Gross domestic product GDP due to its relative ease of calculation and definition, has become a standard metric in the discussion of economic welfare, growth and prosperity. However, the value of GDP as a measure of the quality of life for a given country may be quite poor given that the metric only provides the total value of production for a specific time interval and provides no insight with respect to the source of growth or the beneficiaries of growth.
Therefore, growth could be misinterpreted by looking at GDP values in isolation. And no income measurement undertakes to estimate the reverse side of income, that is, the intensity and unpleasantness of effort going into the earning of income. The welfare of a nation can, therefore, scarcely be inferred from a measurement of national income.
Goals for more growth should specify more growth of what and for what. The sensitivities related to social welfare has continued the argument specific to the use of GDP as a economic growth or progress metric.
For instance, if a government embarks on the building of a pyramid, which adds absolutely nothing to the well-being of individuals, the GDP framework will regard this as economic growth. In reality, however, the building of the pyramid will divert real funding from wealth-generating activities, thereby stifling the production of wealth.
Although GDP provides a single quantitative metric by which comparisons can be made across countries, the aggregation of elements that create the single value of GDP provide limitations in evaluating a country and its economic agents. Given the calculation of the metric, a country with wide disparities in income could appear to be economically stronger than a country where the income disparities were significantly lower standard of living.
However, a qualitative assessment would likely value the latter country compared to the former on a welfare or quality of life basis. GDP across the globe : GDP can be adjusted to compare the purchasing power across countries but cannot be adjusted to provide a view of the economic disparities within a country. Therefore, GDP has a tremendous big-picture value but policymakers would be better served using other metrics in combination with the aggregate measure if and when social welfare is being addressed.
Privacy Policy. Skip to main content. Measuring Output and Income. Search for:. Defining GDP Gross domestic product is the market value of all final goods and services produced within the national borders of a country for a given period of time. GDP can be determined by summing up national income and adjusting for depreciation, taxes, and subsidies.
GDP can be determined in two ways, both of which, in principle, give the same result. Key Terms GDP : Gross domestic product GDP is the market value of all officially recognized final goods and services produced within a country in a given period of time. Key Takeaways Key Points The output approach focuses on finding the total output of a nation by directly finding the total value of all goods and services a nation produces. Key Terms gross national product : The total market value of all the goods and services produced by a nation citizens of a country, whether living at home or abroad during a specified period.
Key Takeaways Key Points In the circular flow model, the household sector, provides various factors of production such as labor and capital, to producers who in turn produce goods and services. Investment is equal to savings and is the income not spent but available to both consumers and firms for the purchase of capital investments, such as buildings, factories and homes.
A portion of income is also allocated to taxes income is taxed and the remaining is either consumed and or saved ; government spending, G, is based on the tax revenue, T. The continuous flow of production, income and expenditure is known as circular flow of income; it is circular because it has neither any beginning nor an end.
Key Terms Factors of production : In economics, factors of production are inputs. They may also refer specifically to the primary factors, which are stocks including land, labor, and capital goods applied to production.
Key Takeaways Key Points C consumption is normally the largest GDP component in the economy, consisting of private household final consumption expenditure in the economy. I investment includes, for instance, business investment in equipment, but does not include exchanges of existing assets. G government spending is the sum of government expenditures on final goods and services.
X exports represents gross exports. M imports represents gross imports. Key Terms government spending : Includes all government consumption, investment but excludes transfer payments made by a state.
The income approach sums the factor incomes to the factors of production. Adding taxes less subsidies on production and imports converts GDP at factor cost as noted, a net domestic product to GDP. By definition, the income approach to calculating GDP should be equatable to the expenditure approach; however, measurement errors will make the two figures slightly off when reported by national statistical agencies.
Key Terms income approach : GDP based on the income approach is calculated by adding up the factor incomes to the factors of production in the society. Not to be confused with impairment, which is the measurement of the unplanned, extraordinary decline in value of assets. Key Takeaways Key Points The sensitivities related to social welfare has continued the argument specific to the use of GDP as a economic growth or progress metric.
A country with wide disparities in income could appear to be economically stronger, strictly using GDP, than a country where the income disparities were significantly lower standard of living. In this example, if you were to look solely at the nominal GDP, the economy appears to be performing well.
GDP can be reported in several ways, each of which provides slightly different information. Nominal GDP is an assessment of economic production in an economy that includes current prices in its calculation. All goods and services counted in nominal GDP are valued at the prices that those goods and services are actually sold for in that year. Nominal GDP is evaluated in either the local currency or U. Nominal GDP is used when comparing different quarters of output within the same year.
This is because, in effect, the removal of the influence of inflation allows the comparison of the different years to focus solely on volume. Real GDP is an inflation-adjusted measure that reflects the quantity of goods and services produced by an economy in a given year, with prices held constant from year to year to separate out the impact of inflation or deflation from the trend in output over time.
Since GDP is based on the monetary value of goods and services, it is subject to inflation. Real GDP is calculated using a GDP price deflator , which is the difference in prices between the current year and the base year. Real GDP accounts for changes in market value and thus narrows the difference between output figures from year to year. It indicates that the amount of output or income per person in an economy can indicate average productivity or average living standards.
