Question

# 94. Output of an economy is worked out both at market prices as well as factor cost, but for growth purposes, output at factor cost is considered. Consider the following statements in this regards. 1.If output measured at market prices increases it does not necessarily imply that more goods and services have been produced in the economy. 2.Output measured at factor cost is more useful for cross-country comparison. 3.Output at market price and factor cost can never be the same. 4. Output at factor cost in terms of constant prices reflects inflation adjusted growth in output. Which of the above statement(s) is/are correct?Only 1, 2 and 3Only 2, 3 and 4Only 1 and 3Only 1, 2 and 4

Solution

## The correct option is D Only 1, 2 and 4The output measured at market prices can be increased by increasing taxes in an economy. This does not necessarily imply that more goods and services have been produced in the economy. Output of an economy is worked out both at market prices as well as factor cost, but for growth purposes, output at factor cost is considered. This means that increased value in production of goods and services in an economy is captured at factor cost and not at market prices. The difference between the output at market price and at factor cost is tax burden on an economy, which is useful for cross-country comparisons. Can output at market price and factor cost be the same? The answer is yes, in cases of circumstances where the taxes are equal to subsidies or in utopian circumstances where tax and subsidies both are zero. The moment we start talking about the monetary value either at market prices or factor cost, the concept of inflation becomes important. In simpler terms, inflation is increasing prices and during inflationary times it tends to inflate the value in nominal terms. Suppose inflation is at 10 percent, it implies that the price is going up by 10 percent, that is to say that the factor cost is also increasing, which would increase the output, even though there is no physical increase in the production of goods and services, it is because of this reason that the output measured at factor cost would have to be adjusted to actually reflect the increased production of goods and services in an economy. The adjustment is a statistical exercise which is done by using the GDP deflator that gives the output at factor cost in terms of constant prices. This adjustment for inflation is also known as ' real' or otherwise it is ‘nominal’ and is generic in nature. Real growth is adjusted for inflation while nominal growth ignores adjustment for inflation. Growth by definition has to be ‘real

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