CBSE Class 12 Economics National Income And Related Aggregates Worksheet Set A

Important Points for Chapter 4 Determination of Income and Employment Class 12 Economics

♦ Macroeconomics refers to that branch of economics that deals with economic problems or economic issues at the level of an economy as a whole. e.g. it deals with aggregates like national income, general price level, etc.
♦ Consumption Goods : Goods which are used by the consumers to satisfy human wants directly.
♦ Capital Goods : All goods which are used in the production of other goods either as fixed assets or as inventory stock are called Capital Goods.
♦ Final Goods : Those goods which are purchased either for final consumption by consumers (consumers goods) or for investment by producers (capital goods).
♦ Intermediate Goods : Those goods and services which are purchased as raw material for further production or for resale in the same year.
♦ Stock : Stock is a quantity measurable at a particular “point of time”, e.g., wealth, assets, money, inventory, etc. A stock variable is nothing but an accumulated sum of flows.
♦ Flow : Flow is a quantity that can be measured over a specific “period of time”. e.g., national income, change in stock, etc.
♦ Gross Investment : Total addition made to physical stock of capital during a period of time. It includes depreciation. It is also known as Gross Capital Formation.
♦ Net Investment : Net addition made to the real stock of capital during a period of time.
♦ Depreciation : It means fall in value of fixed capital goods due to normal wear and tear, expected obsolescence and efflux of time.
♦ Circular flow of income : Circular flow of income refers to the flow of activities of production, income generation and expenditure involving different sectors of the economy.
♦ 2-Sector Model of Circular Flow : It is assumed that :
(i) Domestic economy comprises only 2 sectors, the producers and the households.
(ii) The households spend their entire income, so that there is no saving.
(iii) Domestic economy is a closed economy (no exports and imports).
(iv) There is no government in the economy.
♦ Production in the producing sector generates income for the households who are owners of the factors of production. Expenditure by the households generates demand for further production. These movements keep chasing each other continuously moving in a circle. 

♦ Significance of Circular Flow of Income :
(1) It reflects structure of an economy,
(2) It shows interdependence among different sectors,
(3) It shows injections and leakages from flow of money,
(4) It helps in estimation of national income and related aggregates.

♦ National Income : National Income is the sum total of factor incomes earned by normal residents of a country.
♦ Measurement of National Income : In every economy, the circular flow of production, income and expenditure remains in operation continuously due to economic activities. Production generates income which creates demand and hence, expenditure. In this way, the national income of a country may be measured by three alternative methods. These are :
(a) In the form of flow of goods and services,
(b) In the form of income flow,
(c) In the form of expenditure flow.
♦ Value Added Method or Production Method : Product Method or Valued Added Method is the method which measures the national income by estimating the contribution of each producing enterprise to produce in the domestic territory of the country in an accounting year. For measuring national income by this method, we have to estimate the following components :
♦ Net Domestic Product at Market Price (NDPMP) : Gross Valued Added by [Primary Sector + Secondary Sector + Tertiary Sector] - Depreciation.
♦ Net National Product at Factor Cost (NNPFC) or NI : NNPFC or NI = NDPMP – Indirect Tax + Net Income from Abroad.
♦ Value Added Method (Product Method) : Gross Value Added at Market Price (GVAMP) = Sales + Change in Stock – Intermediate Consumption. GDPMP =GVAMP of all sectors OR Value of output – Intermediate consumption NVAFC = GVAMP – Depreciation – NIT
♦ Precautions While Using Value Added Method :
(i) The value of intermediate goods should not be included.
(ii) Purchase and sale of second hand goods should not be included.
(iii) Imputed value of self-consumed goods should be included but self-consumed services should not be included.
(iv) Own account production should be included.
(v) Commission earned on account of sale and purchase of second hand goods is included.
♦ Income Method : It measures national income in term of payments made in the form of wages, rent, interest and profit to the primary factors of production, i.e., labour, land, capital and enterprise respectively for their productive services in an accounting year.
♦ Net Domestic Income or Net Domestic Product at Factor Cost : (1) Compensation to Employees + (2) Operating Surplus + (3) Mixed Income from Self Employment. National Income = Net Domestic Income + Net Income from Abroad.
♦ Precautions While Using Income Method :
(i) Income from illegal activities like smuggling, theft, gambling, etc., should not be included.
(ii) Corresponding to production for self consumption, these are reward for rendering services.
(iii) Brokerage on the sale/purchase of shares and bonds is to be included.
(iv) Income in terms of wind fall gains should not be included.
(v) Transfer earning like old age pensions, unemployment allowances, scholarships, pocket expenses, etc., should not be included.
♦ Expenditure Method : By this method, the total sum of expenditures on the purchase of final goods and services produced during an accounting year within an economy is estimated to obtain the value of GDP.
♦ Final Expenditure : It is the expenditure on the purchase of final goods and services, during an accounting year. It is broadly classified into four categories : (i) Private final consumption expenditure,
(ii) Government final consumption expenditure,
(iii) Investment expenditure, (iv) Net exports, i.e., difference between exports and imports during an accounting year.
♦ Computation of National Income (by expenditure method) NNPFC = GDPMP – Depreciation + NFIA – Net Indirect Tax. Where, GDPMP = Private Final Consumption Expenditure + Government Final Consumption Expenditure + Gross Domestic Capital Formation + Net Exports (Exports – Imports). Where, Gross Domestic Capital Formation = Gross Domestic Fixed Capital Formation + Change in Stock (Closing Stock – Opening Stock)

