Chapter-2: Measuring A Nation's Income

Chapter-2
Measuring a Nation’s
Income
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
1
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Concepts of National Income
• Gross Domestic Product (GDP)

• Gross National Product (GNP)
• Net Domestic Product (NDP)
• Net National Product (NNP)
• Personal Income (PI)
• Disposable Personal Income (DPI)
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Gross Domestic Product (GDP)
 GDP can be defined as the sum of market value

of all final goods and services produced in a
country during a specific period of time,
generally one year.
 It includes income earned by the foreigners in
the country and excludes income earned abroad
by the residents.
 The market value of domestic product is
obtained at both constant and current prices.
3
Gross National Product (GNP)
 GNP can be defined as the sum of market value of all final

goods and services produced by the nationals of a country
during a specific period of time, generally one year.
 The concept of GNP includes the income of the resident
nationals which they receive abroad, and excludes the
incomes generated locally but accruing to the non-nationals.
GNP = Market value of domestically produced goods and services

plus incomes earned by the residents of a country in foreign countries
minus incomes earned by the foreigners in the country.
GDP = Market value of goods and services produced by the residents in the
country
plus incomes earned in the country by the foreigners
minus incomes received by residents of a country from abroad.
4
Net Domestic Product (NDP)
 NDP is the income left over after paying the

depreciation charges of worn out capital assets
from the GDP.
NDP= GDP- Depreciation or Capital Consumption
5
Net National Product (NNP)
 The NNP is the measure of national income

which is available for consumption and net
investment to the society.
 It is the actual measure of national income.
6
Personal Income (PI)
 PI can be defined as the sum of all kinds of income

received by the individuals from all sources of
incomes.
 The sum of personal income is exactly the same
as NNP.
 It is calculated before the payment of taxes.
7
Disposable Personal Income (DPI)
 DPI refers to personal income of the income

earners against which they do not have any legally
enforceable payment obligations.
 Income left over after paying income tax & other
obligations to the govt. from the personal income.
8
Methods/Approaches of Measuring National Income
There are three approaches to national income

measurement
 Product Method
 Income Method, and
 Expenditure Method
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1. Product Method
Measuring national income in this method consists

of three stages-
i. Estimating the gross value of domestic output
in the various branches of production;
ii. Determining the cost of material and services
used and also the depreciation of physical
assets; and
iii. Deducting these costs and depreciation from
gross value to obtain the net value of
domestic output.
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2. Income Method
 In this method, the national income is treated to

be equal to all the “incomes accruing to the basic
factors of production used in producing the
national products.”
 In modern economy, the national income is

considered to be comprised of three components:
i. Labour incomes (compensation of employees)
ii. Capital incomes (operating surplus/profit)
iii. Mixed incomes (income of self employed)
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3. Expenditure Method
 The expenditure method, also known as the final product
method, measures national income at the final
expenditure stage.
 Under this, gross expenditure of the nation is treated as
national income.
 The various components of expenditure:
o Private consumption expenditure (C)
o Private investment expenditure (I)
o Government expenditure (G)
o Net Exports (NE) or (X-M)
GDP= C+I+G+(X-M)
12
India’s National Accounts
National Income Measurement in India- Approaches
 Production approach
 Income approach
 Expenditure approach
13
National Income Measurement in India- Approaches
Income Approach
National income is calculated by adding up the following
incomes:
i. Compensation of employees/Labour income: total
remuneration in cash or kind payable by employers to
employees
ii. Operating surplus/ Capital income: income accruing to
owners of capital
iii. Mixed incomes: income of self-employed
14
Gross Domestic Product (GDP) Is…
…the market value of all final goods &
services produced within a country
in a given period of time.
Goods are valued at their market prices, so:

 All goods measured in the same units
(e.g., dollars in the U.S.)
 Things that don’t have a market value are
excluded, e.g., housework you do for yourself.
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Final goods: intended for the end user

Intermediate goods: used as components
or ingredients in the production of other goods
GDP only includes final goods—they already
embody the value of the intermediate goods
used in their production.
16
GDP includes tangible goods

(like DVDs, mountain bikes, beer)
and intangible services
(dry cleaning, concerts, cell phone service).
17
GDP includes currently produced goods,

not goods produced in the past.
18
GDP measures the value of production that occurs

within a country’s borders, whether done by its own
citizens or by foreigners located there.
19
Usually a year or a quarter (3 months)
20
The Components of GDP
 Recall: GDP is total spending.
 Four components:
 Consumption (C)
 Investment (I)
 Government Purchases (G)
 Net Exports (NX)
 These components add up to GDP (denoted Y):
Y = C + I + G + NX
21
Real versus Nominal GDP
 Inflation can distort economic variables like GDP, so we
have two versions of GDP:
 Nominal GDP
 values of output using current prices
 not corrected for inflation
 Real GDP
 values output using the prices of a base year
 is corrected for inflation
https://databank.worldbank.org/source/world-development-indicators
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EXAMPLE:
Commodity X Commodity Y
year P Q P Q
2011 $10 400 $2.00 1000
2012 $11 500 $2.50 1100
2013 $12 600 $3.00 1200
Compute nominal GDP in each year: Increase:

