Real & Nominal inocme

• Real income = Nominal income / GDP deflator

• GDP deflator is the price index.
• National income is calculated in money terms but
then deflated to give the real national income.
• Calculation in money terms is needed to make
addition of different production item possible.
 Economic Growth
• Economic growth measures the growth in real
national income over a period.
• Economic development is a similar concept.
• Economic development signifies not just growth
but improvement in standard of living of the
society.
 Economic growth and development
• Growth of per capita income is a popular measure
of economic development.
• But this is not a perfect measure since per capita
income can rise by income increase of some, not
all.
• Economic growth is necessary but not sufficient
for economic development.
 Measurement of growth rate
Period to period growth
 Yq − Yq −1   Yq 
gq =   100 =  − 1100
 Yq −1   Yq −1 
   
where Yq is income of one
quarter (3 months span).
 Year on Year growth rate

 Yqt − Yqt −1   Yqt 

gt =   100 =  − 1 100
 Yqt −1   Yqt −1 
where g t is annual average growth.
 Year on Year growth rate
• Year on Year growth rate considers growth from
one particular point of time in a year to another.
• This may not give true picture of growth over the
year.
• So annual average growth can be calculated.
 Annual average growth rate

  Yqt   
g t =     − 1 4  100
 
  qt −1   
Y
where g t is annual average growth.
 Growth mechanism
• Harrod growth model
• Growth in Economy is propelled by Investment.
• Investment is made from savings.
• Macroeconomic equilibrium needs S = I
 Steady State Growth
• Savings is a proportion of income.
• Investment is determined by acceleration
principle.
• Acceleration principle states that investment
depends on change in income.
 Warranted growth rate

St = It S t = s Y t −1
I t = v (Y t − Y t −1 )
s Y t −1 = v (Y t − Y t −1 )
(Y t − Y t −1 ) s
= = gt
Y t −1 v
 Growth mechanism
• Growth rate = s / v = savings rate / incremental
capital output ratio.
• Increase in s (v constant) or decrease in v (s
constant) can increase in growth rate.