National income accounting and GDP

1. NATIONAL INCOME CONCEPTS AND
MEASUREMENTS, BUSINESS CYCLE AND
CONTRA CYCLE POLICIES, ECONOMIC
PLANNING AND DEVELOPMENT MODELS,
MAHALANOBIS MODEL, HAROD-
KALDOR MODEL

2. National Income
The National Income is the total
amount of income accruing to a
country from economic
activities in a year's time. It
includes payments made to all
resources either in the form of
wages, interest, rent, and profits.
The progress of a country can be
determined by the growth of the
national income of the country

3. Importance of National Income Accounting
To analyze the
economic growth of
the country.
To understand
the stage in which the
country in business
cycle.
To analyze
the changes
in standard of living in
the economy.
To analyze the equality
of distribution of
income in the
economy .
To makes international
comparisons possible

4. Final goods
and
intermediate
goods
Final goods are the goods that are consumed by the customer.
They are not used in the production of another goods.
Eg. 1kg Tomato bought & consumed by making it into a type of
chutney. Here tomato is a final good.
Intermediate goods are those goods which are used to make
final goods.
Eg. 1kg tomato bought by Kissan Sauce Co. The company makes
makes sauce out of it and sells the sauce in the market. Here
tomato is an intermediate good and sauce is final good
Only final goods are taken into consideration while
calculating National Income

5. If intermediate goods
were also included,
this would lead to
double counting.
Double counting
means counting of
the value of the
same product (or
expenditure) more
than once.
While taking value of final goods, value of
intermediate goods also gets included because
every producer treats the commodity he sells as
final product irrespective of whether it is used as
intermediate or final good.
For instance, while taking value of final goods like
cycles, the value of tyres, tubes, frames, bells, etc.
(intermediate goods) used in manufacturing these
cycles also gets included inadvertently.
In this way certain items are counted more than
once resulting in over-estimation of national
product to the extent of the value of intermediate
goods included. This is called the problem of
double counting which means counting value of
the same commodity more than once.

6. Gross Domestic Product (GDP)
It is defined as the market value of all final goods & services produced by the factors of
production located within the boundary of a country during a period of 1 year. In India GDP is
calculated by CSO(Central Statistical Organization),which comes under the ministry of Statistics
and Programme Implementation.
How to measure GDP Three different ways are used :-
Output Approach
Income Approach
Expenditure Approach

8. Output Approach
Above case is an example of output approach. To understand output approach we’ll have to
add the value of final goods & services and eliminate the value of intermediate goods
(Otherwise the value of intermediate goods would cause double counting and there will be
overestimation of value of GDP.
In the above case, the farmer sells wheat to the miller at Re.1(we are assuming the input cost
of farmer as zero)
So value addition done by farmer = value of output(Rs.1) minus value of inputs(Rs.0) = Re.1).
Miller converts the wheat into flour and sells it to the bakery for Rs.1.5 value addition by
miller = value of output(Rs.1.5) minus value of input(Rs.1)= Rs.0.5

9. Then, bakery converts this flour to cake and sells it to Mc.Donalds for Rs.2
Value addition by bakery = value of output(Rs.2) minus value of inputs(Rs.1.5)= Rs.0.5
Then Mc.Donalds sells this cake to Virat Kohli for Rs.2.5 ,who then eats it very happily.
Value addition by Mc.Donalds = value of output(Rs.2.5) minus value of inputs(Rs.2) = Rs.0.5
Total value addition in this whole process is 1 + 0.5 + 0.5 + 0.5 = Rs.2.5

10. Concept and
measureme
nt of “Value
Added”
It is defined as the difference between the value of output of a firm
and value of inputs bought from other firms.
It is thus the value which the firm concerned has added by its
process of production (Basically the profit margin). Most goods pass
through many stages of production.
The value of the final good will be equal to the sum of the value
added at each stage of production.
Sum of value added = 1 + 0.5 + 0.5+ 0.5 = 2.5 = Value of the Final
Good
GDP contribution = 2.5(1+.5+.5+.5) GDP is sum of value addition at
each stage of production and not 1 + 0.5 + 2 + 2.5 = 7

