Gross Domestic Product (GDP)

Gross domestic product (GDP) is the total market value of all final goods and services produced within a country's borders over a given period, usually a quarter or a year. It is the most widely used measure of the size of an economy, and the percentage change in GDP from one period to the next is the standard measure of economic growth.

GDP counts production that takes place inside a country regardless of who owns the factors of production. Output by a foreign-owned factory in Mexico is part of Mexico's GDP, even though the profits may be sent abroad.

Modern national accounting developed in the 1930s and 1940s. In the United States, the economist Simon Kuznets led the first official estimates of national income in the early 1930s, and wartime planning in the United Kingdom and United States expanded the framework. After the Second World War, the United Nations published a common standard, the System of National Accounts (SNA), which has been revised several times. National statistics offices compile GDP using it, and the International Monetary Fund and World Bank publish comparable figures across countries.

In principle, three approaches give the same answer, because every sale is someone's spending and someone's income.

• Production (value added) approach: the sum of the value added at each stage of production, which is output minus intermediate inputs. Counting only value added avoids double-counting the flour in the bread.
• Expenditure approach: GDP = C + I + G + (X - M), where C is household consumption, I is investment, G is government purchases, X is exports and M is imports.
• Income approach: the sum of wages, profits, rents and mixed income earned in production, plus taxes on production net of subsidies.

In practice the three estimates differ because of gaps in source data, and statistics agencies report a statistical discrepancy or reconcile the figures.

Consider an economy in a year where households spend 700 billion, firms invest 200 billion, the government buys 250 billion of goods and services, exports are 300 billion and imports are 350 billion. GDP by the expenditure approach is 700 + 200 + 250 + (300 - 350) = 1,100 billion. If GDP the previous year was 1,050 billion, nominal growth is about 4.8 percent. If prices rose 3 percent over the year, real growth is roughly 1.7 percent.

Nominal GDP is measured at current prices. Real GDP removes the effect of inflation by valuing output at the prices of a base year or through chained price indexes; the ratio of nominal to real GDP is the GDP deflator, a broader price measure than the consumer price index. GDP per capita divides output by population and is a rough indicator of average living standards.

Cross-country comparisons can use market exchange rates or purchasing power parity. PPP adjusts for the fact that many services are cheaper in poorer countries, so PPP-based GDP for low-income economies is typically much larger than the figure converted at market rates. Poverty benchmarks such as the international poverty line are set in PPP terms for the same reason.

Gross national income (GNI), formerly measured as gross national product, adds income residents earn from abroad and subtracts income sent to non-residents. For economies with large remittance inflows or heavy foreign ownership, GDP and GNI can differ substantially. The current account balance and external debt are often expressed as a percentage of GDP, as are budget deficits and tax revenue, so that countries of different sizes can be compared.

Two consecutive quarters of falling real GDP are a widely used, informal signal of a recession, though official bodies in some countries, such as the National Bureau of Economic Research in the United States, use broader criteria.

GDP measures market production, not welfare. It omits unpaid household work and volunteering, captures the informal economy only partially, says nothing about how income is distributed, and counts spending on disaster clean-up or pollution control as additions to output while ignoring the depletion of natural resources. It can also be distorted by accounting decisions of multinational companies that book large profits or intellectual property in small economies. Policymakers therefore read GDP alongside measures of employment, prices, distribution and well-being, including indicators used in monetary policy and in assessing reserve adequacy.