2011: $10 x 400 + $2 x 1000 = $6,000 37.5%
2012: $11 x 500 + $2.50 x 1100 = $8,250
30.9%
2013: $12 x 600 + $3 x 1200 = $10,800
23
EXAMPLE:
Commodity X Commodity Y
year P Q P Q
2011 $10$10 400 $2.00
$2.00 1000
2012 $11 500 $2.50 1100
2013 $12 600 $3.00 1200
Compute real GDP in each year,

using 2011 as the base year: Increase:
2011: $10 x 400 + $2 x 1000 = $6,000
20.0%
2012: $10 x 500 + $2 x 1100 = $7,200
16.7%
2013: $10 x 600 + $2 x 1200 = $8,400
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The GDP Deflator
 The GDP deflator is a measure of price level
 Calculated as the ratio of nominal GDP to real GDP.
GDP deflator = 100 x nominal GDP

real GDP
 Measures the current level of prices relative to the level of
prices in the base year.
 Its Necessity?
 It let us know the change in inflation rate during two
periods of time
𝐺𝐷𝑃 𝑑𝑒𝑓𝑙𝑎𝑡𝑜𝑟 𝑖𝑛 𝑦𝑒𝑎𝑟 2 −𝐺𝐷𝑃 𝑑𝑒𝑓𝑙𝑎𝑡𝑜𝑟 𝑖𝑛 𝑦𝑒𝑎𝑟 1

𝐼𝑛𝑓𝑙𝑎𝑡𝑖𝑜𝑛 𝑖𝑛 𝑦𝑒𝑎𝑟 2=
𝐺𝐷𝑃 𝑑𝑒𝑓𝑙𝑎𝑡𝑜𝑟 𝑖𝑛 𝑦𝑒𝑎𝑟 1
25
Is GDP a Good Measure of Economic Well-Being?
 Real GDP per capita is the main indicator of the
average person’s standard of living.
 But GDP is not a perfect measure of well-being.
 Why?
o Underground transactions
o the quality of the environment
o leisure time
o non-market activity, such as the child care
a parent provides his or her child at home
o Won’t ensure an equitable distribution of income
o Does not include health, quality of education
o It neither measures courage nor wisdom 26
Then Why Do We Care About GDP?
 Having a large GDP enables a country to afford
better schools, a cleaner environment,
health care, etc.
 Many indicators of the quality of life are
positively correlated with GDP. For example…
27
GDP and Life Expectancy in 12 countries
Indonesia
Japan
China
Life expectancy (years)
U.S.
Mexico Germany
Brazil
Pakistan
Russia
India
Bangladesh
Nigeria
Real GDP per capita

28 28
GDP and Literacy in 12 countries
China Russia U.S.
Germany Japan
Mexico
(% of population)
Brazil
Adult Literacy
Indonesia
Nigeria
India
Pakistan
Bangladesh
Real GDP per capita

29 29
GDP and Internet Usage in 12 countries
Japan
U.S.
(% of population)
Internet Usage
Germany
Brazil
Indonesia
Mexico
Pakistan
Russia
China
Nigeria India
Bangladesh Real GDP per capita

30 30
S U M MA RY
• Gross Domestic Product (GDP) measures a

country’s total income and expenditure.
• The four spending components of GDP include:
Consumption, Investment, Government
Purchases, and Net Exports.
• Nominal GDP is measured using current prices.
Real GDP is measured using the prices of a
constant base year and is corrected for inflation.
• GDP is the main indicator of a country’s economic
well-being, even though it is not perfect.
© 2012 ©Cengage
2012 Cengage
Learning.Learning.
All Rights
AllReserved.
Rights Reserved.
May notMay
be copied,
not be copied,
scanned,scanned,
or duplicated,
or duplicated,
in wholeinorwhole
in part,
or in
except
part,for
except
use as
for use as
31
permitted
permitted
in a license
in a distributed
license distributed
with a certain
with a certain
productproduct
or service
or service
or otherwise
or otherwise
on a password-protected
on a password-protected
website website
for classroom
for classroom
use. use.

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Chapter-2

• Gross Domestic Product (GDP)

 GDP can be defined as the sum of market value

 GNP can be defined as the sum of market value of all final

GNP = Market value of domestically produced goods and services

 NDP is the income left over after paying the

NDP= GDP- Depreciation or Capital Consumption

 The NNP is the measure of national income

 PI can be defined as the sum of all kinds of income

 DPI refers to personal income of the income

There are three approaches to national income

Measuring national income in this method consists

 In this method, the national income is treated to

 In modern economy, the national income is

National Income Measurement in India- Approaches

Goods are valued at their market prices, so:

Final goods: intended for the end user

GDP includes tangible goods

GDP includes currently produced goods,

GDP measures the value of production that occurs

Usually a year or a quarter (3 months)

Compute nominal GDP in each year: Increase:

Compute real GDP in each year,

GDP deflator = 100 x nominal GDP

𝐺𝐷𝑃 𝑑𝑒𝑓𝑙𝑎𝑡𝑜𝑟 𝑖𝑛 𝑦𝑒𝑎𝑟 2 −𝐺𝐷𝑃 𝑑𝑒𝑓𝑙𝑎𝑡𝑜𝑟 𝑖𝑛 𝑦𝑒𝑎𝑟 1

Real GDP per capita

Real GDP per capita

Bangladesh Real GDP per capita

• Gross Domestic Product (GDP) measures a

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