National Income: Definition, Concepts and Methods of Measuring National Income

Introduction:
National income is an uncertain term which is used interchangeably with national dividend,
national output and national expenditure. On this basis, national income has been defined in a
number of ways. In common parlance, national income means the total value of goods and
services produced annually in a country.
Definitions of National Income:
The definitions of national income can be grouped into two classes: One, the traditional
definitions advanced by Marshall, Pigou and Fisher; and two, modern definitions.
The Marshallian Definition:
According to Marshall: “The labour and capital of a country acting on its natural resources
produce annually a certain net aggregate of commodities, material and immaterial including
services of all kinds. This is the true net annual income or revenue of the country or national
dividend.” In this definition, the word ‘net’ refers to deductions from the gross national income
in respect of depreciation and wearing out of machines. And to this, must be added income from
abroad.
The Pigouvian Definition:
A.C. Pigou has in his definition of national income included that income which can be measured
in terms of money. In the words of Pigou, “National income is that part of objective income of
the community, including of course income derived from abroad which can be measured in
money.”
This definition is better than the Marshallian definition. It has proved to be more practical also.
While calculating the national income now-a- days, estimates are prepared in accordance with
the two criteria laid down in this definition.
First, avoiding double counting, the goods and services which can be measured in money are
included in national income. Second, income received on account of investment in foreign
countries is included in national income.
Fisher’s Definition:
Fisher adopted ‘consumption’ as the criterion of national income whereas Marshall and Pigou
regarded it to be production. According to Fisher, “The National dividend or income consists
solely of services as received by ultimate consumers, whether from their material or from the
human environments. Thus, a piano, or an overcoat made for me this year is not a part of this
year’s income, but an addition to the capital. Only the services rendered to me during this year
by these things are income.”
Fisher’s definition is considered to be better than that of Marshall or Pigou, because Fisher’s
definition provides an adequate concept of economic welfare which is dependent on
consumption and consumption represents our standard of living.
Modern Definitions:
From the modern point of view, Simon Kuznets has defined national income as “the net output
of commodities and services flowing during the year from the country’s productive system in the
hands of the ultimate consumers.”

1
On the other hand, in one of the reports of United Nations, national income has been defined on
the basis of the systems of estimating national income, as net national product, as addition to the
shares of different factors, and as net national expenditure in a country in a year’s time.
Concepts of National Income:
There are a number of concepts pertaining to national income and methods of measurement
relating to them.
(A) Gross Domestic Product (GDP):
GDP is the total value of goods and services produced within the country during a year. This is
calculated at market prices and is known as GDP at market prices. Dernberg defines GDP at
market price as “the market value of the output of final goods and services produced in the
domestic territory of a country during an accounting year.”
There are three different ways to measure GDP:
Product Method, Income Method and Expenditure Method.
These three methods of calculating GDP yield the same result because National Product =
National Income = National Expenditure.
1. The Product Method:
In this method, the value of all goods and services produced in different industries during the
year is added up. This is also known as the value added method to GDP or GDP at factor cost by
industry of origin. The following items are included in India in this: agriculture and allied
services; mining; manufacturing, construction, electricity, gas and water supply; transport,
communication and trade; banking and insurance, real estates and ownership of dwellings and
business services; and public administration and defense and other services (or government
services). In other words, it is the sum of gross value added.
2. The Income Method:
The people of a country who produce GDP during a year receive incomes from their work. Thus
GDP by income method is the sum of all factor incomes: Wages and Salaries (compensation of
employees) + Rent + Interest + Profit.
3. Expenditure Method:
This method focuses on goods and services produced within the country during one year.
GDP by expenditure method includes:
(1) Consumer expenditure on services and durable and non-durable goods (C),
(2) Investment in fixed capital such as residential and non-residential building, machinery, and
inventories (I),
(3) Government expenditure on final goods and services (G),
(4) Export of goods and services produced by the people of country (X),
(5) Less imports (M). That part of consumption, investment and government expenditure which
is spent on imports is subtracted from GDP. Similarly, any imported component, such as raw
materials, which is used in the manufacture of export goods, is also excluded.
Thus GDP by expenditure method at market prices = C+ I + G + (X – M), where (X-M) is net
export which can be positive or negative.

