GDP (Gross Domestic Product) is the total monetary value of goods and services produced over a given period in a given territory. GDP is used in macroeconomics for determining the economic performance of individual states. The word product expresses increase of wealth. The period is usually a year. Change in GDP for a certain period reflects the speed of economic growth of the country. In international comparisons adjusted GDP per capita is also used, which can be used as a rough measure of living standards and the relative wealth of the society.
GDP in practice: GDP is used as a macroeconomic indicator for measuring the performance of the national economy of the country or state. It is also used for comparison of economies over time. For this comparison, it is important to include the change in the value of money for different periods.
Domestic product can be calculated in three ways. Each method provides a different view of the same. The GDP does not include the values that people create outside the official market (e.g. yard work, work at home, work in return), therefore cannot accommodate all the wealth and capture welfare of the population. This shortcoming is evident mainly in developing countries, where a large part of the livelihood of the people is ensured by their own production. Illegal production isn’t of course included to GDP (e.g. production and sale of drugs, prostitution, unacknowledged profits).
Production approach of calculating GDP
Gross domestic product consists of the sum of all final goods and services that have been made for a certain period and provided on the territory of a given state. In actual practice, however, it is difficult to determine whether the good is final, or whether it is an intermediate that will be further processed. To not include it in the calculation multiple times, it is counted with added value at each stage of production. When using the production method, the GDP is the sum of added values of each stage of production of all industries and market sectors.
Expenditure approach of calculating GDP
Another way to determine the amount of GDP, is to quantify the expenditures of individual sectors in the purchase of final goods and services. This method aggregates consumption and investment spending, which will determine the total domestic expenditures at current (market) prices. All expenditures on intermediate are not taken into account because it considers only the final value of purchases.
Gross domestic product is presented as the sum of the following items:
- (C) household consumption expenditures
- (I) gross private domestic investment
- (G) government spending on the purchase of final goods and services
- (X) net exports (export - import)
GDP= C+ I + G + X
Income approach of calculating GDP
GDP calculated with income approach is a sum of national income (GDI = gross domestic income) which is represented by the sum of income of households, depreciation (D) and indirect taxes (T). The GDI in the calculations includes the following incomes:
- (W) wages (before taxes) - gross wages
- (R) rent - income of landowners, real estate, etc.
- (P) gross corporate profits (before taxes)
- (I) net interests (difference between the collected and paid)
- (Y) self-employment income
If we add to GDI above mentioned depreciation and indirect taxes, the result is gross domestic product:
GDP = GDI
GDP = W + R + P + I + Y + D + T
Income approach does not reflect all incomes, but only incomes of individuals or corporations, whose origin is in the normal production of goods and services. Thus excludes transfer payments (i.e. incomes that do not comprise payments for routine production services).