## Gross Domestic Product: An Economy’s All

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**Canonical URL:** [Gross Domestic Product: An Economy’s All](https://www.imf.org/-/media/files/publications/fandd/back-to-basics/callen-gdp.pdf)

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### Measuring GDP
- Definition: GDP measures the monetary value of final goods and services—those bought by the final user—produced in a country in a given period of time (say a quarter or a year).
- Geographic scope: GDP counts all output generated within the borders of a country.
- Coverage: Includes goods and services produced for sale in the market and some nonmarket production (for example, defense or education services provided by the government).
- Distinction with GNP: Gross national product (GNP) counts all the output of the residents of a country (example: output of a German-owned factory in the United States is included in US GDP but in German GNP).
- Exclusions: Unpaid work (such as that performed in the home or by volunteers) and black-market activities are not included.
- Gross vs. net: “Gross” takes no account of depreciation; subtracting depreciation yields net domestic product.
- Three theoretical approaches to GDP:
  - Production approach: sums the “value added” at each stage of production (value added = total sales minus value of intermediate inputs).
  - Expenditure approach: adds purchases made by final users (consumption by households; investment by companies; government purchases; purchases by foreigners).
  - Income approach: sums incomes generated by production (compensation to employees, rent, interest, profit).

- Standards and compilation:
  - GDP is usually calculated by the national statistical agency following established international standards.
  - International standard: System of National Accounts, 1993, compiled by the IMF, the European Commission, the Organisation for Economic Co-operation and Development, the United Nations, and the World Bank.

### Real GDP
- Purpose: To determine whether total output is growing or shrinking after adjusting for price changes.
- Method: Adjust nominal GDP to constant prices using a price deflator to obtain “real” GDP.
- Economic interpretation:
  - The growth rate of real GDP is often used as an indicator of the general health of the economy.
  - An increase in real GDP is interpreted as a sign the economy is doing well; strong real GDP growth is associated with increasing employment and higher incomes.
- Business cycles: Real GDP growth moves in cycles; economies experience periods of boom and periods of slow growth or recession (recession sometimes defined as two consecutive quarters in which output declines).
- Historical note: In the United States, there were ten recessions of varying length and severity between 1950 and 2017.
- Institutional role: The National Bureau of Economic Research makes the call on the dates of US business cycles.

### Comparing GDPs of two countries
- Currency issue: GDP is measured in the country’s own currency and requires conversion when comparing across countries.
- Conversion methods:
  - Market exchange rates: use prevailing foreign-exchange market rates.
  - Purchasing-power-parity (PPP) exchange rates: the rate at which one currency would have to be converted into another to purchase the same amount of goods and services in each country.
- Differences across country groups:
  - Large gaps between market and PPP-based exchange rates in emerging market and developing countries because nontraded goods and services tend to be cheaper in low-income countries.
  - For advanced countries, market and PPP exchange rates tend to be much closer.
  - Implication: Emerging market and developing countries have a higher estimated dollar GDP when the PPP exchange rate is used.
- Aggregates and weighting:
  - International aggregates (global and regional measures of real GDP growth) are constructed as weighted averages of GDP in individual countries, with weights reflecting each country’s share of GDP in the group (PPP exchange rates used to determine weights).
  - Example statistics reported: global real GDP grew by –0.15 percent in 2009, and has been growing at an average rate of 3.4 percent since 2012 to date.

### What GDP does not reveal
- GDP is not a measure of overall standard of living or well-being.
- Limitations:
  - Does not capture environmental damage or other external costs (for example, noise).
  - Does not account for reductions in leisure time or depletion of nonrenewable natural resources.
  - Does not reflect the distribution of GDP among residents of a country.
- Alternative attempts to account for shortcomings:
  - United Nations Human Development Index: ranks countries based on GDP per capita and other factors such as life expectancy, literacy, and school enrollment.
  - Other measures mentioned: Genuine Progress Indicator and Gross National Happiness Index (noted as having critics).

### Growth and gaps (graphical summary)
- Long-run pattern: Since 1950, US real GDP has mainly been growing, with ten recessions of varying length and severity.
- Chart detail (described):
  - Real GDP annual change, percent shown over 1950–2010s with light-shaded areas indicating recessions as dated by the NBER.
  - Vertical axis labelled from –6 to 15 with ticks at –6, –3, 0, 3, 6, 9, 12, 15.

*TIM CALLEN is a division chief in the IMF’s Middle East and Central Asia Department. SARWAT JAHAN, a senior economist in the IMF’s Asia and Pacific Department, updated this article.*

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_Source: https://www.imf.org/-/media/files/publications/fandd/back-to-basics/callen-gdp.pdf_