Meaning of National Income
National income is used to denote national dividends, national output and national expenditure interchangeably. Thus, its concept, understanding and definition are different from different perspectives. In a simple sense, national income is the total value of goods and services produced annually in a country. In other words, it is the accumulated value of income obtained from all economic activities of a country during a year. It includes all the payments made to different resources in the form of wages, interest, rent and profit.
Definition of National Income
| Defined By | Definition |
| Marshall | “The labor and capital of a country acting on its natural resources produce annually a certain net aggregate of commodities, materials and im-materials including services of all kinds. This is the true net annual income or revenue of the country or national dividend.” |
| Pigou | “National income is that part of the objective income of the community, including of course income derived from abroad which can be measured in money” |
| Fisher | “The national dividend or income consists solely of services as received by ultimate consumers, whether from their materials or their human environment. Thus, a piano or an overcoat made for me this year is not a part of this year’s income, but an addition to the capital. Only the services rendered to me during this year by these things are income. |
| Simon Kuznets | “National income is the net output of commodities and services flowing during the year from the country’s productive system in the hands of the ultimate consumers” |
From the above discussion and definitions, national income can be understood as total income earned by a nation during a year. It accounts for an aggregate value of goods and services produced in a country and by the country’s factor of production abroad. It is obtaining the monetary outcome or output from all factors of production from consumption, production, income and expenditure aspects of a country for a specific period (Generally one year).
Different Concepts of National Income
There are different concepts associated with national income. These concepts are used to interpret different dimensions of national income. These concepts of national income have been discussed below:
1. Gross Domestic Product (GDP)
Gross Domestic Product (GDP) is the total market value of goods and services produced during a year in a country. GDP includes only the final goods and services. It does not consider intermediate goods and services while making its calculation. Final goods considered while computing GDP include consumer goods and services, capital goods and goods and services produced by the government. While calculating GDP, the price and quantity of goods and services are multiplied and summed. Mathematically,
Gross Domestic Product (GDP) =
Where,
P = Price of individual goods and services
Q = Quantity of goods and services
GDP Includes:
- Consumer goods and services that satisfy the immediate wants of people
- Capital goods including fixed capital formation, residential constructions, inventories of unfinished and finished goods
- Goods and services produced by the government through manufacturing, non-manufacturing and service enterprises
Features of GDP
- GDP is the monetary measurement as it is the summed value of all the final goods and services produced in a country
- The only final value of final goods and services produced in a year is included in GDP
- 2. Current market price is used to calculate the value of final goods and services
- Only the goods having market value and brought for sales in the market are included in GDP
- Capital gain is excluded while computing GDP
- Transfer payments such as unemployment allowances, pension, social security allowances etc. are not considered while computing GDP as they do not contribute towards national production
- GDP is a flow variable as it considers the production and sales of the current year only which means the production of the previous year is not taken into account while calculating current GDP
- The ownership over resources is neglected as production from every resource within a country is considered while computing GDP
2. Gross National Product (GNP)
GNP is a broader concept than GDP. It is the value of final goods and services produced by domestically owned resources within and outside the country during a year. GNP can also be understood as the total value of goods and services produced during a year in a country plus the net factor income from abroad. In other words, it is the value obtained by adding GDP and net factor income from abroad. It has to be understood that net factor income from abroad is the difference between the factor income earned by domestic residents from a foreign country and the factor income earned by foreigners from a domestic country. Mathematically,
Gross National Product (GNP) = GDP + Net factor income from abroad
Difference Between GDP and GNP
| GDP | GNP |
