National income is the sum total of factor incomes earned by normal residents of a country during the period of an accounting year. This definition of national income includes two important observations:
- National income includes factor incomes only
- National income includes income of only the normal residents of a country
A deeper understanding of the concepts of
(i) factor incomes and
(ii) normal residents,
should be useful in understanding the subject matter of national income and related aggregates.
Factor incomes are related to factor services or factors of production (land, labour, capital, and entrepreneurship). Households are the owners of factors of production (or factor services). Producers hire/purchase the factor services from the households. In return, the households receive payments from the producers. These payments are called factor payments.
From the viewpoint of the households, these are called factor incomes.
Factor incomes (or factor payments) are broadly classified as under:
- Compensation of employees (the factor payment received by the households for rendering their services as employees of the producing units).
- Rent (the factor payment received by the households for the use of land by the producing units).
- Interest (the factor payment received by the households for the use of their capital by the producing units).
- Profit (the factor payment received by the households for the use of their entrepreneurial skills by the producing units).
In the estimate of national income, we include only these factor payments. Transfer payments are not included because transfer payments are unilateral (one-sided) payments, like charity or grants. These are not related to any kind of work (or services) rendered by the residents of a country.
Who are normal residents of a country?
A normal resident is said to be one who ordinarily resides in the country concerned and whose center of economic interest lies in that country. A person residing in a country for a period of one year (or more) is taken as ‘ordinarily residing in the country. A person is said to have his economic interest in a country when he conducts his economic transactions (relating to production, consumption, or investment) in that country on a significant scale (judged by his level of income and wealth). The following observations are of underlined significance:
- Normal residents include both individuals as well as institutions.
- It is not necessary that a normal resident of a country is also a citizen of that country. A person may be a normal resident of one country even when he is a citizen of the other. For example, if an Indian is living in the USA for more than one year and his center of economic interest lies in that country, he would be deemed as a normal resident of the USA even when he continues to be a citizen of India.
- International organizations such as WHO and IMF in a country are not to be taken as normal residents of that country. However, Indians working in these organisations would be taken as normal residents of India.
- Border workers or persons who cross the border between two countries daily or regularly in order to work in one country are the residents of the country in which they live, not of the country in which they are working.
- Officials, diplomats, and members of the armed forces of a foreign country are treated as the normal residents of the country to which they belong, and not of the country in which they are employed.