Measuring the economy: GDP and its relatives

Gross domestic product is the market value of all final goods and services produced within a country in a given period. Almost every question in this lesson tests one phrase of that sentence, so take them one at a time.

• Market value. Rice and haircuts can only be added once they are priced in rupees. Things not sold, like a farmer’s own grain or the rent of a house its owner lives in, are valued at what they would fetch.
• Final. Goods bought to be used up making something else (flour bought by a baker) are intermediate. Counting them as well as the bread would count the flour twice.
• Produced in the period. A second-hand car was produced in some earlier year and counted then. Selling it again adds nothing, though the dealer’s margin is a new service and does count.
• Within a country. Domestic means produced inside the borders, by anyone. A French engineer’s salary in Pune is part of India’s GDP.
• In a given period. GDP is a flow, measured per year or per quarter, like water through a pipe. Wealth and the money supply are stocks, measured at a moment.

Picture the simplest economy: households and firms. Households sell their labour, land and capital to firms; firms sell goods back. Follow the money. What firms receive from sales goes out again as wages, rent, interest and profit, and profit is simply whatever is left, so nothing disappears. That is why the value of output, the incomes it generates, and the spending on it are one number seen from three sides.

Build the economy up one sector at a time and watch the two identities hold at every stage.

Most goods pass through several firms before a final buyer gets them. If you add up every firm’s sales, the wheat is counted in the farmer’s sales, again inside the miller’s flour, and again inside the baker’s bread. The fix is to count only what each firm adds: its sales minus what it bought from other firms. That is its value added.

Two ways to count the same bread, then: add up the value added at every stage, or count only the final sale. Both give ₹1,000. Summing all sales gives ₹2,200 and counts wheat three times.

The circular flow gives three places to stand and count. Each is used in practice, and questions are often about which one does what.

Why subtract imports? C, I and G record all spending by residents, including on foreign goods. Imports were produced abroad, so they come out once at the end (CUET 2023 made this an assertion–reason question). If spending is measured only on domestic goods, as C_d, I_d and G_d, there is nothing left to subtract: GDP = C_d + I_d + G_d + X.

In India, the National Statistical Office (formerly the Central Statistical Organisation) compiles the accounts. For agriculture, forestry, fishing, mining, manufacturing and construction it uses the product method, which Hyderabad asked in 2016 and 2019.

Each case below is from a past paper. Decide whether it adds to this year’s GDP, then read why. The rule underneath all twelve: count new production, once, when it happens.

GDP has seven relatives, and papers love to ask for them. They look like a lot to memorise, but each is GDP at market prices with up to three adjustments, and each adjustment answers one question.

• Domestic or national? Domestic counts what is produced inside the borders; national counts what the country’s residents earn, wherever they produce it. The bridge is net factor income from abroad (NFIA): factor income residents receive from abroad minus factor income paid to foreigners. GNP = GDP + NFIA.
• Gross or net? Producing output wears out machines and buildings. Net measures take off this depreciation (consumption of fixed capital). NDP = GDP − depreciation.
• Market prices or factor cost? Market prices include indirect taxes such as GST and are reduced by subsidies; factors of production receive neither. Factor cost = market prices − indirect taxes + subsidies.

National income is what the factors of production earn. What households actually get to spend differs in three ways: the government earns some income itself, it also pays transfers, and companies keep some profit back. Indian textbooks, and JNU and JAM, use this ladder:

Interest on the national debt is left out of national income, because the debt is treated as having paid for consumption rather than production, so the interest is a transfer. It is still income to households, so it comes back in here. CUET 2024 asked exactly that.