CBSE Class 12 Economics National Income Accounting Assignment Set 03

NATIONAL INCOME AGGREGATE

National Income and Related Agreements

Basic concepts:

Micro Economics: It satisfies the behavior of an individual units of in an economy as a consumer, a firm, an industry, a market.

Macro Economics: deal with the of the economy as a whole with behavior of the economy as a whole with respect to output, income, the general price level, foreign trade unemployment, and other aggregates economics Variables.

A Production Unit: means the owners of factors of production joining hands by firming a unit with the objective of producing a good or a service.

Factor income: refers to the income created in production units as a joint effort of factor of factor owners.

Leakages: In the process circular flow of income, firms and households save a part of their income, this is called leakages.

Injection: when firms borrow for investment is plant and equipment etc. it increases production capacity and is called Injections.

National Income Accounts: It is the systematic statistical records of the money value of goods and services produced by various producing sectors of an economy . It also shows distribution of national income among the various factors of production as well as final consumption expenditure incurred. The estimation of national income accounts is based on double entry system of accounting.

Functions of national income Account:-

It has the following two main functions.

• It shows the special economic achievements of the country.
• Provides basis for the critical evaluation and appraisal of the economic policies.

Uses of national income accounting:-

• It shows the distribution of national income among various factors of production.
• Provides information about the contribution of various sectors to national income.
• It provides information about the changes in the structure of an economy.
• It helps in the appraisal of strength and weaknesses of an economy.
• It provides information about the changes taking place in standard of living, distribution of income and structural changes in national income.
• It enables to compare the national income of one country with others countries of the world.

Circular flow of National Income: It is a pictorial illustration of interdependency between the major sectors of economic activities.

Two –Sector Economy

Two–Sector Economy Diagram Flow:

• Factor Market (Top)
• Production Market (Bottom)
• Firm (Left)
• Household (Right)
• Flows: Factor Services, Factor payment, Goods and Service, Payment of Goods & services

Circular Flow of income in a Two Sector Economy

• The circular flow in a two sector economy will keep on flowing without end as there is no leakage from and injection in the income stream.
• Whatever is produced by firms is consumed by the household sector.
• Factor payments by firms is consumed by the household sector.
• Whatever is the factor income of the household sector is spent on consumption.

ECONOMICS TERRITORY

Economic territory includes the following-

• Political frontiers including territorial waters and air space.
• Embassies, consultants, military bases etc. located aboard.
• Ships, aircrafts etc., operated by the residents between two or more countries
• Fishing vessels, oil and natural gas rigs etc, operated by residents in the international waters or other areas over which country enjoys exclusive rights or jurisdiction.

RESIDENT

A resident, whether a person or an institution, is one whose centre of economic interest lies in the economic territory of the country. In which he lives or is located.

DEPRECIATION (Consumption of fixed capital)

It refers to fall in the value of fixes capital goods due to normal wear and tear and foreseen obsolescence.

INDIRECT TAXES

The burden of these taxes is shifted to buyers. Since the burden indirectly falls on buyers. They are called Indirect taxes e.g Sales tax,excises duty etc.

SUBSIDIES

Subsidies are financial assistance by government to an enterprise on production of a certain commodity.

The effect of subsidies is to bring down the price like: indirect tax it is also generally passed on to the consumers.

NET FACTOR INCOME FROM ABROAD (NFIA)

NFIA equals factor income received by resident from abroad less factor income paid to non residents.

\( \text{GDP}_{\text{mp}} \) is the values of contribution to production by all the production units located with in the economic territory of a country, undiminished by consumption of fixed capital and indirect tax.

\( \text{NDP}_{\text{np}} \) is the value of contribution to production by all the production units located with in the economic territory of a country. Diminished by consumption of fixed capital but undiminished by net indirect tax.

\( \text{NDP}_{\text{fc}} \) is the value of contribution to production by all the production units located with in the economic territory of a country, diminished by consumption of fixed capital and net indirect tax.

