Income level is the most commonly used tool to determine the wellbeing and happiness of the nations and their citizens.
As the income of a single person can be measured, it can be measured for a nation and the whole world, although the method of calculating may be a little bit complex in the latter’s case.There are four ways to look at ‘income’ of an economy, although different from each other in some way, are the concepts of GDP, NDP, GNP and NNP.
Gross Domestic Product (GDP) is the value of the all final goods and services produced within the boundary of a nation during one year. For India, this calendar year is from 1st April to 31st March.
It will be better to understand the terms used in the concept, ‘gross’ means same thing to Economics and Commerce as ‘total’ means to Mathematics; ‘domestic’ means all the economic activities have done inside the boundary of the nation/country and by its own capital; ‘product’ is word to define ‘goods and services’ together; and ‘final’ means the stage of a product after which there is no known chance of value addition in it.
The different uses of the concept GDP are as given below:
- Per annum percentage change in it is the ‘growth rate’ of an economy. For example, if a country has a GDP of Rs. 107 which is 7 rupees higher than the last year, it has a growth rate of 7 percent. When we use the term ‘a growing’ economy, it means that the economy is adding up its income i.e. in quantitative terms.
- It is a ‘quantitative’ concept, and its volume/size indicates the ‘internal’ strength of the economy. But it does not say anything about the ‘qualitative’ aspects of the produced goods and services by the economy.
- It is used by the IMF/WB in the comparative analyses of its member nations.
Net Domestic Product (NDP) is the GDP calculated after adjusting the weight of the value of ‘depreciation’. This is, basically, net form of the GDP, i.e. GDP minus the total value of the ‘wear and tear’ (depreciation) that happened in the assets while the goods and services were being produced.
Every asset (except human beings) go for depreciation in the process of their uses, which means they ‘wear and tear’.
The governments of the economies decide and announce the rates by which assets depreciate (done in India by the Ministry of Commerce and Industry) and a list is published, which is used by the different sections of the economy to determine the real levels of depreciations in different assets.
For example, a residential house in India has a rate of 1 per cent per annum depreciation, an electric fan has 10 per cent per annum, etc., calculated in terms of the asset’s price. This is one way how depreciation is used in economics. The other way it is used in the external sector while the domestic currency floats freely in front of the foreign currencies, If the value of the domestic currency falls following market mechanism in front of a foreign currency, it is the situation of ‘depreciation’ in the domestic currency, calculated in terms of loss in value of the domestic currency.
Thus, NDP = GDP – Depreciation.
This way, NDP of an economy has to be always lower than its GDP for the same year, since there is no way to cut the depreciation to zero.
The different uses of the concept of NDP are as given below:
- For domestic use only – to understand the historical situation of the loss due to depreciation to the economy. Also used to understand and analyze the sectoral situation of depreciation in industry and trade in comparative periods.
- To show the achievements of the economy in the area of research and development which have tried cutting the levels of depreciation in a historical time period.
However, NDP is not used in comparative economics, i.e., to compare the economies of the world.
Gross National Product (GNP) is the GDP of a country added with its ‘income from abroad’. Here, the trans-boundary economic activities of an economy is also taken into account. The items which are counted in the segment ‘Income from Abroad’ are:
- Trade Balance: the net outcome at the year end of the total exports and imports of a country may be positive or negative accordingly added with the GDP.
- Interest of External Loans: the net outcome on the front of the interest payments i.e. balance of the inflow (on the money lend out by the economy) and the outflow (on the money borrowed by the economy) of the external interests. In India’s case it has been always negative as the economy has been a ‘net borrower’ from the world economies.
- Private Remittances: the net outcome of the money which inflows and outflows on account of the ‘private transfers’ by the Indian nationals working outside India (to India) and the foreign nationals working in India (to their home countries).
Ultimately, the balance of all the three components of the ‘Income from Abroad’ segment may turn out to be positive or negative. In India’s case it has been always negative (due to heavy outflows on account of trade deficits and interest payments of the foreign loans). It means, the ‘Income from Abroad’ is subtracted from India’s GDP to calculate its GNP.
GNP = GDP + (– Income from Abroad)
The different uses of the concept GNP are as given below:
- This is the ‘national income’ according to which the IMF ranks the nations of the world in terms of the volumes – at the Purchasing Power Parity (at PPP).
- It is the more exhaustive concept of national income than the GDP as it indicates about the ‘quantitative’ as well as the ‘qualitative’ aspect of the economy, i.e., the ‘internal’ as well as the ‘external’ strength of the economy.
- It enables us to learn several facts about the production behavior and pattern of an economy, such as, how much the outside world is dependent on its product and how much it depends on the world for the same (numerically shown by the size and net flow of its ‘trade balance’); what is the standard of its human resource in international parlance (shown by the size and the net flow of its ‘private remittances’); what position it holds regarding financial support from and to the world economies (shown by the net flow of ‘interests’ on external lending/borrowing).
Net National Product (NNP) of an economy is the GNP after deducting the loss due to ‘depreciation’.
NNP = GNP – Depreciation
NNP = GDP + Income from Abroad – Depreciation.
The different uses of the concept NNP are as given below:
- This is the ‘National Income’ (NI) of an economy.
- This is the purest form of the income of a nation.