2
(B) GDP at Factor Cost:
GDP at factor cost is the sum of net value added by all producers within the country. Since the
net value added gets distributed as income to the owners of factors of production, GDP is the
sum of domestic factor incomes and fixed capital consumption (or depreciation).
Thus GDP at Factor Cost = Net value added + Depreciation.
GDP at factor cost includes:
(i) Compensation of employees i.e., wages, salaries, etc.
(ii) Operating surplus which is the business profit of both incorporated and unincorporated firms.
[Operating Surplus = Gross Value Added at Factor Cost—Compensation of Employees—
Depreciation]
(iii) Mixed Income of Self- employed.
Conceptually, GDP at factor cost and GDP at market price must be identical/This is because the
factor cost (payments to factors) of producing goods must equal the final value of goods and
services at market prices.
Thus, GDP at Factor Cost = GDP at Market Price – Indirect Taxes + Subsidies.
(C) Net Domestic Product (NDP):
NDP is the value of net output of the economy during the year. Some of the country’s capital
equipment wears out or becomes obsolete each year during the production process. The value of
this capital consumption is some percentage of gross investment which is deducted from GDP.
Thus Net Domestic Product = GDP at Factor Cost – Depreciation.
(D) Nominal and Real GDP:
When GDP is measured on the basis of current price, it is called GDP at current prices or
nominal GDP. On the other hand, when GDP is calculated on the basis of fixed prices in some
year, it is called GDP at constant prices or real GDP.
This can be done by measuring GDP at constant prices which is called real GDP. To find out the
real GDP, a base year is chosen when the general price level is normal, i.e., it is neither too high
nor too low.
Now the general price level of the year for which real GDP is to be calculated is related to
the base year on the basis of the following formula which is called the deflator index:

(E) GDP Deflator:

GDP deflator is an index of price changes of goods and services included in GDP. It is a price
index which is calculated by dividing the nominal GDP in a given year by the real GDP for the
same year and multiplying it by 100. Thus,

(F) Gross National Product (GNP):

GNP is the total measure of the flow of goods and services at market value resulting from
current production during a year in a country, including net income from abroad.
GNP includes four types of final goods and services:
(1) Consumers’ goods and services to satisfy the immediate wants of the people;

3
(2) Gross private domestic investment in capital goods consisting of fixed capital formation,
residential construction and inventories of finished and unfinished goods;
(3) Goods and services produced by the government; and
(4) Net exports of goods and services, i.e., the difference between value of exports and imports
of goods and services, known as net income from abroad.
In this concept of GNP, there are certain factors that have to be taken into consideration: First,
GNP is the measure of money, in which all kinds of goods and services produced in a country
during one year are measured in terms of money at current prices and then added together.
Second, in estimating GNP of the economy, the market price of only the final products should
be taken into account.
Third, goods and services rendered free of charge are not included in the GNP, because it is not
possible to have a correct estimate of their market price. For example, the bringing up of a child
by the mother, imparting instructions to his son by a teacher, recitals to his friends by a
musician, etc.
Fourth, the transactions which do not arise from the produce of current year or which do not
contribute in any way to production are not included in the GNP. The sale and purchase of old
goods, and of shares, bonds and assets of existing companies are not included in GNP because
these do not make any addition to the national product, and the goods are simply transferred.
Fifth, the payments received under social security, e.g., unemployment insurance allowance, old
age pension, and interest on public loans are also not included in GNP, because the recipients do
not provide any service in lieu of them. But the depreciation of machines, plants and other
capital goods is not deducted from GNP.
Sixth, the profits earned or losses incurred on account of changes in capital assets as a result of
fluctuations in market prices are not included in the GNP if they are not responsible for current
production or economic activity.
Last, the income earned through illegal activities is not included in the GNP. Although the
goods sold in the black market are priced and fulfill the needs of the people, but as they are not
useful from the social point of view, the income received from their sale and purchase is always
excluded from the GNP.
Three Approaches to GNP:
After having studied the fundamental constituents of GNP, it is essential to know how it is
estimated. Three approaches are employed for this purpose. One, the income method to GNP;
two, the expenditure method to GNP and three, the value added method to GNP. Since gross
income equals gross expenditure, GNP estimated by all these methods would be the same with
appropriate adjustments.
1. Income Method to GNP:
The income method to GNP consists of the remuneration paid in terms of money to the factors
of production annually in a country.
Thus GNP is the sum total of the following items:
(i) Wages and salaries:
(ii) Rents: .
(iii) Interest:
(iv) Dividends:

