In a major overhaul of the way India’s gross domestic product (GDP) is calculated, the Central Statistics Office (CSO) started measuring the country’s economic growth by gross value-added (GVA) at basic prices from 2015 onwards, replacing the practice of measuring it by GDP at factor cost. Here we look at the major difference between the old method of GDP calculation to a new method of GDP calculation i.e. Gross Value Added Method.
Why new method was adopted by Central Statistical Office (CSO):
The new method was recommended by the United Nations System of National Accounts (SNA) in 2008 and will make India’s GDP growth numbers comparable with that of developed nations. The SNA describes a coherent, consistent and integrated set of measures in the context of internationally agreed concepts, definitions, classifications and accounting rules.
What is Gross Domestic Product (GDP): GDP is the total value of everything produced by all the people and companies in the country. It doesn’t matter if they are citizens or foreign-owned companies. If they are located within the country’s boundaries, the government counts their production as GDP.
What are changes made by CSO to calculate GVA based GDP: At the time of shifting the calculating methodology to the new GVA based methodology following changes are made:
What is the Base year: A base year is a year used for comparison in the measure of a business activity or economic index. In the base year, all the economic activities are equated to 100 percent based on the market price of those activities in that year. Under that 100%, each activity is given a certain percentage based on the importance of that activity in terms of contribution to GDP.
Why, to change base year then, regularly: Take the example, suppose India’s GDP is Rs. 1000 and base year is 2000. Now, in 2015, many sectors such as IT, e-commerce, mobile telephony etc contributes to our economy, which were not present in 2000. Thus, India might be showing wrong GDP figures, since the majority of economic activities driving sectors are not represented in Rs. 1000. So, our govt. decides to change the base year to 2010. The revised base year will lead to all such sectors coming into play, and the GDP number will increase as the total output from these sectors will be added, which was not the case in 2000 base year.
Who advises the changing the Base Year: By the National Statistical Commission, which had advised to revise the base year of all economic indices every five years. The new base year has been selected in line with the latest quinquennial round of employment-unemployment survey.
What is new in the changed base year to 2011-12: The new 2011-12 series will also incorporate results of the then recent national sample surveys such as enterprise survey (2010-11), employment-unemployment survey (2011-12), all India debt and investment survey, situation assessment survey of farmers and survey on land and livestock holdings (2013). It will also take into account the population census (2011), agriculture census (2010-11) and livestock census (2012).
Hence, first we should calculate the GVA of each sector in a prescribed format. Here, the SNA and the new methodology adopted in India calculate sectoral GVA at basic prices.
When using production or income approaches to estimate national income are adopted, the contribution of a particular industry or sector to an economy is measured using GVA.
GVA: Gross value added (GVA) is the value addition done to a product resulting in the production of final product.
GDP: Gross Domestic Product (GDP) is the total value of products produced in the country.
While GDP gives a picture of the whole economy, GVA gives pictures at enterprises, government and households levels. In other words, GDP is GVA of all enterprises, government, and households.
How to calculate Gross Value Added at basic prices: Under the old method, GDP was calculated at factor cost; now it will be done at basic prices. To understand the difference, let us look at it from the producers’ point of view. For a producer, GDP at factor cost represents what he gets from the industrial activity.
Production subsidies are different from Product subsidies. Product taxes and Product subsidies – Product taxes or subsidies are paid or received on per unit of the product. Examples for product tax are excise duties, sales tax etc. Food, fertilizer and fuel subsidies which are provided per unit are product subsidies.
For arriving at the new gross value added (GVA) at basic prices, production taxes, such as property tax, are added and subsidies are subtracted from GDP at factor cost. Put simply, GVA at basic price represents what accrues to the producer, before the product is sold.
GVA at basic prices = GDP at factor cost + Production Taxes – Production subsidies.
Why tax has to be added and subsidies have to be reduced? Taxes are out of the effort (production) of the producer. Actually, it is brought out of his income. On the other hand, subsidies are not his income, it is accrued from outside. Subsidies are not out the contribution of the concerned firm. So, taxes to be added and subsidies should be reduced to estimate the GVA of the concerned firm/sector.
The price paid by the consumer is not the same as the revenue received by the producer. This is because of the taxes that are paid to the government in the form of indirect taxes. Similarly, the consumer may receive subsidies on food or petrol.
GDP at market prices makes an adjustment for any such subsidy or indirect tax — to arrive at GDP at market price, indirect taxes are added while subsidies are subtracted from GVA at the basic price.
GDP at market price = GVA at basic price + indirect taxes – subsidies.
To measure anything in economics, we need data first. W.r.t this data there are two challenges:
First: that monetary value of all the activities of any corporate entity. Until now, the manufacturing data was compiled factory-wise. Now, activity at the enterprise-level is taken. What does this mean?
Factory: A ‘factory’ is a manufacturing plant or may be a refilling plant or likewise.
Enterprise: An enterprise is a complete business which may involve buying and stockpiling raw materials (warehousing), manufacturing at factories, putting advertisements (marketing), selling (sales) etc.
How does it makes a difference: In the given context what this means is that up till now government used only the manufacturing data to estimate the size of manufacturing portion of economy in the GDP, but now on they will use the data at the enterprise level meaning it will also include data on marketing, accounting, sales Etc. Meaning if you manufacture a car for Rs 20,000 a unit but spend Rs 1,000 per unit to market and sell it. Then your contribution to the GDP will be Rs 21,000 per a unit of the car.
Secondly: from how many numbers of corporate units we get that information.
Earlier, for data on corporate activity, CSO relied on the data from the Annual Survey of Industries (ASI), which comprises over two lakh factories, was used to gauge activity in the manufacturing sector.
Annual Survey of Industries(ASI) is the main survey conducted by Central Statistics Office (CSO) Industrial Statistics (IS) wing.
But in the latest method, to gauge activity in the manufacturing sector, annual accounts of companies filed with the Ministry of Corporate Affairs — MCA21 — has been used. This MCA21 include around five lakh companies, bringing in more companies from the unlisted and informal sectors. Thus more no of entities are under GDP calculation.
Which of the two measures is considered more appropriate gauge of the economy?
A sector-wise breakdown provided by the GVA measure helps policymakers decide which sectors need incentives or stimulus and accordingly formulate sector specific policies.
But GDP is a key measure when it comes to making cross-country analysis and comparing the incomes of different economies.
Why should I care? How the economy is doing is critical to your job prospects and your annual pay hike. A higher GDP is usually good news, implying better living standards for the country at large.
For the investor, the implications are more direct — a higher growth in the economy will mean better corporate earnings. Higher GDP or GVA growth in India may also lure more foreign investors to pour capital into the country.