GDP is one of the most widely used indicators of a country’s economic health. It’s important to understand what it tells us and what it doesn’t.
GDP, also known as gross domestic product or national income, is a measure of the market value of all final goods and services produced within a country in a given period, usually a quarter or year. It includes all private and public spending on consumption, investment, and exports minus the value of imports. This monetary measurement of a country’s economy is widely cited and accepted as the best single indicator of a nation’s overall economic health.
A key limitation of GDP is that it measures only a country’s formal or recorded economic activity, and does not capture the extent of informal or unrecorded economic activities. This includes under-the-table transactions, underground market activity and unremunerated volunteer work. GDP also does not take into account the social costs of production such as pollution or the depletion of nonrenewable resources.
There are three main approaches to calculating GDP. The expenditure approach (also called the “consumption” method) adds up all household and government spending on consumption, investment, and exports less imports. The output or production method adds up the value added by all industries using basic prices and then subtracts taxes and subsidies on goods and services to obtain market-based estimates of GDP. The income or factor-adjusted production method starts with the total market value of all final goods and services produced in a country, then adjusts for changes in purchasing power due to inflation.