4
(v) Undistributed corporate profits:
(vi) Mixed incomes:
(vii) Direct taxes:
(viii) Indirect taxes:
(ix) Depreciation:
(x) Net income earned from abroad: .
2. Expenditure Method to GNP:
From the expenditure view point, GNP is the sum total of expenditure incurred on goods and
services during one year in a country.
It includes the following items:
(i) Private consumption expenditure:
It includes all types of expenditure on personal consumption by the individuals of a country. It
comprises expenses on durable goods like watch, bicycle, radio, etc., expenditure on single-used
consumers’ goods like milk, bread, ghee, clothes, etc., as also the expenditure incurred on
services of all kinds like fees for school, doctor, lawyer and transport. All these are taken as final
goods.
(ii) Gross domestic private investment:
Under this comes the expenditure incurred by private enterprise on new investment and on
replacement of old capital. It includes expenditure on house construction, factory- buildings, and
all types of machinery, plants and capital equipment.
(iii) Net foreign investment:
It means the difference between exports and imports or export surplus. Every country exports to
or imports from certain foreign countries.
(iv) Government expenditure on goods and services:
The expenditure incurred by the government on goods and services is a part of the GNP. Central,
state or local governments spend a lot on their employees, police and army. To run the offices,
the governments have also to spend on contingencies which include paper, pen, pencil and
various types of stationery, cloth, furniture, cars, etc.
Thus GNP according to the Expenditure Method=Private Consumption Expenditure (C) + Gross
Domestic Private Investment (I) + Net Foreign Investment (X-M) + Government Expenditure on
Goods and Services (G) = C+ I + (X-M) + G.
3. Value Added Method to GNP:
Another method of measuring GNP is by value added. In calculating GNP, the money value of
final goods and services produced at current prices during a year is taken into account.
(G) GNP at Market Prices:
When we multiply the total output produced in one year by their market prices prevalent during
that year in a country, we get the Gross National Product at market prices.
GNP at Market Prices = GDP at Market Prices + Net Income from Abroad.
(H) GNP at Factor Cost:
GNP at factor cost is the sum of the money value of the income produced by and accruing to the
various factors of production in one year in a country.

5
(I) Net National Product (NNP):
NNP includes the value of total output of consumption goods and investment goods. But the
process of production uses up a certain amount of fixed capital.
(J) NNP at Market Prices:
Net National Product at market prices is the net value of final goods and services evaluated at
market prices in the course of one year in a country. So NNP at Market Prices = GNP at Market
Prices—Depreciation.
(K) NNP at Factor Cost:
Net National Product at factor cost is the net output evaluated at factor prices. It includes income
earned by factors of production through participation in the production process such as wages
and salaries, rents, profits, etc. It is also called National Income.
Thus NNP at Factor Cost = NNP at Market Prices – Indirect taxes+ Subsidies
= GNP at Market Prices – Depreciation – Indirect taxes + Subsidies.
= National Income.
(L) Domestic Income:
Income generated (or earned) by factors of production within the country from its own resources
is called domestic income or domestic product.
Domestic income includes:
(i) Wages and salaries, (ii) rents, including imputed house rents, (iii) interest, (iv) dividends, (v)
undistributed corporate profits, including surpluses of public undertakings, (vi) mixed incomes
consisting of profits of unincorporated firms, self- employed persons, partnerships, etc., and (vii)
direct taxes.
(N) Personal Income:
Personal income is the total income received by the individuals of a country from all sources
before payment of direct taxes in one year.
(O) Disposable Income:
Disposable income or personal disposable income means the actual income which can be spent
on consumption by individuals and families.
Thus Disposable Income=Personal Income – Direct Taxes.
(P) Real Income:
Real income is national income expressed in terms of a general level of prices of a particular
year taken as base. National income is the value of goods and services produced as expressed in
terms of money at current prices. But it does not indicate the real state of the economy.
Real NNP = NNP for the Current Year x Base Year Index (=100) / Current Year Index
(Q) Per Capita Income:
The average income of the people of a country in a particular year is called Per Capita Income
for that year. This concept also refers to the measurement of income at current prices and at
constant prices..