\( \text{GDP}_{\text{mp}} - \text{Consumption of fixed capital} = \text{NDP}_{\text{mp}} \)

\( \text{NDP}_{\text{mp}} - \text{net indirect tax} = \text{NDP}_{\text{fc}} \)

\( \text{GDP}_{\text{fc}} - \text{net indirect tax} = \text{GDP}_{\text{fc}} \)

A National aggregate is a statistical measure of the contribution of residents of a country towards economic production carried out both inside and outside the economics territory of the country.

\( \text{GNP}_{\text{mp}} \) is the values of the contribution of residents of a country towards economic production undiminished by consumption of fixed capital and net indirect tax.

\( \text{NNP}_{\text{mp}} \) is the values of the contribution of residents of a country towards economic production diminished by the consumption of fixed capital and net indirect tax.

\( \text{NNP}_{\text{fc}} \) is the values of the contribution of residents of a country towards economic production diminished by consumption of fixed capital and net indirect tax.

Concept of Depreciation
 

Question. What should be added to net investment to make it gross investment?
Answer: Depreciation (also referred to as the consumption of fixed capital) must be added to net investment to convert it into gross investment:
\[ \text{Gross Investment} = \text{Net Investment} + \text{Depreciation} \]
In simple words: You must add the cost of machine wear-and-tear to net investment to find the total gross investment.
Exam Tip: "Consumption of fixed capital" is the formal term for depreciation; be sure to use these terms interchangeably in exams.

Question. What is the amount called which is spent for wear and tear, maintenance and replacement of capital goods.
Answer: The amount spent on the wear and tear, upkeep, and eventual replacement of capital goods is called Depreciation or Consumption of Fixed Capital.
In simple words: It is called depreciation, which represents the money set aside to replace worn-out tools and machines.
Exam Tip: In board exams, look out for terms like "replacement cost of fixed capital" as they simply mean depreciation.

Question. How do we get net investment from gross investment?
Answer: Net investment is obtained by subtracting depreciation (consumption of fixed capital) from gross investment:
\[ \text{Net Investment} = \text{Gross Investment} - \text{Depreciation} \]
In simple words: You subtract the value of machine wear-and-tear from total gross investment to get the net investment.
Exam Tip: Remember that net investment represents the actual net addition to the existing capital stock of the nation.

Question. What should be deducted from gross value added to get net value added?
Answer: Depreciation (or consumption of fixed capital) must be deducted from gross value added to calculate net value added:
\[ \text{Net Value Added (NVA)} = \text{Gross Value Added (GVA)} - \text{Depreciation} \]
In simple words: You must subtract the loss in value of worn-out machinery from the gross value to find the net value.
Exam Tip: This deduction rule holds true at both market price and factor cost levels (e.g., \( GDP_{mp} - \text{Depreciation} = NDP_{mp} \)).

Question. When is GDPmp = NDPmp.
Answer: \( GDP_{mp} \) is equal to \( NDP_{mp} \) when depreciation (consumption of fixed capital) in the economy is zero.
\[ GDP_{mp} = NDP_{mp} + \text{Depreciation} \]
In simple words: These two values are equal when there is absolutely no wear and tear or loss of value in any machinery during the year.
Exam Tip: Under normal economic conditions, gross is always larger than net because capital assets inevitably depreciate.

Question. How can we obtain Net National Disposable Income from Gross National Disposable Income?
Answer: Net National Disposable Income is obtained by subtracting depreciation (consumption of fixed capital) from Gross National Disposable Income:
\[ \text{Net National Disposable Income} = \text{Gross National Disposable Income} - \text{Depreciation} \]
In simple words: You subtract the wear and tear of capital goods from the gross national disposable income to get the net version.
Exam Tip: The conversion from "Gross" to "Net" always involves subtracting depreciation, regardless of the disposable income aggregate being used.

Private Income

Question. What is the relationship between NDPfc and private income?
Answer: Private income represents the total income (both factor income and transfer income) received by the private sector from all domestic and foreign sources. The relationship with Net Domestic Product at factor cost (\( NDP_{fc} \)) is established by subtracting public sector income and adding various transfers and foreign earnings:
\[ \text{Private Income} = (NDP_{fc} - \text{Income accruing to Public Sector}) + NFIA + \text{National Debt Interest} + \text{Current Transfers from Government} + \text{Net Current Transfers from Rest of the World} \]
In simple words: Private income takes the domestic product, subtracts what the government earns, and adds foreign income and transfer gifts received by private individuals.
Exam Tip: Remember that NDPfc is a pure factor income concept, whereas Private Income contains both factor and transfer incomes.

