Income Method of Measuring National Income

Income Method of Measuring National Income –

Income method measures national income at the phases of distribution and appears as income paid and/or received by individuals of the country. In this method national income is obtained by adding up the incomes of all individuals of a country.

Individuals earn incomes by contributing their own services and the services of their properties (such as land, capital etc.) to the national production.

So, the national income is calculated by adding up the rent of land, wages and salaries of employees, interest on capital, profits of entrepreneurs and incomes of self employed people.

Income method has an advantage of indicating the distribution of national income among different groups (such as landlords, owners of capital, workers, entrepreneurs etc.).

List of Steps to measure National Income by Income Method –

1. Identify the productive enterprises/firms/businesses and then classify them into various industrial sectors such as agriculture, mining, manufacturing, transport, banking, trade and commerce, construction, communication etc.

2. Classify the factor payments.

Factor payments are classified into –

(a) Compensation to Employees which includes wages and salaries, employers contribution to social security schemes.

(b) Rent and Royalty

(c) Interest

(d) Profits

There are three types of profits –

(i) Dividends

(ii) Undistributed Profits

(iii) Corporate Income Tax

(e) Mixed income of self employed.

3. Measure Factor Payments.

Income paid out by each firm can be estimated by gathering information about the number of units of each factor employed and the income paid out to each unit of every factor. Price paid out to each factor multiplied by the number of units of each employed would give us the factor’s income.

4. By adding up of factor payments by all firms/enterprises belonging to an industrial sector will give us the incomes paid out to various factors by a particular industrial sector.

5. By summing up the incomes paid out by all industrial sectors we get the Domestic Factor Income which is also called Net Domestic Product at Factor Cost (NDPFC).

6. By adding up net factor income from abroad to NDPFC we get the Net National Product at Factor Cost (NNPFC) which is also called National Income.

Compensation to Employees –

Compensation to employees by the employers is the sum of wages and salaries, paid both in cash and kind and contribution to social security schemes of the employees made by the employers.

Wages and Salaries –

Wages and salaries include all payments made by the employers to their employees, both in cash and kind, for the services they render to their employers.

Wages and salaries in cash includes payments for overtime work, travel allowance, bonuses, dearness allowance, vacation allowance, sick leave allowance, leave traveling allowance etc.

Wages and salaries in kind includes housing accommodation, free meals and drinks, uniforms and special clothing, free services of vehicles etc.

Employers Contribution to Social Security Schemes –

Employer’s contribution to social security schemes for their employees includes life insurance, pension schemes, contributory provident fund (CPF), casualty insurance etc. which are also a part of compensation to employees.

In India’s national income accounting, salaries and allowances paid to members of Parliament and State Legislatures, pays and allowances to the President of India, State Governors, Ministers of Central and State Cabinets are also treated as compensation to employees.

Precautions –

1. Transfer payments are not included in estimating national income in this method.

2. Imputed rent of self employed houses are included in national income. Because these houses provide services to those who occupies them and its value can be easily estimated from the market value data.

3. Illegal money such as money earned by smuggling, hawala money etc. are not included in the national income because they cannot be easily estimated.

4. Windfall gains such as prizes won, lotteries are also not included in the national income.

5. Corporate profit tax (tax on the income of companies) should not be separately included as it has already been included as a part of profits.

6. Death duties, wealth tax, tax on lotteries, gift tax etc. should not be included. As they are paid from past savings/wealth and not from current income.

7. Receipts from the sale of second-hand goods should not be treated as a part of national income. Because the sale of second-hand goods does not creates new flow of goods and services in the current year.

8. Income equal to the value of production used for self consumption should be estimated and included in the national income.