Money supply and inflation

Introduction

6
What is the relationship between money supply and inflation? In the economy, inflation and the
money supply correlate with each other. The money supply can be defined as notes and coins
circulating outside the central bank. Inflation is a sustained rise in prices, which is normally
measured by using the Retail Price Index otherwise known as the RPI. As money supply
circulating around the economy increases inflation and balance of payments in turn also
increases, however, this has very little effect on employment. The increase in money supply can
be defined as the direct monetary transmission mechanism, which means that an increase in
money supply leads to people spending the excess of their money supply over money demand.
When people have more disposable income to spend on luxury goods aggregate demand also
increases. Therefore businesses must increase the aggregate supply to give consumers what they
want. If the government wants to control and try to reduce inflation they would have to measure
the money supply and use the fiscal policy in order to reduce the amount of money circulating
around the economy. Inflation and the money supply effect consumer demand and increasing
costs on a business.
Middle
The monetary policy can also be used to target the level of inflation but mainly it can be used to
target the level of growth. It is designed to control the amount of money flowing around the
economy (the money supply). It is mainly used to tackle inflation and the balance of payments
problems. There are a number of methods that the government uses to affect the money supply.
Firstly raising interest rates may reduce the amount of borrowing in the economy. As borrowing
is made more expensive the amount of money flowing around the economy is reduced as people
would not be able to afford the repayments. Interest rates also affect the value of the pound so
the higher the interest rate I the UK international and overseas investors will be attracted to put
money into UK banks. To do this they will buy pounds forcing up the value of Sterling.
Secondly the government can control the amount the credit financial institutions are allowed to
give out. So the government may set limits on the amount and the types of lending banks are
allowed to make.
Business cycle
The business cycle, also known as the economic cycle or trade cycle, is the downward and
upward movement of gross domestic product (GDP) around its long-term growth trend.The
length of a business cycle is the period of time containing a single boom and contraction in
sequence. These fluctuations typically involve shifts over time between periods of relatively
rapid economic growth (expansions or booms), and periods of relative stagnation or decline
(contractions or recessions).
Business cycles are usually measured by considering the growth rate of real gross domestic
product. Despite the often-applied term cycles, these fluctuations in economic activity do not
exhibit uniform or predictable periodicity.
5 Phases of a Business Cycle (With Diagram)
Business cycles are characterized by boom in one period and collapse in the subsequent period
in the economic activities of a country.
These fluctuations in the economic activities are termed as phases of business cycles.
The fluctuations are compared with ebb and flow. The upward and downward fluctuations in the
cumulative economic magnitudes of a country show variations in different economic activities in

7
terms of production, investment, employment, credits, prices, and wages. Such changes
represent different phases of business cycles.