♦ Precautions While Using Expenditure Method :
(i) Only final expenditure is to be taken into account to avoid error of double counting.
(ii) Expenditure on second hand goods is not to be included.
(iii) Expenditure on transfer payments by the government is not to be included. (iv) Imputed value of expenditure on goods produced for self consumption should be taken into account.
(v) Expenditure on shares and bonds is not to be included in total expenditure.
♦ Gross Domestic Product (GDP) : It is the total value of all the final goods and services by all the enterprises (both resident and non-resident) within the domestic territory of a country in a particular year.

♦ Gross Domestic Product at Market Price (GDPMP) :
(1) Private Final Consumption Expenditure (C) + (2) Government Final Consumption Expenditure (G) + (3) Investment or Gross Capital Formation
(i) + Net Exports. Net Domestic Product at Market Price (NDPmp) = GDPmp – Depreciation Net Domestic Product at Factor Cost = GDPmp – Indirect Taxes + Subsidies National Income = GDPMP – Depreciation – Net Indirect Taxes + Net Income from Abroad.
♦ Nominal Gross Domestic Product : When the goods and services are produced by all producing units in the domestic territory of a country during an accounting year and valued at current year’s prices or current prices, it is called Nominal GDP or GDP at current prices. It is influenced by change in both physical output and price level. It is not considered a true indicator of economic development.
♦ Real Gross Domestic Product : When the goods and services are produced by all producing units in the domestic territory of a country during an accounting year and valued at base year’s prices or constant price, it is called real GDP or GDP at constant prices. It changes only by change in physical output not by change in price level. It is called a true indicator of economic development.
♦ Gross National Product : It is defined as the total value of all final goods and services produced in a country in a particular year, plus the income which is earned by its citizens who are located abroad and minus the income of non-residents located within the country. GNPMP = GDPMP + Net Factor Income from Abroad
♦ Net National Product at Factor Cost (NNPFC) : It is the sum total of factor incomes (rent + interest + profits + wages) earned by normal residents of a country during the period of an accounting year. It is also known as the National Income. NNPFC = GNPFC – Depreciation OR NNPFC = NDPFC + NFIA
♦ Net National Product at Market Price (NNPMP) : It refers to market value of final goods and services produced during the year inclusive of Net Factor Income from Abroad but exclusive of depreciation.
NNP_MP = GDP_MP – Depreciation + NFIA

