Gross domestic product (abbreviated GDP) refers to the monetary worth or total market value of the services and products that are produce within the boarder of a specific country or region within a set time period.This article defines Gross Domestic Product and explains its significance.
Gross domestic product (which is abbreviated as GDP) is a term that is used to describe the total market value or monetary worth of all of the products and goods that have been produced by a country over a specific period of time. Gross domestic product encompasses all final products and services that have been produced within the borders of a country, regardless of who owns and that haven’t been resold in any other form. GDP is used worldwide as a way to measure the output of a country’s economy, economic growth, and standard of living.
The Importance of Gross Domestic Product
Gross domestic product is significant for two reasons:
- It is a measure that indicates the health of a country’s economy
- It can gauge a country’s standard of living
Because the model that is used to measure gross domestic product is the same for each country, it can be used to compare and contrast the productivity of different countries with a very high level of accuracy. Furthermore, GDP measurements can be adjusted for inflation when comparing current information to past information.
Gross domestic product indicates whether or not the economy of a country is growing. This statistical information can be tracked over long periods of time and is used as a way to determine if the economy of a country is growing or is declining (in a recession.)
Calculating Gross Domestic Product
In order to calculate the gross domestic product of a country, the following equation is used:
Gross domestic product = consumption + investment + government spending + net exports
Or
GDP = C + I + G + NX
In this equation, consumption stands for the private consumption of goods or services, investment stands for the expenditures that are made by businesses, as well as the government, government spending represents the moneys spent on goods and services by the government, and net exports refers to the amount of exports a country makes (minus what it imports).
Determining Gross Domestic Product
There are three main methods that are used to determine GDP. When calculated properly, all three methods are supposed to produce the same figure. These approaches are often referred to as the “expenditure approach”, the “output approach” and the “income approach”.
The Expenditure Approach
The expenditure approach refers to GDP that is based on spending. It is the most commonly used method for calculating GDP, as it incorporates the money that different groups of people contribute to the economy.
For example, consumers spend their money in order to purchase products and services, and businesses also spend money as a way to invest in the activities that are related to their business. Moreover, governments spend money, too. The spending activities of these three different groups all play a role in the gross domestic product of a country.
Additionally, a percentage of the products and services that are made by a country are sent to other countries (exported). Furthermore, a percentage of the goods and services that are purchased in a country are also products that have been imported from other countries.
The expenditure approach to GDP accounts for the spending of all of the above, including imports and exports.
The Production Approach
Gross domestic product can also be calculated based on production. The production approach is the opposite of the expenditure approach. While the expenditure approach only measures moneys that are put into the economy, the production approach determines an estimate of the final value of the output of an economy and subtracts the cost of intermediate products that are used during the process.
The production approach to GDP examines the completed economic activity of a country.
The Income Approach
Income also plays a big role in the amount a country spends on products and services. Because the amount people spend is income for someone else, national income can also be used as a way to determine gross domestic product.
The elements of income that are used when calculating based on the income approach include the moneys that are earned by all elements of production, such as the money that is paid out to workers, the money earned by land, the return on capital via interest, and the profits that are made by a company, which could be invested back into a business or invested into another business.
The national income of a country is comprised of all of these elements. These elements are utilized to indicate and imply the productivity and expenditure of a country.
Types of Growth Domestic Product
There are several different ways to measure the gross domestic product of a country. Below is a brief definition of the different types of GDP, as well as how each type is used.
- Nominal gross domestic product. This refers to the raw measurement of gross domestic product and includes increases in prices.
- Real gross domestic product. In order to compare a country’s economic output from one period to another, inflation must be taken into account. In order to do this, a price deflator is used, which indicates the amount that prices have changed over a period of time.
- Growth rate gross domestic product. The growth rate GDP calculates the increase in percentage in the GDP of a country from quarter to quarter. It indicates precisely how quickly the economy of a country is growing.
- Per Capita gross domestic product. This measurement is the most effective way to compare the GDP between different countries. The reason being is that some countries have tremendous economic outputs because they have such a large population. Per capita gross domestic product divides the GDP across the amount of residents in a country. This type of GDP is a good indicator of a country’s standard of living.
Fluctuating Gross Domestic Product
Gross domestic product constantly fluctuates, and that fluctuation is a result of the business cycle. In other words, when the economy of a country is soaring and the gross domestic product is increasing, there comes a time when the pressure as a result of inflation builds up because the capacity of labor and productivity are almost fully utilized. As a result, the central bank commences a cycle of stricter policies regarding money in order to slowdown the rapidly increasing economy and suppress inflation.
When interest rates are on the rise, both businesses and consumers reduce their spending, which causes the economy to slow down. As the economy slows, businesses may end up having to reduce their employee size, which further impacts the demand and confidence of consumers. This is considered a vicious cycle for a country’s economy. In order to put a stop to it, the central bank will ease their monetary policy, which thereby allows for the stimulation of economic growth, as well as employment.
Consumer spending also plays a significant role in the fluctuation of the gross domestic product and the overall economy of a country. In fact, in the United States, consumer spending accounts for more than 2/3 of the economy. As such, the confidence of consumers plays a very significant role in the economic growth of a country. When consumers are highly confident, they are willing to spend more. When their confidence levels are low, they are reluctant to spend money, which brings down the economy.
Sources that Track Gross Domestic Product
There are several sources that track gross domestic product for countries throughout the world. Some of the most reputable sources are outlined below:
- The World Bank has one of the most reliable GDP databases. Furthermore, their database has one of the most well-defined lists of countries for tracking GDP data.
- The International Money Fund (IMF) is another reputable source for providing data that relates to gross domestic product. They offer several databases, including the International Financial Statistics, and the World Economic Outlook.
- The United States Federal Reserve also gathers data from several sources, including the statistical agencies of a country, as well as the World Bank. The one major downside of using the Federal Reserve database is that it doesn’t update gross domestic product data on a regular basis and it doesn’t contain information for some countries.
- The Organization for Economic Cooperation and Development (OECD) is another reputable and reliable source of gross domestic product data. It offers historical data, as well as forecasts regarding the growth of gross domestic product. However, there is a drawback: the OECD only tracks other OECD members and a few countries that aren’t members.
Summing It Up
Gross domestic product is one of the most important statistics in the world. It determines the economic health of a country, as it indicates whether the economy is growing or declining. It also indicates the standard of living in different countries. In short, the GDP provides pertinent information related to the economy of the world on a whole.
