So, I’ve talked about India’s broad GDP trends (aggregate and sectoral) in the last couple of posts. Before we really begin to talk numbers though, I want to talk about how the new series of National Accounts (2011-12 as base year) released by the CSO in Jan 2015, differs from the previous series (2004-05 as base year). And no – the differences don’t just lie in the base year.
To appreciate the key differences between the series, it’s important to understand some basic concepts first. These concepts are from the SNA, 2008 (latest edition). The United Nation’s SNA or “System of National Accounts” is an international standard system of national accounts, followed by most countries (including India) to the extent that they can, to prepare and present the accounts of their nation.
Basic Concepts (from the SNA, 2008)
VAT
VAT is a tax on products collected in stages by enterprises. Producers are required to charge certain % rates of VAT on the goods/services they sell. VAT is shown separately on the sellers’ invoices so that purchasers know the amounts they have paid. Producers however, are not required to pay to the government the full amounts of the VAT invoiced to their customers because they're usually permitted to deduct the VAT that they themselves have paid on goods/services purchased for their own intermediate consumption, resale or gross fixed capital formation. Producers are thus obliged to pay only the difference between the VAT on their sales and the VAT on their purchases for intermediate consumption or capital formation. Hence the expression “value added tax”.
- Invoiced VAT is the VAT payable on the sales of a producer; it is shown separately on the invoice that the producer presents to the purchaser.
- Deductible VAT is the VAT payable on purchases of goods/services intended for intermediate consumption, gross fixed capital formation or for resale that a producer is permitted to deduct from his own VAT liability to the government in respect of VAT invoiced to his customers.
- Non-deductible VAT is VAT payable by a purchaser that is not deductible from his own VAT liability, if any.
Lets take the example of producer “A”. Let's assume that the VAT that A invoices to customers is = X, and the VAT that A pays on his own purchases for intermediate consumption, GFCF or resale = Y. In this case, Y is the deductible VAT. Hence, A’s final VAT liability to the government is = X-Y.
On the other hand, the VAT paid by households for purposes of final consumption or fixed capital formation in dwellings is not deductible. This entire amount goes to the government.
Taxes on Products vs. taxes on Production
- Taxes on products (or product taxes) are payable per unit of the product. The tax may be a flat amount per unit or a percentage of the value at which the product is sold. Examples include Excise Tax, Sales tax, Service tax and Import/Export duties. Similarly, Product subsidies are receivable per unit of the product. In the Indian context, these include food, petroleum and fertilizer subsidies, interest subsidies given to farmers/households through banks, and subsidies for providing insurance to households at lower rates.
- Taxes on production (or production taxes) are paid with relation to production and are independent of the volume of actual production. Examples include land revenues, stamp fees, registration fees and tax on profession. Production subsidies, which follow the same principle, include subsidies to railways, input subsidies to farmers, subsidies to village and small industries, administrative subsidies to corporations or cooperatives etc.
Armed with this knowledge, we’re now going to talk about the various “prices” used in the SNA.
Types of Prices used in the SNA
The SNA uses two types of prices to measure output: Basic prices and Producers’ prices.
1. Basic price
Basic price is the amount receivable by a producer from the purchaser (per unit of good/service) minus any product taxes payable, and plus any product subsidy receivable by the producer. It does include taxes on production and exclude subsidies on production. It excludes any transport charges invoiced separately by the producer.
Basic price = Price received by producer1 – product taxes + product subsidies
2. Producer’s price
Producer’s price is the amount receivable by the producer from the purchaser (per unit of good/service) minus any VAT2 invoiced to the purchaser. Unlike the Basic price, Producer’s price does include taxes on products (other than VAT) and exclude subsidies on products. It excludes any transport charges invoiced separately by the producer.
In a nutshell, the Producer’s price is the price, excluding VAT, that the producer invoices to the purchaser.
Producer’s price = Price received by producer1 – invoiced VAT2
= Basic price + product taxes – product subsides – invoiced VAT
2 VAT refers to VAT or any other similar type of deductible tax collected in stages
Basic price preferred over Producer’s price for valuing Output of producers
As I explained above, Producer’s price excludes invoiced VAT, but includes all other taxes on products. The Basic price on the other hand, does not include any product taxes (VAT or others). It is thus, a much clearer concept to grasp and the preferred method for valuing the output of producers.
Also, unlike Producer’s price, Basic price measures the amount actually retained by the producer for covering factor costs and paying taxes on production to the government. It is therefore, much more relevant to the producer’s decision making (note: product taxes are usually paid by purchasers and not producers themselves, so don’t directly impact producers’ production decisions).
3. Factor cost
Factor cost is a concept usually not used on a per unit basis, but here’s what it implies – it is the amount receivable by a producer from the purchaser minus all product and production taxes payable, and plus all product and production subsidies receivable by the producer. It excludes any transport charges invoiced separately by the producer.
Factor cost = Price received by producer1 – product taxes – production taxes + product subsidies + production subsidies
which means,
Factor cost = Basic price - production taxes + production subsidies
The equation above makes clear why this concept isn’t normally used on a per-unit basis. It’s because production taxes and subsidies aren’t charged on a per unit basis and not reported on sale invoices. Their "implied" per unit values have to be derived from the accounts of the producer.
Factor cost not explicitly used in SNA, 2008; relegated to background in new Indian series of National Accounts
Factor cost is not a concept that is explicitly used in the SNA, 2008. It can however be derived from the measure of Output at Basic prices by subtracting production taxes and adding production subsidies (as we show in the equation above).
The reason that we've still defined the concept is here, is because GDP at Factor Cost was an important measure of value added for the Indian economy thus far – till the new series of national accounts was released by the CSO in January 2015. In the new series, GDP at Factor cost has been relegated to the background, in-line with SNA recommendations. We’ll talk more about this in our next post.
4. Purchaser’s price
The purchaser’s price is the amount paid by the purchaser, excluding any deductible VAT (i.e. any VAT that is deductible for the purchaser), in order to take delivery of the good/service at the time and place required by the purchaser. Purchaser’s price includes any transport charges paid separately by the purchaser to take delivery at the required time and place.
GDP at Purchaser’s price is what we’ve hitherto referred to as GDP at Market price in the Indian context.
Ciao for now.
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