| 1. It is the money value of all the final goods and services produced within a country’s domestic territory. | 1. It is the money value of final goods and services produced by a country’s factor of production within and outside the country. |
| 2. It is a territorial concept as it is concerned with the domestic territory only. | 2. It is a national concept as it is concerned with the normal resident inside and outside the country. |
| 3. It is a narrow concept. | 3. It is a broader concept. |
| 4. Net factor income earned from abroad is not included in GDP. | 4. It includes net factor income earned from abroad. |
| 5. GDP = Value of all final goods and services produced in a country | 5. GNP = GDP + Net factor income from abroad |
3. Net National Product (NNP)
NNP is the value of final goods and services produced by a nation’s factor of production after adjusting for depreciation. Depreciation is the wear and tear value of machinery used during the production of goods and services. In other words, NNP is the value of GNP after making deduction of depreciation It is also called National Income at Market Price. . Mathematically,
Net National Product (NNP) = GNP – Depreciation
4. National Income (NI)
National income is the income earned by all the factors of production while producing goods and services during a year. It also includes net factor income from abroad. Such national income is calculated by using two different methods:
Method 1: Factor Income Method
There are four factors of production. This includes land, labor, capital and organization. These factors of production receive rewards in the form of rent, wages, interest and profit respectively. Under this method, NI is calculated as below:
NDP at FC = W + R + I + P
Where,
W = Wages and Salaries
R = Rent
I = Interest
P = Profit
FC = Factor Cost
NNP at FC = NDP at FC + Net Factor Income from Abroad
NI = NNP at FC
Method 2 : Product Method
To calculate NI, some preliminary calculations have to be performed. This includes the calculation of GDP at market price (MP), GNP at MP, NNP at MP and NNP at Fc. The entire stage in calculation of NI under product method has been mentioned below:
GDP at MP =
GNP at MP = GDP at MP + Net Factor Income From Abroad
NNP at MP = GNP at MP – Depreciation
NNP at FC = NNP at MP – Indirect Taxes + Subsidies
NI = NNP at FC
5. Personal Income (PI)
Personal income is the actual income received by all individuals and households of a country during a year. It is the income received from all possible sources before payment of direct taxes. Personal income comes from different sources such as labor income, proprietor’s income, rental income, interest income and transfer payment after payment of social security taxes. In other words, personal income is the income received by persons, households and businesses after adjustment of transfer payment and other income taxes. Mathematically,
Personal Income (PI) = NI – Undistributed Corporate Profits – Corporate Income Tax – Social Security Contribution + Transfer Payment
6. Disposable Personal Income (DPI)
Disposable Personal Income (DPI) refers to the total income received by all individuals and households of a country from all possible sources after payment of direct taxes. It is the income available from households and individuals for consumption. However, it should also be understood that all disposable personal income is not spent for consumption rather some part of it is saved. Thus, DPI is the sum result of consumption and saving. Mathematically,
Disposable Personal Income (DPI) = PI – Direct Taxes
Methods of National Income Accounting
National income accounting means the computation or measurement of the national income of a country. National income is dependent on the production, income and expenditure factors of the country. Based on this, national income can be calculated by applying the following methods:
1. Product Method
This is the simplest method of accounting for national income. It measures national income at the phase of production in the circular flow. Under this method, the output of the economy is used to compute national income. To obtain national income, all the products and services in the economy are measured at market price. In this method, the economy is divided into three sectors. These are a) Primary sector consisting of agriculture, forestry, fishing, mining etc. b) Secondary sector including manufacturing, construction, electricity, gas, water supply etc. c) Tertiary or service sector which consists banking, insurance, communication, transport, trade and commerce etc. The value of a total product of all these sectors is added to obtain the value of national income. There are the following two methods under the product method:
a. Final Product Method: Under this method, national income is calculated by finding and adding the value of all the final goods and services produced during a year in an economy. This means no intermediary goods and services are considered while computing national income. This means all the goods and services which are in the stage of final consumption are taken into account while computing national income. Under this method, the national income is calculated as below:
