Different Methods of Measuring National Income

Different Methods of Measuring National Income

We can measure national income either at the production stage by measuring the value of output or at the income accrual stage by measuring the amount of factor income earned or at the expenditure stage by measuring the size of total expenditure incurred in the economy. The Following are the three different methods of measuring national income.
Product Approach
Income Approach
Expenditure Approach

Product Approach

According to this method, the sum of net value of goods and services produced at market prices is found. Three steps are involved in calculation of national income through this method:
Gross product is calculated by sensing up the money value of output in the different sectors of the economy.
Money value of raw material and services used and the amount of depreciation of physical assets involved in the production process are summed up.
The net output or value added is found by subtracting the aggregate of the cost of raw material, services and depreciation from the gross product found in first step.
Let us denote the amounts of each of the three different types of final outputs in a given year as Q1, Q2, Q3………… Qn and their respective market prices as P1, P2, P3………… Pn where n stands for the total number of final goods and service produced in the economy. Then according to the product approach, the size of the national income (NI) will be equal to the sum of the annual flow of final goods and services valued at their respective market prices
i.e., NI = P1Q1 + P2Q2 + P3Q3 + ………… + PnQn
Production approach involves estimation of gross value of products, by-products and ancillary activities of a production unit and deducting from it the value of inputs of raw materials and other intermediates including services to obtain gross value added.
Broadly speaking the steps involved are:
Obtain estimates of quantities of all outputs and all inputs.
Obtain estimates of average price for each output and input from market sources.
Compute gross value of outputs and inputs using price-quantity data and subtract the latter from the former to get gross value added.
Obtain estimates of value of stocks of fixed assets and apply predetermined depreciation rates to get capital consumption. This approach is used to estimate gross and net value added in the following sectors of the Indian economy:
Agriculture and allied activities (e.g., animal husbandry)
Forestry and Logging
Fishing
Mining and Quarrying
Registered Manufacturing
For the first three of these sectors, obtaining reliable data on quantities and average prices is a difficult task particularly for minor products and by-products as also for unorganised part of fishing activity. CSO uses estimates obtained from a variety of sources such as union ministry of agriculture, state statistical bureaus, directorate of market intelligence, etc. For registered manufacturing the Annual Survey of Industries (ASI) gives data on inputs and outputs on a census basis for larger units and sample basis for smaller units. However, ASI data are often out of date and several adjustments are required. Corrections for non-response to ASI questionnaires also have to be incorporated. For mining and quarrying the Indian Bureau of Mines supplies quantity and value data for inputs and outputs which are supplemented by data from state governments.
For constant price estimation, the same procedure can be used with prices of the base year being employed for valuation of quantities.

Income Approach

This approach is also known as the income-distributed method. According to this method, the incomes received by all the basic factors of production used in the production process are summed up. The basic factors for the purposes of national income are categorised as labour and capital. We have three incomes.
Labour income which includes wages, salaries, bonus, social security and welfare contributions.
Capital income which includes dividends, pre-tax retained earnings, interest on saving and bonus, rent, royalties and profits of government enterprises.
Mixed income, i.e., earnings from professions, farming enterprises, etc.
These three components of income are added together to get national income.
Following the income approach, national income can be measured by aggregating the annual flows of factor earnings generated by the production of the final output. Thus the value of output, say good I (Pi Qi) is also reflected in the sum of the corresponding factor incomes generated, i.e., PiQi = Ri + Wi + Ii + Pi.
Where Ri, Wi, Ii, Pi denote flow of rent, wages, interest, and profits generated by the production of good i. It follows, therefore, that national income can be measured as the sum of annual flow of different types of factor incomes in the economy.
In this approach, payments for factor, viz. wages, salaries, rents, interest and profits are directly aggregated together to obtain estimates of value added. Output or input valuation is not necessary. This approach is particularly suitable for those activities whose output are difficult to value.
The prime example is services. However, reliable data on factor incomes are available only for those units which keep proper annual accounts. For others, some indirect method has to be followed. One such method involves estimation of number of workers employed and of value The prime example is services. However, reliable data on factor incomes are available only for those units which keep proper annual accounts. For others, some indirect method has to be followed. One such method involves estimation of number of workers employed and of value added per worker. The product of the two gives an estimate of total value added in the relevant activity. Number of workers is estimated by extrapolation-interpolation of decennial case figures; per worker value added is taken from surveys conducted at various times with appropriate adjustments to bring up the estimates to date.
The approach is used for following activities:
Railways
Electricity, gas and water supply
Transport, storage and communication
Banking, finance and insurance
Real estate
Public administration and defence
For the first three groups almost complete data are available from annual accounts. Such data are also available for parts of latter three – the part that is in the organised sector. For the rest the indirect approach has to be employed.
Database is the weakest for unorganised sectors of the economy such as unregistered manufacturing, trade, hotels and restaurants and a variety of personal services. For these sectors rough and ready estimates based sometimes on production approach, sometimes on income approach are used. Most often estimates are obtained for a benchmark year during which a major survey had been conducted and then these benchmark estimates are brought up to date using a variety of indicators.
Constant price estimates using the income approach are obtained by updating the base year estimates using some physical indices such as amount of electricity sold, tonne-kilometres of freight transport, etc.

Expenditure Approach

This method is known as the final product method. According to this method, the total national expenditure is the sum of the expenditure incurred by the society in a particular year. The expenditures are classified as personal consumption expenditure, net domestic investment, government expenditure on goods and services and net foreign investment (imports-exports).
The flow of total expenditure can be measured by aggregating the flows of expenditure on final goods and services incurred by the three main sectors involved, viz., the household sector, the business sector, the government sector. Thus from the viewpoint of the expenditure approach, national income can be measured by
NI = Eh + Eb + Eg
Where Eh, Eb, Eg denote the annual flow of expenditure on final goods and services incurred by the household sector, the business sector, and the government sector.
These three approaches to the measurement of national income yield identical results. They provide three alternative methods of measuring essentially the same magnitude. If we follow the product approach or the expenditure approach, we are in effect trying to measure national income by the size of the income flow in the upper half of the circle. As against this if we follow income approach, we are actually trying to measure the flow in the lower half of the circle.