11. Income Approach
Here GDP is sum of all factor incomes generated in the production of a good. It is the addition of
all factor incomes generation in the production of goods and services.
It includes :-
1. Wages
2. Profit to the owners of the firm
3. Rent earned by owners of the land
4. Interest earned by the person providing capital

12. In the above example, while producing wheat, flour, cake and giving services at Mc.Donalds,factor incomes are
generatedat each stage.
Eg. the miller purchases the wheat at Rs.1, converts it into flour and sells it for Rs.1.5.
But for doing it, he needs a piece of land , for which he pays a rent(10 paise),he employs a labourer and he gives
wages(15 paise) to him ,he has taken a loan from a bank, for which he has to give interest(10paise) and then whatever is
left after paying rent, interest and wages, he gets it as his profit(15 paise).
All this is repeated at every stage. So when we add factor incomes generated at each stage, we get GDP by Income
Approach.

13. Expenditure Approach
Here GDP is considered as sum of Expenditure. There are three different types of expenditures:
1.Private Consumption Expenditure (C) :
It is the monetary value of goods & services purchased by households or individuals or nonprofit institutions like
gurudwaras. During a time period.
It is divided in 3 sub categories:
Consumer services: Eg. Banking, transport, education etc.
Consumer non-durable goods: Eg. Food, Clothes Etc. These goods are used in very short span of time.
Consumer durable goods: Eg. Fridge, T.V. etc. They are used for longer period of time. But durability doesn’t
state of permanence. Durable goods also have a limited period of use value after which they are discarded.
Private consumption expenditure adds up the expenditure of all the 3 categories above

14. 2.Investment(I):
It includes four categories:
a. Business fixed investment: Amount spent by business units on purchase of new machinery.
b. Inventory investment: Net change in inventories of final goods awaiting sale. These must be
included since they represent currently produced output but are not included in the current sale
of final output. The difference between goods produced and goods sold in a year is called
inventory.
c. Residential construction investment:- Amount spent on building housing units.
d. Public investment:- It includes all capital formation carried by government for the construction of
roads hospitals etc. Total investment will be sum total of al the above investment.

15. 3.Goverment purchase of goods & services(G)
It includes the government spending on goods & services. Eg salaries.
At the same time government makes payments to certain categories of people to compensate them. Eg.

16. GNP (Gross National Product)
It is the value of output produced by the nationals of a country both within the
geographical boundary and outside. Income is calculated as part of GNP on the basis
who owns the factors of production rather than where the production takes places.
The difference between GDP and GNP is that GNP includes net factor income from
abroad. Or to calculate GNP, we add the income of Indians from abroad and subtract
the contribution of foreigners in India’s GDP.
GNP = GDP + (Factor income earned by the domestic factors of production employed in
the rest of the world) minus (Factor income earned by the factors of production of the
rest of the world employed in the domestic economy .

17. GNP = GDP + NFIA (net factor income abroad
The items counted in income from abroad are:
1.Net exports: It is (exports minus imports). In India’s case, it is negative
because we import more than what we export .
2.Interest of external loans : India takes more loans than it provides to
other countries. Therefore, India gives more interest on external loans
takes as compared to the interest what it earns on the loans given to
other countries. So, the interest is overall negative in India’s case. Net
interest = interest taken – interest given = –ve (India gives more interest)

18. 3.Income from entrepreneurship and returns on investments (FDIs/FIIs) like dividends and
interest: Negative in case of India. There are more foreign companies investing in India as
compared to Indian companies investing abroad. Moreover the amount invested by foreign
companies is greater compared to what Indian companies invest abroad. Therefore, the returns
on investments of foreign companies is larger. Net income is equal to Indian companies getting
return on investment from abroad minus foreign companies getting return on investment made
in India = –ve.
4.Private remittances: It is that net outcome (result) of money which inflows and outflows on
account of private transfers by Indians working outside (sending money to India) and foreign
nationals working in India (sending money to their homeland). In India’s case, it is always
positive due to large remittances (India is the largest receiver of remittances in the world) sent
by Indians especially from Gulf region, US, EU etc. In India, the Balance of above four points
comes out to be negative and hence NFIA in India is negative.