GDP at MP = Value of all final goods and services at market price =
GNP at MP = GDP at MP + Net Factor Income From Abroad
NNP at MP = GNP at MP – Depreciation
NNP at FC = NNP at MP – Indirect Taxes + Subsidies
NI = NNP at FC
b. Value Added Method: Value-added method is concerned with value-added in different stages of production. Value-added means the addition of raw materials and other inputs during the process of production at different stages. Thus, the value-added method of computing national income adds value added in different stages of production. The calculation of national income under the value-added method can be done as below:
Calculation of Value Added
| Producer | Production Stage | Value of Output (Rs.) | Cost of Intermediate Goods (Rs.) | Gross Value Added (Rs.) |
| Farmer | Wheat | 500 | – | 500 |
| Miller | Flour | 750 | 500 | 250 |
| Baker | Bread | 1250 | 750 | 500 |
| Total | 1250 | |||
After calculating value added, national income is calculated by applying following procedures:
GDP at MP = Net Value Added + Deprreciation + Net Indirect Taxes
GNP at MP = GDP at MP + Net Factor Income from Abroad
NNP at MP = GNP at MP – Depreciation
NNP at FC = GNP at MP – Indirect Taxes + Subsidies
NI = NNP at FC
Illustration of Calculation of NI Under Value Added Method
| Components of NI | Amount (Rs. In Crore) |
| Net Value Added in Primary Sector at FC Net Value Added from Secondary Sector at FC Net Value Added from Tertiary Sector at FC Depreciation Net Indirect Taxes (Indirect Taxes – Subsidies) | 4000 2200 2000 1000 1400 |
| GDP at MP Add: Net Factor Income From Abroad | 10600 200 |
| GNP at MP Less: Depreciation Less: Net Indirect Taxes | 10800 1000 1400 |
| NNP at FC or NI | 8400 |
1. Income Method
The income method measures national income from the income side of an economy. It considers all the incomes received by different factors of production and adds all of them to obtain national income. In other words, the income method of calculating national income considers all the income of individuals and households and adds all such incomes to obtain the total value of national income. Under the income method, national income is calculated by adopting the following steps:
GDP at MP = Compensation of Emplyees + Rent + Profit + Interest + Income from Self Emplyment + Mixed Income or PProprietor’s Income + Depreciation + Net Indirect Taxes
GNP at MP = GDP at MP + Net Factor Income From Abroad
NNP at MP = GNP at MP – Depreciation
NNP at FC = NNP at MP – Indirect Taxes + Subsidies
NI = NNP at FC
Elements of NI Under Income Method
- Wages and Salaries
- Rent
- Interest
- Profit (Profit = Undistributed Profit + Diviend + Corporate Income Tax)
- Net Indirect Taxes (Net Indirect Taxes = Indirect Taxes – Subsidies)
- Net Factor Income From Abroad
- Depreciaiton
- Mixed Income and Income From Self Employment
Incomes Not Considered For NI Under Income Method
- Any amount received from sales of second-hand goods
- Any amount received from the sale of stock or bonds
- Transfer payments received from the government
- Income received from other individuals for which no productive service is provided
Illustration of Calculation of NI Under Income Method
| Components of NI | Amount (Rs. In Crore) |
| Salary and Wages Interest Rent Profit Mixed-Income of the Self Employment Depreciation Net Indirect Taxes (Indirect Taxes – Subsidies) | 3000 300 200 700 4000 1000 1400 |
| GDP at MP Add: Net Factor Income From Abroad | 10600 200 |
| GNP at MP Less: Depreciation Less: Net Indirect Taxes | 10800 1000 1400 |
| NNP at FC or NI | 8400 |
Note that:
1. The sum of rent, interest and profit is called operating surplus. Thus, Operating Surplus = Rent + Profit + Interest
2. Social security contribution by employers is included in the national income. But social security contribution by employees is not included in the calculation of national income
3. Undistributed profit is also called Retained Earnings
3. Expenditure Method
The expenditure method of calculating national income measures it from an expenditure perspective. This method is based on expenditure made by four different sectors of the economy. These sectors are household, government, business and foreign. The final expenditure made by household, government, business and foreign sectors is aggregated to obtain GDP at MP. Such GDP at MP is processed ahead to obtain the value of national income under the expenditure method. Thus, the expenditure method of national income measures national income from the expenditure side concerning expenditure made by household, government, business and foreign sectors of an economy. The national income under expenditure method is calculated as below:
GDP at MP = Private Consumption Expenditure ( C ) + Private Investment Expenditure (I) + Government Expenditure (G)
GNP at MP = GDP at MP + Net Export (X – M)