♦ GDP and Welfare : In general, Real GDP and Welfare are directly related with each other. A higher GDP implies more production of goods and services. It means more availability of goods and services. But more goods and services may not necessarily indicate that the people were better off during the year. In other words, a higher GDP may not necessarily mean higher welfare of the people.
♦ Welfare mean material well being of the people. It depends on many economic factors like national income, consumption level, quantity of goods, etc., and non-economic factors like environmental pollution, law and order etc. The welfare which depends on economic factors is called economic welfare and the welfare which depends on non-economic factor is called non-economic welfare. The sum total of economic and non-economic welfare is called social welfare.
♦  GDP is not an appropriate indicator for Welfare : GDP may be a good indicator of economic growth but not of economic welfare or economic development because of :
(a) Externalities : Externalities refer to benefits or harms of an activity caused by a firm or an individual, for which they are not paid or penalized. For example, environmental pollution caused by industrial plants is a negative externality and building a flyover is a positive externality.
(b) Composition of GDP : GDP does not exhibit the structure of the product. If the increase in GDP is mainly due to increased production of war equipment and ammunitions, then such an increase cannot improve welfare in economy.
(c) Distribution of GDP : When GDP is unevenly distributed, increase in GDP does not increase welfare.
(d) Non-monetary exchanges : Many activities in an economy are not evaluated in monetary terms, they are not included in GDP, due to non availability of data. However, such activities influence the economic welfare of people of the economy.

CIRCULAR FLOW OF INCOME IN TWO SECTOR ECONOMY

Meaning: A pictorial illustration of the flow of income and product among various sectors of the economy is called Circular Flow of Income.
Assumption:
•There are only two sectors in the economy, namely Household and Firm
•Household is the sole consumer and Firm is the sole producer in the economy
•There are no leakages and injections in the economy
Explanation: This can be explained by the help of the following diagram

In the upper loop of the diagram
•Households provide factor services like land, labour, capital and enterprise to the firms.
•By using these the firm produce goods and service and provides to the households
In the lower loop of the diagram
• The firms make payment for the factor service to the households in the form of rent, wage, interest and profits
• Households make payment to the firm in the form of consumption expenditure
Real Flow: The flow of goods and services and factor services are called real flow.
Money Flow: The money payments and expenditure are called Money flow.

Money Flow = Real Flow
Stocks: Variables whose magnitude is measured at a particular point of time are called stock variables.
Flows: Variables whose magnitude is measured over a period of time are called flow variable

Economic Territory/Domestic Territory: Economic (or domestic) is the geographical territory administrated by a government within which persons, goods, and capital circulate freely.
Scope of Economic Territory:
(a) Political frontiers including territorial waters and airspace.
(b) Embassies, consulates, military bases etc. located abroad
(c) Ships and aircrafts operated by the residents between two or more countries.
(d) Fishing vessels, oil and natural gas rigs operated by residents in the international waters.

Normal Resident of a country: is a person or an institution who ordinarily resides in a country and whose centre of economic interest lies in that country.
Good: It is defined as any physical object, natural or man-made, or service rendered, that could command a price in the market.
Consumption Goods: Those final goods which are purchased or self-produced for satisfaction of wants by ultimate consumer.
Capital Goods: Those final goods which help in production. These goods are used for generating income.
Final Goods: are those goods which are used either for final consumption or for investment.
Intermediate Goods: refers to those goods and services which are used for further production or for resale in the same year. These goods do not fulfil needs of mankind directly.

Investment: Addition made to the stock of capital during a period is called investment. It is also called capital formation.
Depreciation: is expected fall in value of fixed capital goods due to normal wear and tear and obsolescence.
It is calculated annually
• It is pre-determined. Hence it is always positive
• It is calculated by:
Depreciation=Value of the fixed asset/Expected life in years
•The other names are Consumption of Fixed Capital, Replacement Investment, Capital Consumption Allowances etc.
Gross Investment: Total addition of capital goods to the existing stock of capital during a time period.
Net Investment: is a measure of net availability of new capital or new addition to capital stock in an economy.
Net Investment = Gross investment – Depreciation. Net Factor income from abroad (NIFA): is difference between factor income received/earned by normal residents of a country and factor income paid to non-residents of the country.
Net Indirect tax: It is the difference between indirect tax and subsidy.