19. GNP = GDP + NFIA
GNP(India) = GDP(India) – NFIA
GDP(India) > GNP(India)
GNP is the national income according to which IMF ranks the
nations of the world.

20. Net Investment,
Depreciation, Net
domestic
product(NDP)
So investment is not measured as money put in
business or any economic activity but it is basically
that portion of the final output which consists of
capital goods.
Investment in the economy is also called Gross Fixed
Capital Formation. Which mainly refers to the value of
new machinery and equipment plus the value of new
construction activity undertaken during the year.
Investment also includes net acquisition of valuables
like precious articles ,gems and stones ,silver ,gold etc.

21. Now, when the factory
runs for a year, then
wear and tear happens
in the factory which is
called depreciation.
Depreciation is also
defined as consumption
of physical capital.
Depreciation is the value
of the existing capital
stock that has been
consumed in the process
of producing output.
• Net Domestic Product (NDP) and Net National Product
(NNP) at MP : While calculating GDP or GNP, we ignore
depreciation of assets or capital consumption. But in
reality, production uses up a certain amount of fixed
capital by way of wear and tear by a process termed as
depreciation, or capital consumption allowance.​
• In order to arrive at NDP or NNP, we deduct depreciation
GDP or GNP.​
• Hence,​
• NDP = GDP - Depreciation​
• NNP = GDP - Depreciation + NFIA , or​
• NNP = GNP - Depreciation

22. GDP at Market price and GDP at factor cost
Market price refers to the actual transacted price and it includes indirect taxes like excise duty and custom duty.
GDP at market price: Is money value of all goods and services produced within the domestic domain with the
available resources during a year.
Note: GDP measures final output and not intermediate goods.
It Also, excludes items produced in previous years, because those goods were calculated in previous year’s national
income.
Market price = factor cost + indirect taxes – subsidies
Net Indirect Taxes = Indirect taxes – subsidies

23. GDP at factor cost: Factor
cost or national income by type
of income is a measure of
national income or output
based on the cost of factors of
production, instead of market
prices.
This allows the effect of any
subsidy or indirect tax to be
removed from the final
measure.
GDP at factor cost = GDP at
Market Prices – Indirect taxes +
Subsidies

24. Terms that are
excluded from
GDP
measurement
1.Purely Financial transactions
These are of 3 types: Buying and selling of securities, Government
transfer payments, Private transfer payments
2. Selling of used goods
3.Non market goods and services
4.Illegal activities
5. Environmental cost

25. Limitations of GDP as a measure of welfare
•It doesn’t value intangibles like leisure, quality of life etc.
•Impact of growth can be harmful for the environment.
•Unpaid services like housewives productivity are not considered.
•Doesn't take in to account self-consumption.
• It only gives average figures that causes stratification (it makes layers).
•Economic inequality is not revealed by GNP figure.
• Condition of poor is not indicated
• Doesn’t show gender disparity
•Doesn’t measure sustainability of growth

26. What are the uses of National Income statistics
Formulation of economic policies
Studying economic structure
Inter- sectoral Comparisons
Indicator of Economic Welfare
Making International Comparisons
Assess the performance of different production sectors

27. IMF’s
Classification of
countries
The world Economic Outlook(WEO,IMF) classifies the world into
two major groups:
i.Advanced economies
ii.Emerging market and developing economies
The above classification is based on three parameters:
1.PCI(Per capita income)using PPP exchange rate
2.Export diversification
3.Degree of integration into the global financial system
As per the PPP exchange rate, India’s GNI per capita is $5350.

28. Least
Developed
Countries,
Developing
Countries, and
Developed
Countries
The least developed countries (LDCs) are
countries that, according to the United
Nations, exhibit the lowest indicators of
socioeconomic development, with the lowest
human development index (HDI) ratings of all
the countries in the world. The concept of
LDCs originated in the late 1960s.

