Can the GDP of a country be taken as an index of the welfare of the people of that country? If a person has more income he or she can buy more goods and services and his or her material wellbeing improves. So it may seem reasonable to treat his or her income level as his or her level of wellbeing. GDP is the sum total of value of goods and services created within the geographical bound­ary of a country in a particular year.

GDP gets distributed among the people as incomes (except for retained earnings). So we may be tempted to treat higher level of GDP of a country as an index of greater wellbeing of the people of that country (to account for price changes, we may take the value of real GDP instead of nominal GDP). But there are at least three reasons why this may not be correct.

(i) Distribution of GDP:

It has to be seen as to how the increase in national income distributed. If national income rises, it is not necessary that income of each individual rises in the same proportion. Individual incomes may rise in different proportions. In some cases it may fail. In other words, inequali­ties may rise. Rise in inequalities in incomes may really reduce economic welfare of the society. There­fore, for ascertaining the effect of increase in national income, it has to be seen whether it increases income inequalities or reduces income inequalities.

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(ii) Non-monetary exchanges:

Many activities in any economy are not evaluated in monetary terms. For example, the domestic services women perform at home are not paid for. The exchanges which take place in the informal sector without the help of money are called barter exchanges.

In barter exchanges goods (or services) are directly exchanged against each other. But since money is not being used here, these exchanges are not registered as part of economic activity. In the developing countries, where many remote regions are under-developed, these kinds of exchanges do take place. But they are generally not counted in the GDPs of these countries. This is a case of under-estimation of GDP.

Hence, GDP calculated in the standard manner may not give us a clear indication of the productive activity and wellbeing of a country.

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(iii) Externalities:

Externalities refer to the benefits (or harms) a firm or an individual causes to another for which they are not paid (or penalised). Externalities do not have any market in which they can be bought and sold. For example, let us suppose there is an oil refinery which refines crude petro­leum and sells it in the market. The output of the refinery is the amount of oil it refines.

We can estimate the value added of the refinery by deducting the value of intermediate goods used by the refinery’ (crude oil in this case) from the value of its output. The value added of the refinery will be counted as part of the GDP of the economy. But in carrying out the production the refinery may also be polluting the nearby river. This may cause harm to the people who use the water of the river.

Hence, their utility will fall. Pollution may also kill fish or other organisms of the river on which fish service. As a result the fisher­men of the river may be losing their income and utility. Such harmful effects that the refinery is inflicting on others, for which it does not have to bear any cost, are called Externalities.

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In this case, the GDP is not taking account such negative externalities. Therefore, if we take GDP as a measure of welfare of the economy we shall be overestimating the actual welfare. This was an example of negative externality. There can be cases of positive externalities as well. In such cases GDP will underestimate the actual welfare of the economy.

(iv) Value in Use:

There are many goods and services whose value is included in national income like wine, cigarettes etc. which are medically harmful for health. Such goods may provide immediate satisfaction to the users but they may ultimately lead to decline in welfare. The money value of these goods may really is no indication of their values in use. Similarly, goods of social distinction like jewellery, etc, may have a very high money value but a very low use value.

Facilities and conditions which may enable human energy and efficiency to contribute at their fullest level in economic and social spheres are important. The main thrust of human development is on general and technical education. They directly affect human efficiency and productivity. Besides, better living conditions, improved health and medical care, adequate economic and social infrastructure are equally important in ensuring better standards of efficiency and productivity. Not only that, these are helpful in maintaining the dignity of life. Accelerating the level of human development will improve the level of efficiency and productivity which in turn.