2.3 - SOME MACROECONOMIC IDENTITIES

Gross Domestic Product measures the aggregate production of final goods and services taking place within the domestic economy during a year. But the whole of it may not accrue to the citizens of the country. For example, a citizen of India working in Saudi Arabia may be earning her wage and it will be included in the Saudi Arabian GDP. But legally speaking, she is an Indian. Is there a way to take into account the earnings made by Indians abroad or by the factors of production owned by Indians? When we try to do this, in order to maintain symmetry, we must deduct the earnings of the foreigners who are working within our domestic economy, or the payments to the factors of production owned by the foreigners. For example, the profits earned by the Korean-owned Hyundai car factory will have to be subtracted from the GDP of India. The macroeconomic variable which takes into account such additions and subtractions is known as Gross National Product (GNP).

The foreigners have a share in your domestic economy. GNP is, therefore, defined as follows: \[ GNP ≡ GDP + Factor income earned by the domestic factors of production employed in the rest of the world - Factor income earned by the factors of production of the rest of the world employed in the domestic economy \]

It is to be noted that all these variables are evaluated at market prices. Through the expression given above, we get the value of NNP evaluated at market prices. But market price includes indirect taxes. When indirect taxes are imposed on goods and services, their prices go up. Indirect taxes accrue to the government. We have to deduct them from NNP evaluated at market prices in order to calculate that part of NNP which actually accrues to the factors of production. Similarly, there may be subsidies granted by the government on the prices of some commodities. So we need to add subsidies to the NNP evaluated at market prices. The measure that we obtain by doing so is called Net National Product at factor cost or National Income.

We can further subdivide the National Income into smaller categories. Let us try to find the expression for the part of NI which is received by households. We shall call this Personal Income (PI). First, let us note that out of NI, which is earned by the firms and government enterprises, a part of profit is not distributed among the factors of production. This is called Undistributed Profits (UP). We have to deduct UP from NI to arrive at PI, since UP does not accrue to the households. Similarly, Corporate Tax, which is imposed on the earnings made by the firms, will also have to be deducted from the NI, since it does not accrue to the households.

However, even PI is not the income over which the households have complete say. They have to pay taxes from PI. If we deduct the Personal Tax Payments (income tax, for example) and Non-tax Payments (such as fines) from PI, we obtain what is known as the Personal Disposable Income.