How Do We Measure GDP?

Economists always keep talking about GDP growth rate, but have you wondered how do we measure GDP? Gross domestic product or GDP in short, is measured in terms of the monetary value of all goods and services produced within the geographical boundaries of a country during a specific period of time. Generally economists compare the GDP figures of one quarter or year with the GDP figures of the same period in previous years. Say for example the GDP figure for the March 2014 quarter is compared with the GDP figure for the March 2013 quarter.

Calculating GDP is a tedious process. For calculating GDP, we truly need to look into every nook and corner of a country for any conceivable good or service having monetary value- right from hair pins to jumbo jets to a barber cutting hairs or a doctor removing moles or a plumber fixing a hole. Statisticians do this job by conducting sample surveys. We can measure GDP by using any of the three methods- the output method, income method or expenditure method. These three methods are three dimensions of the same reality like length, breadth and height of a cube. In simple terms we can understand these three methods as follows: output of goods leads to income for producers and expenditure for consumers. In other words, the monetary value of output must be equal to income for producers or expenditure for consumers once we have taken into account taxes and subsidies. But in reality, all three methods may yield different results due to errors and omissions. Letâ s take up one of the methods as an example to understand the process. For measuring GDP by using expenditure method, we divide the final users of goods and services into four groups: households, firms, government and foreign consumers and calculate the value of GDP by using the following formula: GDP= C + G + I + NX, where C is consumer spending, G is government spending, I is firms spending on capital and NX is consumption by foreign consumers expressed in terms of net exports (Exports-Imports). Two things must always be kept in mind in the whole process- firstly, the goods or services to be counted as GDP must have a monetary value; a free service is not counted as GDP no matter how novel is the objective and secondly the goods or service must get produced within the geographical boundaries of a country- any good or service produced by nationals of a country outside the geographical boundaries of the country is not treated as a part of the GDP however by the reverse logic, any good or service produced even by foreign nationals or company on the soil of the country gets counted as GDP. In the nutshell: every time someone takes out money for buying a good or service, it gets counted as GDP. So next time letâ s use paid toilets, all of us should keep contributing in our own little ways.

By Manoj K Singh
Manoj K Singh is a full time central banker with a mission to demystify the fear of unknown surrounding money. Manoj wrote a regular weekly column, ‘Real Simple’ with his spouse for ‘MINT’ (a partner of the Wall Street Journal) from April 2007 till March 2010. Manoj has also been a contributing author for several investor education websites. A book written by him "Bulls, Bears & the Tortoise: Understanding the basic equations of financial markets" is available for purchase at the following link: http://www.leadstartcorp.com/fiction-general/bulls-bears-the-tortoise/. http://www.infibeam.com/Books/bulls-bears-tortoise-manoj-k-singh/9789384226282.html

Copyrighted 2016. Content published with author's permission.

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