Which of the following is included in the national income of a country?

Imputed rent of houses occupied by their owners

Old-age pensions paid by the government

Money received from selling a second-hand scooter

Money spent on buying shares of a company

Milk bought by a sweet-shop owner to make sweets for sale is:

A final good, because milk is a consumption good

A capital good, because it is used in production

Neither, because it is a natural product

National Income Accounting — Aggregates, the Three Methods and Real GDP

Macroeconomics looks at the economy as a whole — total output, the general price level, total employment — rather than at one market. It took shape as a separate subject after the Great Depression of 1929, when output and employment collapsed across the industrial world, and John Maynard Keynes's General Theory (1936) gave it its framework. This chapter is its accounting: how the output of a whole economy is measured without counting anything twice. Almost every question in the unit is one of four shapes — classify an item (final or intermediate, stock or flow, included or excluded), compute value added, move between aggregates (GDP to NNP to national income), or separate a price rise from a real rise with the GDP deflator. Learn the definitions exactly; the distractors are built from near-misses of them.

Final or Intermediate, Stock or Flow — the Classifications Behind Every Question

A good is final when it has crossed the boundary of production and will not be transformed again by a producer — it is bought by its ultimate user for consumption or for investment. A good is intermediate when it is used up in producing something else within the same year. The test is the use the good is put to, never the good itself: milk bought by a household is final, the same milk bought by a tea-stall is intermediate. Final goods are of two kinds — consumption goods (food, clothing, services) and capital goods (machines, buildings, tools), which are durable and help produce other goods without being used up in one round.

Stock versus flow — asked almost every year in one form or another
Stock — measured at a point of time	Flow — measured over a period of time
Capital (the stock of machines and buildings)	Investment (addition to capital in a year)
Wealth	Income
Money supply on a date	Spending of money during a year
Water in a tank	Water flowing in through the tap per hour
Population on census day	Births during a year

Capital wears out as it is used. The part of it used up in a year is depreciation, also called consumption of fixed capital. So the investment figure comes in two versions: gross investment is all new capital goods added in the year, and net investment = gross investment − depreciation is the part that actually enlarges the capital stock. Every "gross" aggregate in this chapter includes depreciation and every "net" aggregate has subtracted it — that one rule decodes half the formulas.

⚠️ A machine is not automatically a final good

Students learn "capital goods are final goods" and then mark every machine final. The rule is that a capital good bought by a firm for its own use as fixed capital is final, because it is not resold or used up within the year. A machine bought by a trader for resale is part of the trader's inventory, and raw materials used up within the year are intermediate even when bought by the same firm. Ask "who bought it, and to do what?" — never "what is it?"

The Circular Flow and the Three Methods of Measuring It

In the simplest economy, households own the factors of production — labour, land, capital, entrepreneurship — and sell their services to firms; firms pay them wages, rent, interest and profit; households spend that income on the goods firms produce. Money flows one way round the circle and goods and factor services flow the other. Because every rupee of spending is someone's receipt, the flow can be measured at three points and must give the same total: what was produced (value added), what was earned (factor incomes), and what was spent (final expenditure).

Worked example — value added removes double counting
Producer	Value of output (₹)	Intermediate consumption (₹)	Value added (₹)
Farmer grows wheat, sells to miller	100	0	100
Miller makes flour, sells to baker	150	100	50
Baker makes bread, sells to households	200	150	50
Total	450	250	200

Adding up the sales gives ₹450, but the wheat has been counted three times and the flour twice. The sum of values added is 100 + 50 + 50 = ₹200, exactly the value of the one final good, the bread. That is the product (value-added) method: for each firm, gross value added = value of output − intermediate consumption, where value of output = sales + change in stock. A firm that produced goods and kept them unsold has still produced them, so an increase in its inventory counts as output and as investment.

Expenditure method: GDP = C + I + G + (X − M) — private final consumption, gross investment (fixed capital plus change in inventories), government final consumption, and net exports. Imports are subtracted because C, I and G include spending on foreign-made goods that were not produced here.
Worked: C = 500, I = 150, G = 100, X = 50, M = 60 gives GDP = 500 + 150 + 100 + (50 − 60) = 740.
Income method: add the factor incomes generated inside the country — compensation of employees (wages, salaries, employer's social-security contributions), operating surplus (rent, interest, profit), and mixed income of the self-employed. The total is domestic factor income, NDP at factor cost.