NATIONAL INCOME AGGREGATES

Domestic Aggregates
Gross domestic product at Market price (GDPMP) is the market value of all the final goods and services produced by all producing units located in the domestic territory of a country during a period of one year.
Domestic Income (NDPFC): It is the factor income accruing to owners of factors of production for suppling factor services with in domestic territory during an accounting year.

NATIONAL AGGREGATES
Gross National Product at Market Price (GNPMP) is the market value of all the final goods and services produced by all producing units (in the domestic territory and abroad) of a country during a period of one year.
GDPMP + NFIA = GNPMP

National Income (NNPFC): is a measure of factor earnings of the residents of a country both from economic (Domestic) territory and from abroad during an accounting year.
NNPFC = NDPFC + NFIA = National Income

Measurement of National income

VALUE ADDED METHOD / PRODUCT METHOD
V.A.M is the method which measures the national income by estimating the contribution of each producing enterprise to production in the domestic Territory of the country in one A/C year
Steps in Computing National Income using VAM

Step 1: Identification and classification of producing units
Identify all the producing units in the domestic economy and classify them into the primary, secondary and tertiary sector.

Step 2: Estimation of Gross Value Added of each sector
Value added is the difference between value of output of an enterprise and the value of its intermediate consumption
Gross Value Added (GVA) = Value of Output-Intermediate Consumption
Value added = Value of output –Intermediate Consumption

Step 3: Estimation of GDP
Then add GVA of all the three sectors, Primary, Secondary and Tertiary to get GDP of the economy.
GDP MP/GVAMP=GDPMP of PS+GDPMP of SS+GDPMP of TS

Step 4: Calculation of domestic income
Net value added at MP= Gross value added at M.P –Depreciation
Net value added at Factor cost= Net value added at M.P- NIT (Net indirect Tax).
NDPFC=GDPMP-DEP-NIT

Step 5: Calculation of National income
National Income= NVA at FC + NFIA
NNP FC=NDPFC+NFIA

Value of output
It refers to the market value of the goods/services produced by a firm during an accounting year.
If the entire output of the year is sold during the year
Value of output = Sales
 Value of output = Q x P
(Q= Amount of goods Produced by all entrepreneurs, P= Current Year Price)
Now if whole output is not sold?
Then it is added into firm’s inventory stock. It is known as change in stock
Change in stock
It is the difference between the opening and closing stock of the A/C Year.
Formula- In Stock = Closing stock – opening stock.

Intermediate consumption
It is the value of non-factor input that is mainly the value of raw material used in the process of production.

Value added=VOO-IC
VOO=Sales+ change in stock
Sales=PX Q
Or
Sales=Domestic sale +Export
IC=Domestic purchase+ Import

 Problem of Double Counting
The counting of the value of commodity more than once in computation of national income is called problem of double counting
Example- If in the value of sugar, the value of sugarcane is included, it is known as double counting.

Methods to avoid double counting: -
Final output method: we need include only the values of the final product. Those goods, which go for final consumption or for capital formation. We need not include the value of intermediate goods.
Value added method: We can find out the net value added at different stages of production of a commodity. The sum of net value added in the economy will give us the estimates of domestic factor income in the economy

Precautions regarding value Added Method: -
• Value of intermediate goods is not included into in the estimation of value added because; value of intermediate goods is reflected in the value of final goods.
• Value of sale and purchase of second-hand goods is not included in the value added because; value of second-hand goods is already accounted for during the year they were produced.
• Services for self-consumption are not considered while estimating value added. Because it is difficult to estimate their market values eg. Services of housewives.
• Own account production of goods of the producing units is taken into account while estimating value added. Because these goods are like those produced for market. They are simply not sold owing to their need by the producers themselves.
• Imputed value of production for self-consumption is taken into account. Again because, these goods are like those produced for the market.
• Imputed rent on the owner-occupied house is also taken into account. Because all houses have rental value, no matter these are self-occupied or rented

INCOME METHOD
CONCEPTS USED IN INCOME METHOD

FACTOR PAYMENTS:
Factor payments are the payments made by production units to factor owners for the services rendered by them to these units.
These are:
Compensation of employees, Rent and royalty, Interest, Profit, mixed income of the self-employed.