29. A country is
classified
among the
LDCs if it meets
three criteria:
1. Poverty: An adjustable criterion based on the per
capita averaged over three years. As of 2015, a country
must have GNI per capita less than $1035 to be included
on the list and over $1242 to graduate from it.
2. Human resource weakness (based on the indicators of
nutrition, health, education, and adult literacy).
3. Economic vulnerability (based on the instability of
agricultural production, instability of exports of goods and
services: economic importance of non-traditional
activities, merchandise export concentration, and the
percentage of population displaced by natural disasters).

30. A developing country, also called a less developed country or an under developed county is a
nation or a sovereign state with a less developed industrial base and a low HDI relative to other
countries.
There are no universally agreed criteria that make a country developing or developed, although
there are general reference points such as a nation's GDP per capita compared to other nations.
nations.
A developed country ,industrialized country, or ',more economically developed country` (MEDC),
is a sovereign state that has a highly developed economy and advanced technological
infrastructure relative to other less industrialized nations.

31. Peculiar case of
India’s Growth
story:
Services led growth India's economic growth is mainly on
account of growth in the services sector. It has bypassed
the stage of growth in the secondary sector.
India has witnessed high growth in the services sector
due to the following reasons:
Low cost of workers
Availability of skilled personnel
People who can speak English and, thus, provide services
abroad
Information technology facilitating delivery of services
from India to anywhere across the world.

32. On the other hand, India has not witnessed much growth in
the secondary sector due to the following, reasons:
Late entry of the private sector in
the economy due to delayed
liberalization
Competition from Chinese
goods, which are available at
cheap prices and are available in
wide range,
Poor quality of infrastructure,
which enhances the cost of
doing business and hampers the
pace of business operations.
Excessive rules and regulations in
India (or red tapism).

33. BUSINESS CYCLE

34. What is a business cycle
A business cycle is the periodic but irregular up-and-down movements in
economic activity.
A study of fluctuations in business activity is called business cycle.
Business cycle can be defined as a periodically recurring wave like movements in
aggregate economic activity (like national income, employment, investment,
profits, prices) reflected in simultaneous, fluctuations in major macro-economic
variables.

35. Characteristic Features of
Business Cycle:
Wave-like movements: A business cycle is a wave-like movement. It is characterized by
alternation of expansion (prosperity) and contraction (depression) in economic activity.
Repetitive and rhythmic: Trade cycles are repetitive and rhythmic. The period of prosperity is
followed by depression and which again is followed by a period of prosperity. Thus the economy
economy moves from one extreme to another, almost like a pendulam.
It occurs periodically: the fluctuations in economic activities occur periodically but not at a fixed
period of interval.
It is international in character: the changes in any economic activity of a country have impact on
on economies of the world. That is, once started in one country, they spread to other countries
through trade relations between them. In short, a business cycle occurs periodically, in a wave-
like fashion and with varying magnitude, affecting the entire economy
Economy-wide: A business cycle is an economy wide phenomenon. It may start in one industry.
Then it spreads to all the other industries. Finally it affects the entire economy.

36. Varying duration : The business cycles differ in time. While some last for 2 to 4
years, others last for 8 to 10 years or even more. Their time periods will vary
according to the industries and the economic conditions.
Profits fluctuate more: Profits fluctuate more than the other incomes. During
depression, profits may even become negative and many businesses go bankrupt.
bankrupt. Further, in business cycles, prices and production generally rise or fall
together.
Capital goods industries are most affected: The business cycles affect capital goods
industries more than the consumer goods industries.
Immediate impact is on inventories: The immediate impact of business cycle is on
the inventories of goods. When depression sets in, the inventories start
accumulating beyond the desired level.
5. The cycles will be similar but not identical: the cycle has ups and downs but not
not identical spacing that means the time period of occurrence will differ.

