Overview
This lecture explains what GDP is, how it is measured, the ways to compare economies using GDP, the strengths and weaknesses of GDP, and how countries can sustainably increase their GDP.
What is GDP?
- GDP stands for Gross Domestic Product: total value of final goods and services produced within a country's borders in a specific time period.
- Only final products are counted in GDP to avoid double counting; intermediate goods like flour are excluded unless they're the final product.
- GDP includes all production within the country, regardless of whether by locals or foreigners.
How GDP is Measured
- GDP can be calculated by three methods: production, spending, and income.
- Production method totals the value of all final goods and services produced.
- Spending method uses the formula: GDP = consumer spending + investment + government spending + (exports - imports).
- Income method sums all incomes from production: salaries, profits, rents, and taxes, minus subsidies.
- All three methods should yield the same GDP if calculated accurately.
- Nominal GDP measures value using current prices, while real GDP uses constant prices to adjust for inflation.
Comparing GDP Between Countries
- GDP at Purchasing Power Parity (PPP) adjusts for price differences between countries to make fairer comparisons.
- GDP per capita divides total GDP by population, showing average economic output per person.
- High GDP per capita often, but not always, suggests a higher standard of living.
Pros and Cons of GDP
- GDP provides a broad overview of economic activity and health.
- Two quarters of falling real GDP indicate a recession; a prolonged decline signals a depression.
- GDP does not count informal or illegal activities.
- GDP can be distorted by foreign-owned profits or tax haven accounting.
- GDP per capita does not always reflect quality of life or income distribution.
Ways to Increase GDP
- Encouraging foreign investment brings capital, technology, and jobs, boosting production and GDP.
- Increased GDP can fund education and skill development, raising productivity and living standards.
- Long-term growth should focus on local businesses learning from and eventually replacing foreign companies.
Key Terms & Definitions
- GDP (Gross Domestic Product) — total value of final goods and services produced in a country within a given time period.
- Nominal GDP — GDP measured using current prices without adjusting for inflation.
- Real GDP — GDP measured using constant prices to remove the effects of inflation.
- PPP (Purchasing Power Parity) — a method for comparing the buying power of different countries' currencies.
- GDP per capita — GDP divided by the population, showing average output per person.
- Recession — a period of declining GDP for two consecutive quarters.
- Depression — a severe and prolonged downturn in economic activity.
Action Items / Next Steps
- Review definitions and formulas for calculating GDP.
- Reflect on the limitations of GDP when assessing a country's well-being.
- Consider further reading on tax havens and case studies of countries that increased their GDP through foreign investment.