Question. If we are given income from domestic product accruing to private sector then what steps are followed to arrive at private income?
Answer: To arrive at private income when given the income from domestic product accruing to the private sector, we must add all factor and transfer payments received by the private sector from outside domestic production. The steps are:
1. Add Net Factor Income from Abroad (\( NFIA \)).
2. Add National Debt Interest (interest paid by the government on public loans).
3. Add net current transfers from the government (unilateral welfare payments).
4. Add net current transfers from the rest of the world (gifts/remittances from abroad).
In simple words: Start with the private sector's domestic earnings, then add money sent from abroad, interest on government bonds, and public welfare transfers.
Exam Tip: Since "income from domestic product accruing to private sector" already excludes government income, you do not need to subtract public sector income in this calculation.

Question. If NDPfc is given then what other variables are required to find out private income.
Answer: If Net Domestic Product at factor cost (\( NDP_{fc} \)) is given, the following additional variables are required to calculate private income:
- Income accruing to Government: This includes the earnings of administrative departments and savings of non-departmental public enterprises (to be deducted).
- Net Factor Income from Abroad (NFIA): To capture net foreign factor earnings.
- National Debt Interest: Interest received by the private sector on government debt.
- Current Transfers from Government: Welfare payments like pensions or scholarships.
- Net Current Transfers from the Rest of the World: Foreign aid or gifts received by residents.
In simple words: You need to know the government's share of domestic earnings to subtract it, and then add foreign factor income, government debt interest, and current transfer gifts.
Exam Tip: Break down the "income accruing to government" into its two standard parts in your theoretical answers: savings of non-departmental enterprises and property income of administrative departments.

Question. What are the components of private income?
Answer: Private income is composed of the following five elements:
1. Factor income earned by the private sector from domestic production.
2. Net Factor Income from Abroad (\( NFIA \)).
3. Interest paid on the national debt.
4. Net current transfer payments from the government sector.
5. Net current transfer payments received from foreign nations.
In simple words: Private income has five parts: domestic wages/profits of businesses, overseas earnings, interest on public bonds, government welfare cash, and foreign gifts.
Exam Tip: Be ready to define each component separately, as questions on individual components like "National Debt Interest" are common.

Question. How can we find out private income if GDPmp is given?
Answer: To find private income starting from Gross Domestic Product at market price (\( GDP_{mp} \)), follow these conversion steps:
1. Convert \( GDP_{mp} \) to \( NDP_{fc} \):
\[ NDP_{fc} = GDP_{mp} - \text{Depreciation} - \text{Net Indirect Taxes (NIT)} \]
2. Find the share of domestic product accruing to the private sector:
\[ \text{Income Accruing to Private Sector} = NDP_{fc} - \text{Income Accruing to Government Sector} \]
3. Add the external factor and transfer receipts to calculate Private Income:
\[ \text{Private Income} = \text{Income Accruing to Private Sector} + NFIA + \text{National Debt Interest} + \text{Government Current Transfers} + \text{Net Foreign Current Transfers} \]
In simple words: First, subtract depreciation and net taxes from GDP to get NDP. Next, remove the government's share of income, and finally add foreign income, debt interest, and welfare payments.
Exam Tip: Clearly show each conversion step sequentially in numerical answers to prevent calculation errors and ensure partial markings.

Question. Write down the steps to find out national income if private income is given.
Answer: To find National Income (\( NNP_{fc} \)) when Private Income is given, follow these steps:
1. Deduct all non-factor incomes (transfer incomes) from Private Income, because national income only includes factor earnings. These are:
- Subtract National Debt Interest.
- Subtract Current Transfers from Government.
- Subtract Net Current Transfers from the Rest of the World.
2. Add the income accruing to the government/public sector from domestic product, as this was excluded from private income but is part of national domestic factor income.
The formula is:
\[ NNP_{fc} = \text{Private Income} - \text{National Debt Interest} - \text{Current Transfers from Government} - \text{Net Foreign Current Transfers} + \text{Income Accruing to Government Sector} \]
In simple words: Start with private income, subtract any interest on government loans and welfare gifts, then add back the government's share of domestic earnings to find the national income.
Exam Tip: Be careful: while corporate taxes and savings of private corporations are subtracted to find personal income, they are already part of private income, so they do not need to be adjusted when moving to national income.