GDP per capita can be stated in nominal, real inflation-adjusted , or PPP purchasing power parity terms.
At a basic interpretation, per-capita GDP shows how much economic production value can be attributed to each individual citizen. This also translates to a measure of overall national wealth since GDP market value per person also readily serves as a prosperity measure.
Therefore, it can be important to understand how each factor contributes to the overall result and is affecting per-capita GDP growth. Some countries may have a high per-capita GDP but a small population, which usually means they have built up a self-sufficient economy based on an abundance of special resources.
Usually expressed as a percentage rate, this measure is popular for economic policy-makers because GDP growth is thought to be closely connected to key policy targets such as inflation and unemployment rates. Conversely, central banks see a shrinking or negative GDP growth rate i. GDP can be determined via three primary methods. All three methods should yield the same figure when correctly calculated. These three approaches are often termed the expenditure approach, the output or production approach, and the income approach.
The expenditure approach, also known as the spending approach, calculates spending by the different groups that participate in the economy. The U. GDP is primarily measured based on the expenditure approach. This approach can be calculated using the following formula:. All of these activities contribute to the GDP of a country. Consumption refers to private consumption expenditures or consumer spending. Consumers spend money to acquire goods and services, such as groceries and haircuts.
Consumer spending is the biggest component of GDP, accounting for more than two-thirds of the U. Consumer confidence, therefore, has a very significant bearing on economic growth.
A high confidence level indicates that consumers are willing to spend, while a low confidence level reflects uncertainty about the future and an unwillingness to spend. Government spending represents government consumption expenditure and gross investment. Governments spend money on equipment, infrastructure, and payroll. This may occur in the wake of a recession, for example. Investment refers to private domestic investment or capital expenditures.
Businesses spend money to invest in their business activities. For example, a business may buy machinery. Business investment is a critical component of GDP since it increases the productive capacity of an economy and boosts employment levels. All expenditures by companies located in a given country, even if they are foreign companies, are included in this calculation.
The production approach is essentially the reverse of the expenditure approach. Instead of measuring the input costs that contribute to economic activity, the production approach estimates the total value of economic output and deducts the cost of intermediate goods that are consumed in the process like those of materials and services.
Whereas the expenditure approach projects forward from costs, the production approach looks backward from the vantage point of a state of completed economic activity.
The income approach represents a kind of middle ground between the two other approaches to calculating GDP. The income approach calculates the income earned by all the factors of production in an economy, including the wages paid to labor, the rent earned by land, the return on capital in the form of interest, and corporate profits.
The income approach factors in some adjustments for those items that are not considered payments made to factors of production. For one, there are some taxes—such as sales taxes and property taxes —that are classified as indirect business taxes.
In addition, depreciation —a reserve that businesses set aside to account for the replacement of equipment that tends to wear down with use—is also added to the national income. Although GDP is a widely used metric, there are other ways of measuring the economic growth of a country. While GDP measures the economic activity within the physical borders of a country whether the producers are native to that country or foreign-owned entities , gross national product GNP is a measurement of the overall production of people or corporations native to a country, including those based abroad.
GNP excludes domestic production by foreigners. Gross national income GNI is another measure of economic growth. It is the sum of all income earned by citizens or nationals of a country regardless of whether the underlying economic activity takes place domestically or abroad.
With GNI, the income of a country is calculated as its domestic income, plus its indirect business taxes and depreciation as well as its net foreign factor income.
The figure for net foreign factor income is calculated by subtracting all payments made to foreign companies and individuals from all payments made to domestic businesses. In an increasingly global economy, GNI has been put forward as a potentially better metric for overall economic health than GDP. Because certain countries have most of their income withdrawn abroad by foreign corporations and individuals, their GDP figure is much higher than the figure that represents their GNI.
On the contrary, in the U. In , U. Part of the reason for this is that population size and cost of living are not consistent around the world. For example, comparing the nominal GDP of China to the nominal GDP of Ireland would not provide much meaningful information about the realities of living in those countries because China has approximately times the population of Ireland.
To help solve this problem, statisticians sometimes compare GDP per capita between countries. This means more money for the government to spend on public services, such as schools, police and hospitals. GDP can also help governments work out if they are borrowing too much. That's the biggest borrowing figure since World War Two. But early estimates mainly use the output measure.
The UK produces one of the quickest estimates of GDP of the major economies, about 40 days after the quarter in question. The ONS publishes more information on how this is done on its website. There are lots of things the statistics might not take into account:. Just because GDP is increasing, it doesn't mean that an individual person's standard of living is improving. If a country's population increases, that will push GDP up, because with more people, money will be spent.
However, the individuals within that country might not be getting richer. They may be getting poorer on average, even while GDP goes up. Critics have argued that GDP doesn't take into account whether the economic growth it measures is sustainable, or the damage it might do to the natural world.
In , the ONS started measuring well-being alongside economic growth. This measures health, relationships, education and skills, as well as personal finances and the environment. In , New Zealand's Prime Minister, Jacinda Ardern, released the country's first "well-being budget", prioritising health and life-satisfaction rather than economic growth. Despite its limitations, GDP is still the most widely-used measure for most government decisions and international comparisons.
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