Included or excluded — the items that decide one-mark questions
Item	In national income?	Why
Imputed rent of an owner-occupied house	Included	Housing services are produced and consumed even though no rent is paid
Old-age pension, scholarship, unemployment allowance	Excluded	Transfer payments — no good or service is supplied in return
Sale of a second-hand car	Excluded (a dealer's commission is included)	The car was counted in the year it was made; only the dealer's service is new
Purchase of shares or bonds	Excluded (brokerage is included)	A change in who owns a claim — nothing is produced
Services of a homemaker in her own household	Excluded	Not sold in the market, and the value cannot be reliably estimated
Interest on national (public) debt	Excluded	Treated as a transfer, since such borrowing usually finances consumption rather than production

From GDP to National Income — Three Adjustments

GDP at market price is the value of all final goods and services produced within the domestic territory in a year. Every other aggregate is reached from it by three independent adjustments, and a question is solved by applying exactly the ones it asks for:

Three switches, each turned on or off independently
Switch	Adjustment	Example
Domestic → National	Add net factor income from abroad (NFIA) = factor income earned by residents abroad − factor income earned by non-residents here	GNP = GDP + NFIA
Gross → Net	Subtract depreciation	NDP = GDP − depreciation
Market price → Factor cost	Subtract net indirect taxes = indirect taxes − subsidies	GDP at FC = GDP at MP − NIT

National income is NNP at factor cost — all three switches applied. Worked: GDP at market price ₹1,000 crore, NFIA −₹20 crore, depreciation ₹80 crore, indirect taxes ₹120 crore, subsidies ₹20 crore. GNP at MP = 1,000 − 20 = 980. NNP at MP = 980 − 80 = 900. Net indirect taxes = 120 − 20 = 100. NNP at FC = 900 − 100 = ₹800 crore. The order of the steps does not matter; the signs do. A negative NFIA is common for a country that pays more interest, dividends and wages to foreigners than its residents earn abroad, and it makes GNP smaller than GDP.

Two further aggregates measure what households actually receive. Personal income = national income − undistributed profits − net interest payments made by households − corporate tax + transfer payments to households from the government and firms. Personal disposable income = personal income − personal tax payments − non-tax payments such as fines. Personal disposable income is what households can divide between consumption and saving.

🧠 Read the aggregate's name as three answers

"NDP at factor cost" says: Net (depreciation out), Domestic (no NFIA), factor cost (net indirect taxes out). "GNP at market price" says: Gross (depreciation in), National (NFIA in), market price (taxes in). Decode the target, decode the given figure, and apply only the switches that differ. A question that gives NFIA when it asks for a domestic aggregate is testing whether you will use a figure you do not need.

Real versus Nominal GDP, the Deflator, and GDP as a Measure of Welfare

Nominal GDP values this year's output at this year's prices; real GDP values it at the prices of a chosen base year. If nominal GDP rises only because prices rose, real GDP does not move — so real GDP is the measure of whether the economy actually produced more. The ratio of the two is the GDP deflator = (nominal GDP ÷ real GDP) × 100. Worked: nominal GDP ₹2,400 crore, real GDP ₹2,000 crore, deflator = 2,400 ÷ 2,000 × 100 = 120, meaning the general price level is 20% above the base year.

The deflator and the consumer price index measure different baskets
Point	GDP deflator	Consumer price index (CPI)
Coverage	All final goods and services produced in the country	A fixed basket bought by consumers
Imported goods	Excluded — not produced here	Included if consumers buy them
Weights	Change with what is produced each year	Fixed by the base basket

A higher real GDP is not the same as a higher level of welfare, and the book names three reasons. Distribution: GDP can rise while most people's incomes fall, if the gain goes to a few. Non-monetary exchanges: work that is never sold — a homemaker's services, barter in villages — is left out, so GDP understates real activity. Externalities: benefits or harms that a producer causes to others without being paid or paying — a factory's pollution of a river — are not deducted from GDP, so GDP can overstate welfare.

⚠️ A rise in nominal GDP proves nothing about output

If nominal GDP rises by 10% and the deflator rises by 10%, real GDP is unchanged — the whole increase was prices. Questions put "nominal GDP doubled" in the stem and "the economy produced twice as much" among the options. Only real GDP answers a question about quantities.

Key takeaways

A good is final or intermediate by its use, not by its nature: the same milk is final for a household and intermediate for a tea-stall.
Stocks are measured at a point of time (capital, wealth, money supply); flows over a period (income, investment, depreciation).
Gross value added = value of output − intermediate consumption, and value of output = sales + change in stock.
GDP = C + I + G + (X − M); the three methods — value added, income, expenditure — must give the same total.
National income is NNP at factor cost: add NFIA, subtract depreciation, subtract net indirect taxes.
Transfer payments, second-hand sales and financial transactions are excluded; imputed rent and own-account production are included.
GDP deflator = nominal GDP ÷ real GDP × 100; only real GDP measures a change in output.
GDP is an imperfect welfare index because of distribution, non-monetary exchanges and externalities.

