hire-purchase installments which further go to reduce the personal disposable income.

Disposable personal income is thus obtained by deducting personal taxes from the Personal Income. These personal taxes are in the form of income tax, wealth tax, expenditure tax and profession tax. Disposable Income consists of personal outlays and personal saving.

Disposable Income = Personal Income – Personal Taxes = Personal consumption + Personal saving.

The concept of Disposable Income is especially useful in estimating the likely demand for goods and services for personal use by individuals. In times of national emergency and scarcity, the concept is helpful for forecasting the gap between available supplies and likely demands of goods and services.