NNP at MP = GNP at MP – Depreciation
NNP at FC = NNP at MP – Indirect Taxes + Subsidies
NI = NNP at FC
Elements of NI Under Expenditure Method
- Private Consumption Expenditure
- Government Expenditure
- Gross Private Domestic Investment
- Net Export of Goods and Services (Difference of export and import)
- Indirect Taxes
- Subsidies
- Depreciation
Illustration of Calculation of NI Under Expenditure Method
| Components of NI | Amount (Rs. In Crore) |
| Private Consumption Expenditure Private Investment Expenditure Government Final Expenditure Net Export Change in Stock | 7000 2000 1200 (200) 600 |
| GDP at MP Add: Net Factor Income From Abroad | 10600 200 |
| GNP at MP Less: Depreciation Less: Net Indirect Taxes | 10800 1000 1400 |
| NNP at FC or NI | 8400 |
Difficulties in Measurement of National Income
The measurement of national income is a comprehensive process. Thus, it is confined to different difficulties. The tackling and handling of such difficulties in an effective manner ensures the accuracy of computed national income. These difficulties have been explained below:
- The problem of Double Counting: Double counting refers to the inclusion of one commodity or service two or more two times while computing national income. It is the major problem while measuring national income. To avoid such double counting, only the value of final goods or services are taken into account. This means a value of intermediary goods or services is excluded while accounting for national income. The best way of avoiding double counting is using the value-added method while measuring national income.
- Change in Price Level: National income is calculated in monetary terms. The value of money keeps on changing due to changes in the price level. Theus, the value of national income is subject to change in the price level. This causes a change in national income even without a change in national output.
- Calculation of Depreciation: Depreciation is calculated from the value of capital goods. NNP is calculated by deducting depreciation from GNP. With the obtained value of NNP, national income is calculated. But there is difficulty in the calculation of depreciation due to the availability of different methods to choose for computing depreciation. Further, the actual value of depreciable assets changes every year making the calculation of depreciation difficult.
- Non-Availability of Reliable Data: National income calculation is dependent on different data for different items. But it is difficult to gather the most reliable data for all items to obtain the accurate value of national income. Such difficulty prevails not just in emerging economies, but also in advanced economies.
- Non-Market Activities: National income calculation depends on market information. But there are certain non-market activities in the economy. For instance, the work done by housewives at home is not a market activity with actual information. Thus, such non-market activities make it difficult to calculate accurate national income levels.
- Unreported Income: Sometimes people do not disclose all forms of income they generate. They mostly do so to evade tax. Such unreported or undisclosed income of people means no accurate measurement of national income.
- Choice of Method: There are different methods to calculate national income. Thus, it is difficult to choose the best-suited method to estimate national income. Generally, based on available statistical data, the method is chosen. Such choice is made from among product, income, or expenditure methods for calculating national income.
- Inclusion of Services: There are two perspectives regarding inclusion or exclusion of services in national income accounting. Marxian economists believe in the exclusion of services while counting national income. On the other hand, non-Marxian economists are of the view that services are an essential part of national income and should be considered are output while accounting for national; income.
- Intermediate Goods: For national income accounting, only final goods should be included and considered. No intermediate goods should be taken into consideration while computing national income. But the actual scenario is that there is no clear-cut distinction between final and intermediate goods. The same goods can be intermediate or final depending upon their use or consumption.
- Illegal Income: There are different forms of illegal income in an economy. Such illegal income could be in the form of bribery, gambling, smuggling etc. Since these incomes are not included in national income, the value of the national incle is actually under estimated.
Difficulties/Problems of National Income Calculation in Developing Economies
| Presence of Large Non-Monetised Sector Socially and Superstitiously Backward People Lack of Efficient and Trained Manpower for National Income Accounting Illiteracy Issues in the Society Lack of Occupational Specialization Due to Income Generation Form Multiple Sources |