Practice questions (8)

Attempt each one before opening the answer. Every explanation names the tempting wrong option as well as the right one, because that is where marks are lost.

Which one of the following is a flow variable?
1. The stock of capital of a firm
2. The money supply on 31 March
3. National income of a year
4. The wealth of a household
Show answer
Answer: C — National income of a year
Income only means something per period — ₹10 lakh a year is a statement, ₹10 lakh on its own is not — so national income is a flow. Capital, wealth and the money supply on a stated date are all measured at a point of time, which makes them stocks; the date in the money-supply option is the giveaway.
A firm's sales are ₹5,000, its stock of finished goods rises by ₹500 during the year, and it buys raw materials worth ₹3,000. Its gross value added is:
1. ₹2,000
2. ₹2,500
3. ₹1,500
4. ₹5,500
Show answer
Answer: B — ₹2,500
Value of output = sales + change in stock = 5,000 + 500 = 5,500; value added = 5,500 − 3,000 = ₹2,500. ₹2,000 is what you get by forgetting that unsold output was still produced, ₹1,500 subtracts the stock increase instead of adding it, and ₹5,500 is the value of output before intermediate consumption is removed.
GDP at market price = ₹1,200 crore, depreciation = ₹100 crore, net factor income from abroad = −₹50 crore, net indirect taxes = ₹150 crore. National income is:
1. ₹1,000 crore
2. ₹1,050 crore
3. ₹1,100 crore
4. ₹900 crore
Show answer
Answer: D — ₹900 crore
National income is NNP at factor cost: 1,200 + (−50) − 100 − 150 = ₹900 crore. ₹1,000 crore treats the negative NFIA as if it were positive, ₹1,050 crore forgets to remove net indirect taxes, and ₹1,100 crore removes depreciation alone and stops there.
Which of the following is included in the national income of a country?
1. Imputed rent of houses occupied by their owners
2. Old-age pensions paid by the government
3. Money received from selling a second-hand scooter
4. Money spent on buying shares of a company
Show answer
Answer: A — Imputed rent of houses occupied by their owners
An owner living in his own house consumes housing services just as a tenant does, so their value is imputed and included. A pension is a transfer payment with no service in return; the scooter was counted in the year it was made; and buying shares only transfers ownership of a financial claim, so none of those three adds to production.
Milk bought by a sweet-shop owner to make sweets for sale is:
1. A final good, because milk is a consumption good
2. A capital good, because it is used in production
3. An intermediate good
4. Neither, because it is a natural product
Show answer
Answer: C — An intermediate good
The milk is used up within the year in producing another good, so it is intermediate; its value reappears inside the price of the sweets. Calling it final because milk is a consumption good is the error of classifying by the good rather than by its use, and it is not a capital good because it does not last beyond one round of production.
Nominal GDP of a country is ₹3,000 crore and its real GDP is ₹2,500 crore. The GDP deflator is:
1. 83.3
2. 120
3. 150
4. 20
Show answer
Answer: B — 120
Deflator = nominal ÷ real × 100 = 3,000 ÷ 2,500 × 100 = 120, so prices stand 20% above the base year. 83.3 inverts the ratio, putting real over nominal, and 20 is the percentage rise in prices rather than the index itself.
Private final consumption = 600, investment = 200, government final consumption = 150, exports = 100, imports = 120 (all in ₹ crore). GDP at market price is:
1. ₹1,050 crore
2. ₹1,170 crore
3. ₹830 crore
4. ₹930 crore
Show answer
Answer: D — ₹930 crore
GDP = C + I + G + (X − M) = 600 + 200 + 150 + (100 − 120) = ₹930 crore. ₹1,050 crore ignores imports altogether, ₹1,170 crore adds imports instead of subtracting them, and ₹830 crore leaves exports out while still subtracting imports.
GDP at factor cost = ₹800 crore, net indirect taxes = ₹100 crore, depreciation = ₹50 crore, net factor income from abroad = ₹20 crore. NNP at market price is:
1. ₹870 crore
2. ₹830 crore
3. ₹670 crore
4. ₹920 crore
Show answer
Answer: A — ₹870 crore
Going from factor cost to market price adds net indirect taxes, domestic to national adds NFIA, and gross to net subtracts depreciation: 800 + 100 + 20 − 50 = ₹870 crore. ₹830 crore subtracts the NFIA, ₹670 crore subtracts net indirect taxes — the right step for the opposite direction — and ₹920 crore forgets depreciation.