Personal Income

Question. How is personal income different from private income?
Answer: Personal income represents the actual earnings received by households and individuals from various sources. In contrast, private income refers to the total income earned or received by the private sector as a whole (both households and private corporations) from all avenues, including factor payments and transfer payments. Thus, personal income is a narrower concept than private income, as it excludes corporate taxes and retained corporate savings.
In simple words: Private income is what the entire private sector - including businesses - makes, while personal income is just the part that actually reaches the hands of families and individuals.

Exam Tip: State the mathematical formula showing the relationship (Personal Income = Private Income - Undistributed Corporate Profits - Corporate Taxes) to secure full marks.

Question. Why are corporation tax and undistributed profit not included in personal income?
Answer: Corporate tax is a liability paid directly by businesses to the government, while undistributed profits are retained by companies for future reserves and expansion. Since neither of these components is actually distributed or paid out to households, they never reach individual hands and are therefore excluded from personal income.
In simple words: Businesses pay corporate tax to the government and keep some profits for themselves. Because individuals never actually receive this money, it is not counted in personal income.

Exam Tip: Remember that personal income only counts money actually received by households. Undistributed profits are also known as corporate savings.

Question. What variables are to included in personal income to find out private income.
Answer: To calculate private income from personal income, we must add back the corporate taxes paid by companies and the undistributed profits (or corporate savings) retained by business firms.
In simple words: To turn personal income back into private income, you need to add corporate taxes and the savings that companies kept for themselves.

Exam Tip: Clearly list both "Corporation Tax" and "Undistributed Profits of Private Corporations" as the two variables to be added.

Question. What is the relationship between NDPfc and private income?
Answer: Private income is derived from Net Domestic Product at Factor Cost (\( NDP_{fc} \)) by first isolating the part of \( NDP_{fc} \) that belongs to the private sector (by deducting government income from property and entrepreneurship, and savings of non-departmental undertakings). Then, we add Net Factor Income from Abroad (NFIA), interest on national debt, and current transfers from both the government and the rest of the world.
In simple words: Private income is the money private individuals and businesses make. To get it from domestic income (\( NDP_{fc} \)), we take out government earnings and add money coming from abroad or from government transfer gifts.

Exam Tip: Write down the full equation showing the step-by-step additions and subtractions from \( NDP_{fc} \) to private income.

Personal Disposable Income

Question. How is personal disposal income related to personal income?
Answer: Personal Disposable Income (PDI) is the portion of personal income that individuals actually have left over to spend or save. It is calculated by subtracting personal direct taxes (like income tax) and miscellaneous government fees or fines from the total personal income.
In simple words: Personal disposable income is the actual cash you have left to spend or save after paying your income tax and any government fees.

Exam Tip: Use the formula: Personal Disposable Income = Personal Income - Direct Taxes - Miscellaneous Fees/Fines to secure full marks.

Question. Why are direct taxes fines +fees etc deducted from personal income to arrive at PDI.
Answer: Direct taxes, fees, and fines are compulsory payments that households must pay to the government under legal obligation. Because these funds are transferred to the state, they are not available for households to spend on consumption or to save as they please, which is why they must be subtracted to find the net income actually at their disposal.
In simple words: You cannot spend money on yourself if the government legally forces you to pay it as taxes or fines. That is why we subtract them to see what you actually have left to spend.

Exam Tip: Emphasize that these payments are "compulsory" and therefore "non-disposable" for households.

Question. What variables are to be added to PDI to find out personal income?
Answer: To obtain personal income from Personal Disposable Income (PDI), we must add back the direct taxes paid by households (such as income tax) along with miscellaneous government fees, penalties, and fines.
In simple words: If you start with your leftover spending money (PDI), you have to add back the taxes and fines you paid to the government to find your total personal income.

Exam Tip: Ensure you list both "Direct Personal Taxes" and "Miscellaneous Receipts of Government Departments" as the items to add.