37. Types of Business Cycle
Prof. James Arthur classified business cycles into 3 parts as follows:
1. Major and Minor Trade Cycles: Major trade cycles are those the period of
which is very large. Minor trade cycles are the cycles which occur during the
period of a major cycle. Prof. Hanson determines the period of a major cycle
between 8 years and 33 years. Two or three minor cycles occur during the
period of a major cycle. Period of a minor cycle is 40 months.
2. Building Cycles: Building cycles are the trade cycles which are related with
construction industry. Period of such cycles range from 15 to 20 years.
3. Long Waves: Period of a long wave is of 50 years. It was discovered in 1925
a Russian economist Kondratief. One or two major trade cycles occur during the
period of a long wave.

38. 4. Kuznets Cycle: Prof. Simon Kuznets, famous American economist
propounded a new type of business cycle, the secular swing of 16-22
years duration. This has come to be known as Kuznets Cycle.
Schumpeter distinguished 3 types of trade cycles as follows:
1. Short Kitchin Cycle: The period of this cycles is very short,
approximately 40 months duration. It is famous after the name of the
British Economist Joseph Kitchen.
2. Longer Juglar Cycle: This cycle has an average 9.5 years duration.
Longer Juglar cycles are major cycles. It is famous after the name of
Clement Juglar a French Economist of the 19th Century. He, on the
basis of his investigation (in 1862), established the cyclical nature of
business fluctuations.
3. Very Long Kondratief Wave: It takes more than 50 years to run its
course.

39. Phases of Business cycle
The business cycle has four phases, Boom, Recession,
Slump and Recovery. In economics it has been
observed that income and employment tend to
fluctuate regularly overtime. These fluctuations are
known as business cycle or trade cycle.
The fluctuation in the activities is measured with
respect to a horizontal line indicating a given steady
level of economic activity.

41. Boom/ Peak
Boom is the peak point of Busines cycle. Business optimism stimulate
further investment. Rise in investment increases pressure on
available men and materials. Hence wages and prices rise. Number of
jobs exceed the number of workers available in the market. This
situation is called overfull employment, Prices, wages, interest and
profit move in the upward direction. Business people borrow more
and invest it. The tempo of boom reaches new heights. There is an
atmosphere of overoptimism all round.
The boom carries with it the seeds of self-destruction. Recession lies
in the womb of boom. Excess demand for factors of production
(labour, materials etc.) make them scarce and increase their prices
(rent, wages, interest etc, increase). Increased prices reduce the
consumption level. Thus prosperity digs its own grave.

42. Important characteristics of boom are:
(a) rise in investment in production,
(b) rising prices of factors of production due to heavy demand,
(c)rising prices of products (inflation),
(d) rising wages, interest, profit etc.
(e) higher output, income, and employment (living standard also
rises)
(f) higher purchasing power,
(g) over-optimism all round leads to over-investment (rising cost
of living),
(h) end of prosperity and the beginning of recession.
From the point of view of consumers, inflation is very
dangerous. During the period of inflation, the consumers go to
the market with bags-full of money and return home with
pockets-full of commodities. This is because of rocketing prices
in the market.

43. Recession
Where boom ends recession starts. The over optimism of boom gives
way to over pessimism, i.e., recession. Recession is a turn from boom to
depression. It is generally for short period. Recession is a period of
declining economic activities. The recession is first reflected in a stock
market. During this period businessmen lose their confidence. The
failure of some business houses discourages fresh investments. Bank
loans are withdrawn. There is sharp contraction in bank credit. Due to
decline in production, unemployment appears first in basic industries
and then it spreads out to other industries. This increase in
unemployment further depresses the economy by bringing down the
income, expenditure, prices and profits. Thus in a recession there is
feeling of panic all around. There is uncertainty about the prices and
the business activity slows down.