1. Expansion: The first stage in the business cycle is expansion. In this stage, there is an
increase in positive economic indicators such as employment, income, output, wages, profits,
demand, and supply of goods and services. Debtors are generally paying their debts on time, the
velocity of the money supply is high, and investment is high. This process continues until
economic conditions become favorable for expansion.
2. Peak: The economy then reaches a saturation point, or peak, which is the second stage of the
business cycle. The maximum limit of growth is attained. The economic indicators do not grow
further and are at their highest. Prices are at their peak. This stage marks the reversal in the trend
of economic growth. Consumers tend to restructure their budget at this point. 
3. Recession: The recession is the stage that follows the peak phase. The demand for goods and
services starts declining rapidly and steadily in this phase. Producers do not notice the decrease
in demand instantly and go on producing, which creates a situation of excess supply in the
market. Prices tend to fall. All positive economic indicators such as income, output, wages, etc.
consequently start to fall.
4. Trough: In depression stage, the economy’s growth rate becomes negative. There is further
decline until the prices of factors, as well as the demand and supply of goods and services, reach
their lowest. The economy eventually reaches the trough. This is the lowest it can go. It is the
negative saturation point for an economy. There is extensive depletion of national income and
expenditure.
5. Recovery: After this stage, the economy comes to the stage of recovery. In this phase, there is
a turnaround from the trough and the economy starts recovering from the negative growth rate.
Demand starts to pick up due to the lowest prices and consequently, supply starts reacting, too.
The economy develops a positive attitude towards investment and employment and hence,
production starts increasing. Employment also begins to rise and due to the accumulated cash
balances with the bankers, lending also shows positive signals.
Features of Business Cycles:
1. Business cycles occur periodically. Though they do not show same regularity, they have some
distinct phases such as expansion, peak, contraction or depression and trough. Further the
duration of cycles varies a good deal from minimum of two years to a maximum of ten to twelve
years.
2. Secondly, business cycles are synchronic. That is, they do not cause changes in any single
industry or sector but are of all-embracing character. For example, depression or contraction
occur simultaneously in all industries or sectors of the economy.

8
3. Thirdly, it has been observed that fluctuations occur not only in level of production but also
simultaneously in other variables such as employment, investment, consumption, rate of interest
and price level.
4. Another important feature of business cycles is that investment and consumption of durable
consumer goods such as cars, houses, refrigerators are affected most by the cyclical fluctuations.
As stressed by J.M. Keynes, investment is greatly volatile and unstable as it depends on profit
expectations of private entrepreneurs.
5. An important feature of business cycles is that consumption of non-durable goods and
services does not vary much during different phases of business cycles.
6. The immediate impact of depression and expansion is on the inventories of goods. When
depression sets in, the inventories start accumulating beyond the desired level. This leads to cut
in production of goods.
7. Another important feature of business cycles is that profits fluctuate more than any other type
of income.
8. Lastly, business cycles are international in character. That is, once started in one country they
spread to other countries through trade relations between them.
The role of managerial economist can be summarized as follows:
1. He studies the economic patterns at macro-level and analysis it’s significance to the
specific firm he is working in.
2. He has to consistently examine the probabilities of transforming an ever-changing
economic environment into profitable business avenues.
3. He assists the business planning process of a firm.
4. He also carries cost-benefit analysis.
5. He assists the management in the decisions pertaining to internal functioning of a firm
such as changes in price, investment plans, etc.
6. In addition, a managerial economist has to analyze changes in macro- economic indicators
such as national income, population, business cycles, and their possible effect on the
firm’s functioning.
7. He is also involved in advicing the management on public relations, foreign exchange, and
trade. He guides the firm on the likely impact of changes in monetary and fiscal policy on
the firm’s functioning.
8. He also makes an economic analysis of the firms in competition. He has to collect
economic data and examine all crucial information about the environment in which the
firm operates.
9. The most significant function of a managerial economist is to conduct a detailed research
on industrial market.
10.In order to perform all these roles, a managerial economist has to conduct an elaborate
statistical analysis.
11.He must be vigilant and must have ability to cope up with the pressures.
12.He also provides management with economic information such as tax rates, competitor’s
price and product, etc.
13.At times, a managerial economist has to prepare speeches for top management.
Main Characteristics of Business Economics

