National Income and Related Aggregates (Questions and Answers)

Read this article to learn about the top six frequently asked questions on the National Income and Related Aggregates.

Q.1. What precautions should be taken while estimating national income by Value Added/Product/Output method?

Ans. Precautions to be taken while measuring national income by Product Method are:

(i) Sale and purchase of second hand goods should not be included as the second­hand goods purchased/sold in current year have already been counted in the year in which they were produced. However, commission earning, if any, of brokers involved with such goods, should be included.

(ii) Only the value of final goods should be counted while calculating national income. The value of intermediate goods should be ignored. This is important so as to avoid double counting.

(iii) The value of goods produced for self consumption should be included.

(iv) Imputed value of owner occupied houses should be part of National Income.

(v) National Income should also include own account production of fixed assets by the households/government.

(vi) Domestic services and voluntary work done are to be excluded. However an exception is made in case of domestic services produced by paid employees.

Q.2. What precautions should be taken while calculating national income by Expenditure Method?

Ans. Precautions to be taken while calculating national income by Expenditure Method are:

(i) Only expenditure on final goods and services should be considered to avoid double counting.

(ii) Intermediate expenditure should not be taken.

(iii) Expenditure on second hand goods should be ignored as they have already been counted for when they were originally produced/purchased.

(iv) Expenditure on purchase of new/old shares, debentures etc. should not be included as they are simply paper claims and no production is involved.

(v) Government expenditure on transfer payments is not to be included.

(vi) Gross investment is part of total expenditure.

Q.3. Explain the problem of double counting in estimating national income, with the help of an example. Also explain two alternative ways of avoiding the problem.

Ans. i. Counting the value of goods or services more than once when estimating NI is the problem of double counting.

ii. Example: Suppose a farmer produces wheat worth Rs 1,000. He sells this to the baker who converts the wheat into bread and sells it to the grocer for Rs 2,000. The value of total output here would be Rs 3,000 and this includes the value of wheat two times.

iii. Methods of avoiding double counting are

(i) Value of final goods only to be included.

(ii) Use value added method.

Q.4. What precautions should be taken while calculating national income by Income Method?

Ans. The precautions to be taken while calculating national income by Income Method are:

(i) Transfer payments such as scholarships, old age pension etc. should not be included as they are not associated with any movement of goods/services at all. Retirement pension however is an exception because it is the payment by employers in lieu of employee’s services received earlier.

(ii) Any illegal incomes like those from smuggling, black marketing etc. are obviously excluded.

(iii) Income from sale of second hand goods is not included in national income, because it involves only change in the ownership now; their original sale value having already been accounted for in the year when they were first sold. However brokerage/commission etc. on even second hand goods sale is included since that has been earned in current year only.

(iv) Indirect taxes raise the market price of goods, thus they should be included while calculating national income at market price.

(v) Money received from sale of shares, bonds etc. should not be included because there is no corresponding flow of goods/services.

(vi) Windfall gains like winning from lotteries etc. should not be included as these are unearned incomes.

(vii) Production for self consumption should be included in national income.

(viii) Imputed rent of owner occupied houses should be included.

(ix) Death duties, gift tax, wealth tax etc. being paid out of past savings should not be included

Q.5. Explain briefly the main steps to estimate national income by Income method.

Ans. Calculation of national income by Income method involves the following three steps:

1. Identification and Classification of Producing Enterprises:

All producing enterprises are classified into following three categories:

(i) Primary Sector:

It consists of producing units which make use of natural resources like land, water, forests etc. It includes agriculture and allied activities like fishing, mining and quarrying etc.

(ii) Secondary Sector:

All producing units which are engaged in transforming one commodity into another are included in this sector and hence it is also called manufacturing sector.

(iii) Tertiary Sector:

This sector includes the units which provide services like banking, insurance, transport, communication, trade, commerce etc.

2. Classification of factor payments:

Various factor payment that are earned by factors of production can be classified as follows:

(a) Income from work:

Income from work is called compensation of employees and it includes:

i. Wages and salaries in cash

ii. Wages and salaries in kind

iii. Employer’s contribution to social security schemes of employees

(b) Income from property and entrepreneurship: Basically, income from property and entrepreneurship is operating surplus.

It has the following components:

i. Rent it is income from property and it also includes imputed rent

ii. Interest

iii. Royalty

iv. Profit includes dividends, corporate Profit tax and undistributed profits. This is income from entrepreneurship.

(c) Mixed Income of the Self employed:

It is a combination of both income from work and property & Entrepreneurship. Basically, this income is earned by self employed people and small unincorporated enterprises.

3. Estimation of NDP_FC:

The domestic factor income is estimated by adding different factor incomes and can be worked out as under

NDP_FC = Compensation of Employees + Operating Surplus + Mixed Income.

4. Estimation of National Income:

Now, we can obtain national income by adding Net factor income from abroad to the domestic income.

NNP_FC = NDP_FC + NFIA.

Q.6. Write down some of the limitations of using GDP as an index of welfare of a country.

Ans. (i) The national income figures do not reflect the size of population etc. of the country. The national income of a country may be rising yet the level of welfare may remain low, if population is going up at a much faster rate.

(ii) The high national income may be due to concentration of some resources in a country. For example, many Arab countries have high national income due to the oil resources but majority of their population is extremely backward.

(iii) National income does not account for price level. The people may be earning a lot but if due to high prices, they are not able to maintain a high standard of life. National Income is obviously an inadequate index to that extent.

(iv) High national income of a country may be due to only a few very rich business tycoons like Ambanis, Tata’s etc. In such a situation a few persons say 20% owning a large share of GNP say 80% will lead a luxurious life while 80% of masses will continue to struggle because they will have to share just 20% of GNP.

(v) National income does not take into account level of employment also in the country. People will not be in a position to enjoy a high standard of living if level of unemployment in the economy is very high.

(vi) National income also does not consider the composition of goods produced. If goods produced in a country include more of defence goods like radars, Turdus etc. even a high national income will not increase the welfare.

(vii) A rise in national income will give rise to industrialization and urbanization which raise the problem of air, water and noise pollution. These in turn lead to environmental degradation which harms the welfare of the society at large. Thus GDP is not directly related to the economic welfare and an increase in GDP does not necessarily imply corresponding increase in the economic prosperity of the people.