44. Important characteristics of recession are:
(a) There is a downfall in the activities of stock exchanges;
(b) Failure of some business creates panic among businessmen,
(c) No new ventures are taken up,
(d) Banks curtail credit,
(e) Business expansion stops,
(f) Workers are laid off,
(g) There is unemployment in the economy,
(h) Income, expenditure, prices, profits, industrial and trade activities all fall.
Thus recession is a period of utter confusion and chaos. Once the recession starts in the
economy, it gathers momentum till it reaches its final stage of business cycle i.e., depression.
Thus, in brief, recession is the intervening phase between the boom and depression. In short,
when recession becomes severe, it is known as depression. As already observed, depression is
the period of utmost suffering for businessmen.

45. Depression
Depression is a situation of severely falling prices and lowest level of
economic activities. During this phase business activities are far
below the normal. Therefore. depression is characterised by a bad
situation of low output and low unemployment. The prices fall.
Savings decline rapidly because incomes are less. So investments also
fall. Wages and profits decline. Demand and expenditure fall. There
is massive unemployment. Stock market crash happens and
everywhere pessimism prevails. People suffer greatly because of
unemployment and lack of income.

46. The remarkable features of depression are
(a) The price level is very low,
(b) The volume of production and trade is falling. (c)
Unemployment is very high, (d) The firms are incurring losses,
(e) Interest, wages and rent are all falling,
(f) Aggregate expenditure and effective demand go on
declining,
(g) Bank credit contracts,
(h) There is little or no opportunity to invest,
(i) Stock market is dull and stock prices are falling to a low
level,
(j) Construction activity comes to a complete stand still,
(k) The consumer goods industries are least affected, while
capital goods industries come to a complete stand-still.

47. Recovery
Depression cannot last long forever. It gives place to revival or
recovery. After the lowest point of depression is reached the
economic situations begin to improve. There is revival of
business and economic activity. Revival of business activity
first appears in the capital goods industries. An increase in
demand for capital goods leads to an increase in investment
and employment in these industries. Increase in employment
leads to rise in income. Increase incomes push up the
demand for goods and services. A rise in their demand leads
to a rise in their prices and profits, further investment,
further production and higher income and savings. Thus once
investment expansion movement starts, it gathers
momentum.

48. Thus once investment expansion movement starts,
it gathers momentum. The striking features of
revival phase are;
(a) The level of prices, production, employment
and income slowly and steadily rises,
(b) The stock market becomes more sensitive, (c)
The profit margin slowly rises,
(d) Bank loans and demand for credit start
increasing,
(e) With the recovery in industrial sector, the
agricultural sector of the economy also recovers,
(f) Increased business and factor income result in
increased expenditure which causes further
increase in income and business activity.
This, in turn, results in further increased
expenditure and so on. Thus during recovery, the
expectations of the businessmen will improve and
optimism develops in the business community.

49. Theories On Business Cycle:
1. Sunspot theory / climate theory: depending on climatic changes
agricultural products are produced. Based on the production other
ancillary units will function therefore the base for any change in
economic activity of the country is climate.
2. Psychological theory: during depression or crisis of any business
organization it is completely based on the psychology of the
entrepreneur as to whether the organization can be revived or shut
down.

50. 3. Monetary theory: means the demand and supply of
money is the primary reason for economic fluctuations of
a country.
4. Over investment theory: if the organizations and
individuals save more and invest a huge amount then their
their expectations on increase in their returns.
5. Over savings/ under consumption theory: As per this
theory the increase in savings and investment will bring
down the consumption which will reduce the demand for
goods in the market.
6. Innovation theory: According to this theory more
innovations lead to new technology and new business that
that leads to prosperity in the economy.

51. Contra Cyclical Policies
In order to control the evil effects of business cycles, a firm can adopt
certain measures. There are preventive measures and formal
measures.
A. Preventive Measures: These are the measures adopted to
minimise the possibly of occurrence of trade cycles are:
1. Agriculture should not depend upon rainfall. Adequate irrigation
facilities should be developed.
2 Inequalities in the distribution of income and wealth should be
reduced to minimum.
3. Speculative trend should be checked.
4. All the efforts should be made to maintain proper balance between
demand and supply.
5. All business and industrial activities should be strictly controlled.