9
1. Micro in Nature:
Business economics is micro-economics in nature. This is due to the study of business
economics mainly at the level of the firm.
Generally a business manager is concerned with problems of his own business unit. He does not
study the economic problems of an economy as a whole.
2. Basis of Theory of Markets and Private Enterprises:
Business economics largely uses the theory of markets and private enterprise. It uses the theory
of the firm and resource allocation of private enterprise economy.
3. Pragmatic in Approach:
Business economics is pragmatic in its approach. It does not involve itself with the theoretical
controversies of economics. Yet it does not relegate the realities of business decision-making to
the background by bringing in abstract assumptions.
4. Normative in Nature:
Business economics is also called normative economics which prescribes standards or norms for
policy making. Business economics is prescriptive rather than descriptive in nature. In economic
theory, we try to explain economic bahaviour: in business economics, we try to prescribe
policies for a business manager which are most likely applied to achieve his objectives.
5. Macro Analysis:
Macro economics which deals with the principles of economic behaviour for the economy as a
whole is also useful for business economics. A business unit operates within some economic
environment which is in turn shaped by the behaviour of the economy as a whole. Therefore,
business manager must know the external forces working over his business environment.
Sources of Funds to Raise Long Term Capital
The sources of funds refer to the mediums by which an organization raises its long-term capital
and working capital.
The organization can select any of the sources of funds depending upon the need and gestation
period of the project to be financed.

(a) Issue of Shares:

Involve the public issue of equity and preference shares in the stock exchange. Issuing shares is
the most common method of raising long-term capital because there are various many investors
who are ready to invest in the capital market. Therefore, shares are used to finance projects
having long gestation period.

10
(b) Issue of Debentures:
Involve the collection of funds by issuing debentures in the stock exchange. When an
organization issues debentures, it needs to pay a fixed rate of interest to debenture holders.
c) Term Loans:
Refers to the funds that are raised from financial institutions for financing long-term projects.
The rate of interest on term loans is higher than the rate of interest on debentures.
(d) Fund from Operations:
Refers to the fund raised by the organization’s own operations. It is the accumulated profit of an
organization; therefore, can be used to finance various short-term and long-term projects.
(e) Sale of Fixed Assets:
Helps in generating funds by selling fixed assets, such as land, buildings, plants, and machineries
to finance short-term and long-term projects. However, the usage of this method may hamper the
goodwill and creditworthiness of the organization.
(f) Sale of Current Assets:
Helps in generating funds by selling fixed assets, such as land, buildings, plants, and machineries
to finance short-term and long-term projects. However, the usage of this method may hamper the
goodwill and creditworthiness of the organization. (g) Decrease in Working Capital:
Refers to the reduction in the working capital either by decreasing current liabilities or
increasing current assets. The increase in current assets or decrease in current liabilities provides
funds for financing short-term projects.
h) Receipt of Interest, dividend, and refund of tax:
Helps in financing short-term projects or meeting the working capital needs. This type of funds
does not create any liability, as these are income of the organizations. Capital budgeting is
performed by using various techniques. These techniques help in measuring the actual cost and
returns generated from a project and comparing multiple projects with respect to their
profitability.
What is NON-CONVENTIONAL FINANCE?
The modification of loan terms that grants eligibility to borrowers with very limited financial
strength. The term ‘non-conventional’ is used an indication of the tools employed to modify the
loan terms and not as a reference to the financial institutions.
Use of modified loan terms or eligibility requirements that allow lending to borrowers with
limited financial resources. 'Non conventional' refers to the financial mechanisms employed, and
not necessarily to the financial institutions who employ them.

Objectives of a Non-Conventional Financing System

i. To create more opportunities for savings by the establishment of appropriate financial
institutions.
ii. To harness resources where they are availble and direct them to projects for low-income
families.
iii. To improve the financial stability of low-income families by providing them with
oportunity to build up savings.
iv. To enable low-income low-income familie to contribute to the solution of their own
problems by providing them with sufficient credit for that purpose.

11
 v. To provide long-term loans to local agencies to enable them to undertake sustained
programmes of development in different areas.