Question. Do the house holds spends all the personal income received by them?
Answer: No, households do not spend the entirety of the personal income they receive. First, a portion of this income is paid to the government in the form of direct taxes and fees. Second, of the remaining disposable income, households typically split it between personal consumption expenditures and savings.
In simple words: No, families do not spend all their income. They must pay taxes first, and then they usually save a portion of what is left over.

Exam Tip: Distinguish between the reduction due to taxes (leaving PDI) and the voluntary decision to save a portion of PDI.

Question. How to the H.H dispose off the income actually available to them?
Answer: Households allocate the disposable income actually available to them by dividing it between consumption spending on goods and services, and personal savings. In equation terms, Disposable Income = Consumption + Saving.
In simple words: Households use their actual spending money in two ways: they either spend it on things they need, or they save it.

Exam Tip: Express this division clearly using the equation \( Y_d = C + S \) where \( Y_d \) is disposable income, \( C \) is consumption, and \( S \) is saving.

Question. Apart from consumption on what other head do the H.H spend their income?
Answer: Besides consumption expenditure, households allocate their income toward personal savings. Additionally, out of their overall personal income, they must spend on non-consumption obligations like direct taxes, administrative fees, and government fines.
In simple words: Other than buying everyday goods, households put their money into savings or use it to pay taxes and official fees.

Exam Tip: Focus on "Savings" as the primary non-consumption use of disposable income, and "Direct Taxes" as the non-consumption use of personal income.

Net National Disposable Income

Question. Name the national income aggregate that gives an idea of maximum amount of goods and services that the domestic economy has at its disposal?
Answer: The national income aggregate that represents the maximum volume of goods and services available to the domestic economy for consumption and saving is Gross National Disposable Income (GNDI). (Net National Disposable Income is also used if depreciation is excluded).
In simple words: Gross National Disposable Income is the total value of goods and services that a country has at its disposal to use up or save.

Exam Tip: Be precise about whether "Gross" or "Net" is being asked; usually, "National Disposable Income" is the general term sought here.

Question. What is the sum of NNPmp and other current transfers from the rest of the world called?
Answer: The sum of Net National Product at Market Price (\( NNP_{mp} \)) and net current transfers received from the rest of the world is called Net National Disposable Income (NNDI).
In simple words: When you add together the net national product and the free transfers of money received from other countries, you get Net National Disposable Income.

Exam Tip: Ensure you write the exact term "Net National Disposable Income" and show the simple formula.

Question. What are the components of national disposable income?
Answer: National disposable income is made up of two primary components from the expenditure perspective: total national consumption expenditure (combining private and government consumption) and national savings. In terms of income aggregates, it consists of Net National Product at Market Price (\( NNP_{mp} \)) plus net current transfers from the rest of the world.
In simple words: National disposable income is composed of all the money the nation spends on consumption plus whatever it saves, or its national product plus current gifts from abroad.

Exam Tip: Present both the income-side components (\( NNP_{mp} \) + net current transfers) and the expenditure-side components (Consumption + Saving) for a complete answer.

Question. What is the relationship between national income and national disposable income?
Answer: National Income is defined as Net National Product at Factor Cost (\( NNP_{fc} \)). To find Net National Disposable Income from National Income, we must add Net Indirect Taxes (to convert it to market prices) and add Net Current Transfers from the rest of the world.
In simple words: National disposable income is larger than national income because it includes net indirect taxes and any financial gifts or transfers received from other countries.

Exam Tip: Clearly state that National Income is \( NNP_{fc} \), whereas National Disposable Income is measured at market prices and includes international transfers.

Question. List down the variables that are to be added to NDPfc to find out National Disposable Income?
Answer: To find Net National Disposable Income starting from Net Domestic Product at Factor Cost (\( NDP_{fc} \)), the following three variables must be added:
1. Net Factor Income from Abroad (NFIA)
2. Net Indirect Taxes (NIT)
3. Net current transfers from the rest of the world.
In simple words: To go from domestic income to national disposable income, you must add money earned from abroad, net indirect taxes, and transfer money received from other countries.

Exam Tip: Memorize this three-step adjustment, as it is a very common numerical and theoretical question in board exams.