52. At the firm level, the following measures should be adopted by
a business enterprise:
1. Avoid undue increase in plant and equipment and in
dividend.
2. Manage the plant in such a way as to avoid decrease in unit
production, avoid increase in unit overhead and maintain
satisfactory labour conditions.
3. Avoid excessive inventories.
4. Avoid purchase commitments in excess of financial
resources.
5. Avoid excessive sales which result in cancellations.
6. Avoid over investment, over production and expansion.
7. Prevent temporary diversification programmes.

53. B. Formal Measures: The following are the important
formal measures adopted to minimise the harmful effects
of trade cycle:
1. Monetary Policy: Monetary policy includes all the
measures through which central bank of the country
regulates the supply of money and credit in the country.
To overcome the situation of depression, the policy of
credit expansion is followed. This enables the
businessmen to take more loans and increase their
investments. This leads to increase in production,
employment and income. In order to overcome the
problem of inflation, the policy of credit contraction is
adopted. By this the entrepreneurs are forced to withdraw
withdraw their investments.

54. 2. Fiscal Policy: The important components of fiscal policy are budget policy, taxation policy, public expenditure and
public debt. During the period of depression the aim of fiscal policy is to increase effective demand, while in times of
of inflation the policy aims at reducing public expenditure. The following are the measures adopted through fiscal
policy:
(1) During the period of depression, deficit financing should be adopted.
(ii) During the period of inflation, budget deficit should be limited.
(iii) During the period of depression there should be maximum burden of taxation on consumers. The distribution of
of income should be in the favour of poor class.
(iv) During the period of inflation, new taxes should be imposed and existing tax concessions should be withdrawn.
(v) During the period of depression public expenditure should be increased so that effective demand may increases.
increases. It should be curtailed during the inflationary period.
(vi) During the period of depression, public debt should be repaid, while maximum publicdebt should be collected
during the period of inflation. It should be remembered that both monetary and fiscal policies have their own
limitations.

55. 3. Unemployment Insurance: During depression, the
unemployment problem is acute. To reduce the acuteness
of this problem unemployment insurance should be
introduced.
4. Price Control: To control inflation, Prof. Fisher suggested
the adoption of price control policy.
5. Price Support Policy: Whenever prices tend to fall below
a guaranteed minimum price, the government should step
into the market and purchase the entire stock at the
minimum support price. This step saves the producers
from losses.

56. Economic Development
Economic development, the process
whereby simple, low-income national
economies are transformed into
modern industrial economies. Although
the term is sometimes used as a
synonym for economic growth,
generally it is employed to describe a
change in a country’s economy involving
qualitative as well as quantitative
improvements

57. Economic Planning
Economic planning is the process through which we
can take the decisions of what and how it is to be
produced through controlling and managing the
economic activity. It is an economic program
speculated for the development of the regional
economic system.

58. Economic Planning and Development
Models
1. MAHALANOBIS MODEL
The Mahalanobis model is a two-sector model of economic development.
1. It is an alternative approach to planning that focuses on the bottlenecks created by a shortage of capital
goods.
2. The model has a capital goods and a consumption goods sector, and tells us how the resources are to be
distributed between these two sectors such that maximum economic growth is achieved.
3. The model emphasizes a shift in the mode of industrial investment towards building up a domestic
consumption goods sector.

59. Assumptions of the model
Assumptions of a close economy
Consists of 2 factors
Consumption goods sector C
Capital goods sector K
Capital goods are not shift able
Full capacity Production
Investment is determined by supply of capital goods
Capital is the only scarce factor
Production of capital goods is independent of production of consumer goods

60. This model is known as model of Economic development.
Created by Soviet Economist Grigory A Feldman in 1928 and Indianised by statistician Prasanta Chandra
Mahalanobis in 1953.
First five-year plan stressed on investment of capital accumulation
Mahalanobis plan is the basis to India's second 5-year plan
Shift in the pattern of industrial investment towards building up a domestic consumption
In order to reach a high standard in consumption, investment in building a capacity in the production of
capital good is required.
In long run the presence of high capacity in the capital good sector expands the capacity in the
production of consumer goods
This Model suggested that there should be an emphasis on the heavy industries, which can lead the
Indian Economy to a long term higher growth path.