COMPENSATION OF EMPLOYEES:
“Compensation of employees is the total remuneration in cash, in kind and in the form of social security contributions by employers, payable by an enterprise to the employees in return for the work done by them during an accounting period.”

OPERATING SURPLUS:
The sum of rent royalty, interest and profits is called operating surplus

RENT AND ROYALTY:
Rent is defined as the amount payable, in cash or in kind, by the tenant to the landlord for the use of land for production.
Royalty is defined as the amount payable to the landlord for granting the leasing rights of subsoil assets only.

INTEREST:
Interest as a factor payment is defined as the amount payable by a production unit for the use of money borrowed.

PROFIT:
Profit as a factor payment is the amount payable to the owner of the production unit for his entrepreneurial abilities.

MIXED INCOME:
Mixed income, in national income accounting, means income payment by production units having elements of more than one type of factor payments.
Steps of Computing National Income by Income Method
• Classifying the production units: Identify all the producing units in the domestic economy and classify them into the primary, secondary and tertiary sector
• Classification of factor income: Estimate factor Income in the form COE, rent, interest and profit by each industrial sector to arrive at NDP fc
• Estimation of domestic income:
Compensation of employees +Operating surplus +Mixed income= NDP fc
• Estimation of national income: NDP fc +NFIA = NNP fc or National income

Precautions for income method.
Income from sale of secondhand goods should not be included because the value of these goods has included in the year in which these goods had produced. Whereas the commission paid to agents should be included.
Income from transferpayments such as scholarships, old age pension should not be included.
Income from illegal activities such as gambling, smuggling, theft should not be included.
Income from sale of shares, bonds should not be included because these are mere paper transactions.
Income from wind fall gains like lotteries should not be included

THE EXPENDITURE METHOD
In this method, GDP is estimated by adding up of all the expenditure made by producers and consumers on goods and services in the economy.
GDP = C+I+G+(X-M),
Where,
C = Consumption expenditure by consumers
I = Investment expenditure by Producers
G = Government expenditure on goods and services
(X-M) = Net export expenditure

CONCEPTS IN EXPENDITURE METHOD

FINAL EXPENDITURE
Final expenditure means expenditure on final products, i.e., on consumption and investment. It includes:

(a) Private Final Consumption Expenditure (PFCE)
It refers to the expenditure on final goods and services by the individuals, households and nonprofit private institutions serving society.
It includes –
(I) consumer services
(II) consumer non-durable goods (i.e. goods which are not repeatedly used like butter and milk)
(III) consumer durable goods (i.e. goods which are repeatedly used for many years like furniture and washing machines)

b) Government Final Consumption Expenditure (GFCE)
It refers to expenditure on final goods and services by the Government.
Example: expenditure on the purchase of goods for consumption by the defense personnel.

(c) Gross Domestic Capital Formation (GDCF)
It refers to expenditure on the purchase of final goods by the producers. These goods are to be further used as under in the process of production.
Example: Expenditure by the farmers on the purchase of tractors.
Investment expenditure is further classified as under.

(1) Fixed investment/Gross domestic fixed CF: fixed investment refers to expenditure by the producers on the purchase of fixed assets like plant and machinery.

fixed investment is classified as
▪ Business fixed investment: Expenditure on fixed investment by business enterprises in on building, machinery, equipment’s etc. A business enterprise undertakes such investment with the intention of earning profit
▪ fixed investment by the households in terms of construction of houses.
▪ Public fixed investment (fixed investment by the government) for example construction of roads, dams and bridges.