Conventional Loans
A conventional loan is any type of mortgage that is not secured by a government-sponsored
entity (GSE), such as the Federal Housing Administration (FHA) or the U.S. Department of
Veterans Affairs (VA).
Non-Conventional Loans
The other type of loan is called a non-conventional, or “government” loan. These loans are
backed by the government, offering different and sometimes more flexible products for certain
buyers. Depending on your financial situation, non-conventional loans can help you obtain a
mortgage when you otherwise may not have met conventional guidelines.
Meaning of Supply:
Supply is the quantity of a good which is offered for sale at a given price at a particular time.
“The amount of a product that firms are able and willing to offer for sale is called the
quantity supplied.”
Supply is a desired flow. It measures how much firms are willing to sell and not how much they
actually sell. It is to be remembered that the firms may not supply the entire amount of a
commodity that they produce per period of time. Supply may exceed or fall short of production.
Supply in a particular year is the total production plus-minus stocks of the commodity.
Determinants of Supply:
Supply of a commodity depends not only on the price of that commodity but also on other
factors.
The supply function may now be expressed as:
Sx = f (Px, Pa… Pc, PL… PO, T, Cr, St, O, G),
Px → own price of good x,
Pa … Pc → prices of related goods,
PL … PO→ prices of inputs,
T → time,
St → the state of technology,
O → objectives of the firm, and
G → taxes, subsidies and regulation.

12
(a) Own Price—Sx = f (Px):
Firstly, the most important factor that influences the supply of a commodity is its own price. And
the relationship between supply and own price is a direct one.
(b) Prices of Related Goods—Sx = f (Pa … Pc):
Secondly, supply of any commodity largely depends not only on own price of the commodity
but also on the prices of its substitute and complementary goods.
If market price of wheat rises, the jute farmers would be interested in wheat production so that in
the next season they can increase the supply of wheat. On the other hand, in the case of a joint
product, a rise in the market price of mutton will increase the quantity of leather supplied.
(c) Prices of Inputs—Sx = f (PL … Po):
Thirdly, price of inputs is also an important determinant of supply. If the price of an input (say,
wage bill) rises, the cost of production will surely increase. Consequently, profit will tend to
decline. Seeing an unprofitable situation, a firm will reduce the supply of a commodity and will
try to switchover to the production of another commodity which is still not unprofitable.
(d) Time—Sx = f (T):
Fourthly, in the short run, usually the supply of a commodity (mainly perishable good) is
unresponsive to price change. But, in the long run, the supply of a commodity tends to be more
flexible or fluctuating in response to the changing situation.
For non-reproducible goods, the supply becomes highly inelastic. One can now suggest that the
supply of a commodity also depends on its nature. For instance, the supply of non-perishable
goods responds more than the perishable goods when their prices change.
(e) Technology—Sx = f (St):
Fifthly, the state of art or the technology has an important bearing on the supply of a commodity.
As newer and modern technologies are employed in a concern, production and productivity rise
and average costs of production tend to decline. This result in a change in quantity supplied.
(f) Firm’s Objectives—Sx = f (O):
Sixthly, the nature of a firm’s objectives also affects the supply decisions. Firms can have
different goals. Usually, profit-maximization is the most fundamental objective of a firm.
Modern business firms aim at maximization of sales revenue rather than profit.
Supply of a commodity under these two broad objectives is likely to be different.
(g) Government Policy—Sx = f (G):
Finally, by imposing taxes on firms, the government can affect the supply of a commodity. The
government may ask business firms to pay taxes for polluting the atmosphere or for meeting
government services on education, health, etc. As these taxes increase costs, firms reduce
supplies. Similarly, subsidies may be given to firms so that they can produce goods needed by
the society.
'Law Of Supply'
Definition: Law of supply states that other factors remaining constant, price and quantity
supplied of a good are directly related to each other. In other words, when the price paid by
buyers for a good rises, then suppliers increase the supply of that good in the market.
Description: Law of supply depicts the producer behavior at the time of changes in the prices of
goods and services. When the price of a good rises, the supplier increases the supply in order to
earn a profit because of higher prices.

13
The above diagram shows the supply curve that is upward sloping (positive relation between the
price and the quantity supplied). When the price of the good was at P3, suppliers were supplying
Q3 quantity. As the price starts rising, the quantity supplied also starts rising.
There exists a direct and positive relationship between price and quantity supplied of a
commodity. The functional relationship between quantity supplied and the price of a commodity
can be expressed as:
Qs = f(P)
Where Qs = quantity supplied
P = price of commodity
Assumptions
No change in cost of production
No change in technology
No change in climate
No change in prices of substitutes
No change in natural resources
No change in price of capital goods
No change in political situation
No change in tax policy

14