61. 2. Kaldor Model
The starting point of Kaldor is the belief that the
income of the society is distributed between
different classes, each having its own propensity
to save (K = W + P).
The equilibrium can be brought about only by a
just and appropriate distribution of income.
In other words, growth rate and income
distribution are inherently connected elements.
Kaldor’s model depends on these two elements
and their relationships and brings forth the
importance of distribution of income in the
process of growth— this is one of the basic
merits of Kaldor’s model.

62. Assumptions of
the model
Short period supply of aggregate goods and services in a growing
economy is inelastic and not affected by any increase in effective
monetary demand. As it is based on the Keynesian assumption of “full
employment”.
The technical progress depends on the capital accumulation. Kaldor
postulates the “technical progress function”, which shows a
relationship between the growth of capital and productivity,
incorporating the influence of both the factors. Where the capital-
output ratio will depend upon the relationship of the growth of capital
and the growth of productivity.
Wages and Profits constitute the income, where wages comprise
salaries and earnings of manual labour, and profits comprise income of
entrepreneurs as well as property owners. And total savings consists of
saving out of wages and savings out of profit.

63. Nicholas Kaldor in his essay titled “A model of
economic growth” originally published in Economic
Journal in 1957.
He postulates a growth model; in this model he
attempts to “Provide a framework for relating the
genesis of technical progress to capital accumulation”.
According to Kaldor, “The purpose of theory of
economic growth is to show the nature of non-
economic variables which ultimately determine the
rate at which the general level of production of
economy is growing, and there by contribute to an
understanding of the question of why some societies
grow so much faster than others.”

64. 3. HARROD MODEL OF ECONOMIC GROWTH
It is used in development economics to explain an economy’s growth rate in terms of the level of saving and
productivity of capital.
It suggests there is no natural reason for an economy to have a balanced growth.
Assumptions
1. Constant returns to seals holds.
2. The level of ex-ante aggregate saving is a constant proportion of aggregate income.
3. The overall effect of technical progress is neutral.
4. The capital output and labour output ratios are assumed to be constant.
5. The entrepreneurs desire to undertake investment depending on how quickly output is increasing.

65. Harrod has raised three issues on which he
concentrates in his growth model.
1. How can steady growth rate be achieved with a fixed capital output ratio ie., capital co-efficient
and the fixed saving income ratio ie., Propensity to save?
2. How can steady growth to be maintained?
3. How do the natural factors put ceiling on the growth rate of the economy?
Answer to these three questions are based on three distinct rate of growth as:
1. Actual Growth rate (G)
2.Warranted growth rate (Gw)
3.Natural growth rate (Gn)

66. Natural growth
The Natural growth rate is determined by natural conditions such as
labour force, natural resources, capital equipment, technical
knowledge etc. These factors place a limit beyond which expansion
of output is not feasible. This limit is called Full-Employment
Ceiling. This upper limit may change as the production factors grow,
or as technological progress takes place. Thus, the natural growth
rate is the maximum growth rate which an economy can achieve
with its available natural resources.
Eg: If the labor force grows at 3 percent per year, then to maintain
full employment, the economy’s annual growth rate must be 3
percent

67. Actual Growth Rate
The Actual Growth Rate is the growth rate
determined by the actual rate of savings and
investment in the country. In other words, it
can be defined as the ratio of change in income
(AT) to the total income (Y) in the given period.
If actual growth rate is denoted by G, then G =
∆Y/Y

68. Warranted growth
“Warranted growth” refers to that growth rate of the
economy when it is working at full capacity. It is also
known as Full-capacity growth rate. This growth rate
denoted by Gw is interpreted as the rate of income
growth required for full utilization of a growing stock
of capital, so that entrepreneurs would be satisfied
with the amount of investment actually made.