- When we divide NNP by the total population of nation we get the ‘per capita income’ (PCI) of that nation i.e. ‘income per head per year.
Cost and Price of National Income
While calculating national income the issues related to ‘cost’ and ‘price’ also needs to be decided.
Basically, there are two sets of costs and prices –and an economy needs to choose at which of the two costs and two prices it will calculate its national income.
(i) Cost: Income of an economy i.e. value of its total produced goods and services may be calculated at either the ‘factor cost’ or the ‘market cost’.
‘Factor cost’ is the ‘input cost’ the producer has to incur in the process of producing something (such as cost of capital i.e. interest on loans, raw materials, labour, rent, power, etc.). This is also termed as ‘factory price’ or ‘production cost/price’. This is nothing but ‘price’ of the commodity from the producer’s side.
While the ‘market cost’ is derived after adding the indirect taxes to the factor cost of the product, it means the cost at which the goods reach the market i.e. showrooms (these are the Cenvat/central excise and the CST which are paid by the producers to the Central government in India). This is also known as the ‘ex-factory price’. The weight of the state taxes are then added to it, to finally derive the ‘market cost’. In general, they are called ‘factor price’ and ‘market price’ also.
In India, income is calculated at factor cost, and so is the case with most of the developing countries (but among the developed economies it is calculated at the market cost). The reasons are – lack of uniformity in taxes, goods are not printed with their prices, etc.
In present time, we see a great degree of tax-related uniformity coming to India to the extent the central taxes are concerned but the state taxes are still neither single nor uniform. Once the GST is fully implemented this abberation will end.
Though for statistical purposes, income at market cost is also released by the Central Statistical Organisation (CSO).
(ii) Price: Income can be derived at two prices– constant and current. The difference in the prices at constant and current prices is only that of the impact of inflation. Inflation is considered stand still at a year of past (this year of the past is also known as the ‘base year’) in the case of the constant price while in the current price the present day inflation is added. Current price is, basically, the maximum retail price (MRP) which we see printed on the goods selling in the market.
As per the new guidelines the base year in India has been revised from the 1993-94 to 2004-05 (the data based on the new constant year is presently known as the ‘new series’ of data) – announced in September, 2010.
India calculates its national income at constant prices– so is the situation among the developing economies while the developed nations calculate it at the current prices.
Though, for the statistical purposes the CSO releases the national income data at the current prices, too. Why?
Answer: Basically, inflation has been a challenging aspect of policy making in India because of its level (i.e. range in which it dwindles) and stability (how stable it has been). In such situations the growth in the income levels of the population living below the poverty level (BPL) can never be measured accurately (because due to higher inflation the section will show higher income) and the Government will never be able to measure the real impact of the poverty alleviation programmes it runs for the population.
Taxes & National Income
While accounting/calculating national income the taxes, direct taxes and indirect taxes collected by the governments, needs to be considered. In case of India, to the extent the direct taxes (individual income tax, corpoarate income tax i.e. the corporate tax, divident tax, interest tax, etc.) are concerned there is no need of adjustment whether the national income is accounted at factor cost or market cost. This is so because at both the ‘costs’ they have to be the same, besides these taxes are collected at the incomes of the concerned person or group.
But the amount of indirect taxes (cenvat, customs, central sales tax, sales tax/vat, state excise, etc.) needs to be taken care of if the national income is accounted at the ‘factor cost’ (which is the case with India).
If the national income is calculated at the factor cost then the corpus of the total indirect taxes needs to be deducted from it. Why so?
Answer: This is because they have been added twice – once in the hands of the people/group who pay them (because they pay for it from their ‘disposable income’ while purchasing things) and other in the hands of the governments (as their income receipts).
Collection/source of the indirect taxes are the ‘disposable income’ (which individuals and companies have with them after paying their direct taxes – from which they do any purchasing and finally, the indirect taxes reach the various governments).
Thus, if the national income is calculated at the factor cost, the formula to seek it will be:
National Income at Factor Cost = NNP at Market Cost – Indirect Taxes
However, if the national income is being derived at the ‘market cost’ the indirect taxes do not need to be deducted from it. In this case, the governments need not add their income accruing from indirect taxes to the national income either. It means, that the confusion in the case of national income accounting at factor cost is only related with the indirect taxes.
Subsidies & National Income
Similar to the indirect taxes, the various subsidies which are forwarded by the governments need to be adjusted while calculating national income. They are added to the national income at market cost, in case of India.
Subsidies are added in the national income at the market cost to derive the national income at factor cost. This is because the price at which the subsidised goods and services are made available by the governments are not their real factor costs (subsidies are forwarded on the factor costs of the goods and services) otherwise, we will have a distorted value (which will be less than its real value!).
Thus the formula will be:
National Income at Factor Cost = NNP at Market Cost + Subsidies
If the national income is derived at the market cost and governments forward no subsidies there is no need to adjustments for the subsidies – but after all, there is not a single economy in the world today which does not forward subsidies in one or the other form.
Putting ‘indirect taxes’ and the ‘subsidies’ both together India’s National Income will be derived with the following formula (as India does it at the factor cost):
National Income at Factor Cost = NNP at Market Cost – Indirect Taxes + Subsidies
(Source- Ramesh Singh)