(2) Inventory investment: it is measured as the difference between closing stock of the year and the opening stock of the year.
The stock includes (a) stock of finished goods
(b) stock of semi-finished goods
(c) Stock of raw material
GDCF = GDFCF + Change in stocks
(d) Net Exports
Net exports: It is the difference between exports and imports.
Net exports = Exports – Imports

Steps of Computing National Income by Expenditure Method
❖ Identification of economic units incurring final expenditure like household, producer government and rest of the world.
❖ Classify the expenditure into final consumption expenditure and investment expenditure.
❖ Estimate the gross domestic product by adding C+I+G+(X-M) = GDP
❖ Estimation of national income

Precautions for expenditure method.
➢ Only final expenditure is to be taken (only the value of final goods and services) and expenditure on intermediate goods should not be included.
➢ Expenditure on secondhand goods is NOT to be included.
➢ Expenditure on shares and bonds is NOT to be included in total expenditure.
➢ Expenditure on transfer payments by the government (like old age pension, scholarship) is NOT to be included.
➢ Estimated value of expenditure on goods produced for self-consumption is to be taken.
➢ Imputed rent on owner occupied houses is to be taken.

Real and Nominal GDP
Nominal GDP: If the GDP is measured in terms of current market prices, then it is called Nominal GDP
Real GDP: If the GDP is measured in terms of constant market prices, then it is called Real GDP

GDP delator(or priceIndex)=NominalGDP/RealGDP×100

Advantages of Real GDP
•It is useful in finding out the effect of increased production of goods and services on the real development capacity of the economy in general
•It enables one to make a year-to-year comparison of the changes in the growth of output
•It is also used in making international comparisons of economic performance across the countries

GDP and Welfare:
Higher level of GDP of a country may be treated as an index of greater wellbeing of the people of that country, but there are certain reasons why this may not be correct.

(a)Distribution of GDP
If the GDP of a country is rising, the welfare may not rise as a consequence, this is because the rise in GDP may be concentrated in the hands of very few individuals. In such cases the welfare of the entire country cannot be said to have increased.

(b)Non-Monetary Exchange
 The value of non-monetary transactions like services of housewife, kitchen gardening is not included while calculating GDP due to non-availability of data. By non-inclusion of these values in the estimation of GDP there is underestimation of GDP

(c)Externalities:
Externalities refers to the benefits (or harms) a firm or an individual cause to another for which they are not paid (or penalised) –benefits called positive externalities and harms called negative externalities. The value of externalities is not taken in to account while estimating national income.
Positive externalities under estimate the national income and negative externalities overestimate the national income

(d)Composition of GDP
If GDP is composed of more socially undesirable goods like guns, bombs it will definitely overestimate the GDP in calculating welfare of the people
Important formulae at a glance

Value added method
➢ GDP MP/GVAMP=GDPMP of Primary Sector +GDPMP of Secondary Sector +GDPMP of Tertiary Sector
➢ NDPFC/Domestic income=GDPMP-DEP-NIT
➢ NNP FC/National income =NDPFC+NFIA
➢ Value added=Value of Output-Intermediate Consumption
➢ VALUE OF OUTPUT =Sales+ change in stock
➢ Sales=PX Q Or Sales=Domestic sale +Export
➢ IC=Domestic purchase+ Import
➢ Change in stock = Closing stock – Opening stock.

Income Method
➢ NDP FC=Compensation of employees +Operating surplus +Mixed income
➢ NNPFC=NDPFC+NFIA
➢ Compensation of employees = Wages and salaries in cash and in kind +employers’ contribution to social security schemes
➢ Operating surplus = Rent+ Royalty + Interest + Profit

Expenditure method
➢ GDP MP=Private final consumption expenditure+ Government final consumption expenditure +Gross domestic capital formation +Net export
➢ Gross domestic capital formation= Gross domestic fixed Capital formation + Change in stocks
➢ Net exports = Exports – Imports
Or
➢ NDP MP=Private final consumption expenditure+ Government final consumption expenditure +Net domestic capital formation +Net export
➢ Net domestic capital formation= Net domestic fixed Capital formation + Change in stocks

Important Questions for NCERT Class 12 Economics National Income And Related Aggregates