Explanation & Key Takeaways: National income is the total market value of production in a country’s economy during a year. The national income of a country can be measured by three alternative methods: (i) Product Method (ii) Income Method, and (iii) Expenditure Method. Related Concepts: Production method • In the product method, we calculate the aggregate annual value of goods and services produced (if a year is the unit of time). For example -Let us suppose that there are only two kinds of producers in the economy. They are the wheat producers (or the farmers) and the bread makers (the bakers). The wheat producers grow wheat and they do not need any input other than human labour. They sell a part of the wheat to the bakers. The bakers do not need any other raw materials besides wheat to produce bread. Let us suppose that in a year the total value of wheat that the farmers have produced is Rs 100. • Out of this, they have sold Rs 50 worth of wheat to the bakers. The bakers have used this amount of wheat completely during the year and have produced Rs 200 worth of bread. What is the value of total production in the economy? • If we follow the simple way of aggregating the values of production of the sectors, we would add Rs 200 (value of production of the bakers) to Rs 100 (value of production of farmers). The result will be Rs 300. A little reflection will tell us that the value of aggregate production is not Rs 300. • The farmers had produced Rs 100 worth of wheat for which it did not need the assistance of any inputs. Therefore the entire Rs 100 is rightfully the contribution of the farmers. But the same is not true for the bakers. The bakers had to buy Rs 50 worth of wheat to produce their bread. • The Rs 200 worth of bread that they have produced is not entirely their own contribution. To calculate the net contribution of the bakers, we need to subtract the value of the wheat that they have bought from the farmers. If we do not do this we shall commit the mistake of ‘double counting’. This is because Rs 50 worth of wheat will be counted twice. First, it will be counted as part of the output produced by the farmers. Second time, it will be counted as the imputed value of wheat in the bread produced by the bakers. • Therefore, the net contribution made by the bakers is, Rs 200 – Rs 50 = Rs 150. Hence, aggregate value of goods produced by this simple economy is Rs 100 (net contribution by the farmers) + Rs 150 (net contribution by the bakers) = Rs 250. Income Method • Under this method, national income is measured as a flow of factor incomes. There are generally four factors of production labour, capital, land and entrepreneurship. Labour gets wages and salaries, capital gets interest, land gets rent and entrepreneurship gets profit as their remuneration. • The sum of final expenditures in the economy must be equal to the incomes received by all the factors of production taken together (final expenditure is the spending on final goods, it does not include spending on intermediate goods). This follows from the simple idea that the revenues earned by all the firms put together must be distributed among the factors of production as salaries, wages, profits, interest earnings and rents. Expenditure method • An alternative way to calculate the GDP is by looking at the demand side of the products. In this method, we add the final expenditures that each firm makes. Final expenditure is that part of expenditure which is undertaken not for intermediate purposes. The Rs X worth of wheat which the bakers buy from the farmers counts as intermediate goods, hence it does not fall under the category of final expenditure. Therefore the aggregate value of the output of the economy is Rs Y (final expenditure received by the baker) + Rs Z (final expenditure received by the farmer) = Rs X+Z per year. The Central Statistical Organisation (CSO) which has the responsibility of preparing national income estimates has divided the economy into 13 sectors, grouped under five main headings. It prepares the estimate of net domestic product. During the post-independence period, the estimate of national income was primarily conducted by the National Income Committee. Later on, it was carried over by the Central Statistical Organisation. For the estimation of national income in India, the National Income Committee applied a mixture of ‘Product Method’, ‘Income Method’ and 'Expenditure method'.