Estimated reading time: 6 minutes
Table of contents
Let us try to understand by understanding India’s GDP and its economic future. In microeconomics, the most common way economists and policymakers measure the health of an overall economy is by examining the Gross Domestic Product (GDP). Gross means total, domestic means within a country’s borders and product means the value of goods and services produced. However, that’s a bit of an oversimplification so let’s look at the complete definition. The Gross Domestic Product (GDP) represents the total value of all final goods and services produced within a country’s borders in a specific year. It’s important to emphasise “final” and “in a given year.” Final goods, also known as “finished goods,” are products that will not be resold as part of another good.
Example 1 Understanding India’s GDP and Its Economic Future
If a baker buys flour, sugar, and butter, we don’t count those as final goods because the baker will use those goods to make a cake. In other words, they are goods that are not finished; they are intermediate goods. Now, the cake the baker made using flour, sugar, and butter is the final good. Since the cake is the final product and its final destination is the consumer.
In other words, the buyer will purchase and consume it. Some items are used to produce other goods, but they are still considered final goods. These are known as capital goods.
Example 2 Understanding India’s GDP and Its Economic Future
When a farmer purchases a combine to harvest crops, it is known as a final good. Even when the combination is used for producing other things, it will not be resold as part of another product.
There are also capital goods used to provide services counted as final goods.
Example 3 Understanding India’s GDP and Its Economic Future
If a landscape is cut down by a chainsaw to take down trees, the chainsaw is considered a final good.
GDP also only counts production in a given year. If an old car is sold this year, economists don’t count it as part of GDP since the car was not produced this year. They only count new cars sold this year as part of GDP. Also, production is only counted if the goods or services are produced within a country’s borders.
Example 4 Understanding India’s GDP and Its Economic Future
If you are in the United States and buy a shirt imported from Vietnam, that adds to Vietnam’s GDP, not the United States GDP. But a movie made in the United States that is shown in theatres in Vietnam adds to the United States’s GDP.
It’s helpful to think of the entire economy of a country as one big hypermarket store, meaning they sell pretty much everything you could ever want to buy. Not just products like food and clothing but also services like pet grooming and tax preparation. Every time a consumer buys a final good or service, we record the cost, just like at a cash register. All the costs combined over a given year are the GDP.
Government economists often divide final goods and services into four categories.
- Consumer goods and services
- Business goods and services
- Government goods and services
- Net export
Net export Net exports are calculated by adding up exports and subtracting imports.
Government economists can also calculate GDP using another method. Instead of adding up all the stuff that consumers, businesses, and the government buy, it can add up all the incomes in the economy.
Types Of GDP :
There are two types of GDP.
- Nominal GDP
- Real GDP
Nominal GDP :
The nominal GDP is the dollar value of all final goods and services produced inside the country’s borders in a single year. It is expressed in current dollars, which means that it has not been adjusted for inflation.
Example:
We could use 2015 output and prices to determine the nominal GDP in 2015. 2016 prices and 2016 output would be used in calculating the nominal GDP in 2016.
Real GDP :
Real GDP is defined as the monetary value of all final products and services produced within a country’s borders in a year. When expressed in constant dollar value, it indicates that it has been adjusted for inflation.
When comparing GDP over two years, it determines whether an economy has grown or contracted. Nominal GDP can be misleading because if inflation happened between those two years, the nominal GDP could rise due to an increase in the price level even if the economy contracted or production remained constant across the country.
In other words, nominal GDP can increase only because products and services are more expensive, not because the economy increased production and experienced GDP growth.
As a result, the most accurate approach to measure economic growth or contraction is through Real GDP, which must be calculated using a constant dollar value for each year of comparison. Using a constant dollar value eliminates the impacts of inflation, revealing the true value of what a country produces in a particular year.
Example:
When using price levels and domestic output for the United States in 2015. The US nominal GDP in 2015 was 5 million dollars. When using price level and domestic output for 2016, the United State’s nominal GDP in 2016 was 10 million dollars. Normally, it appears that the United States has doubled its GDP between 2015 and 2016.
However, we can also look at it to determine if the price level has doubled between those two years. The United States experienced economic growth in 2016. We need to use the constant dollar value and adjust for inflation that occurred between the two years, which will give us the real GDP of the United States for 2016. To find the 2016 real GDP for the United States, we need to use 2016 domestic production and multiply it by 2015 prices. When adjusting for inflation, we can conclude that the real GDP of the United States in 2016 was $5 million. As a result, we can conclude that the GDP of the United States remained stagnant in 2016, meaning that it did not produce more goods and services than in 2015.
Some economists have suggested an alternative to GDP to better assess the health of a country’s economy, with an emphasis on quality of life. Alternatives include the Human Development Index, Inclusive Wealth Index, and Genuine Progress Indicator.
Regardless, Gross Domestic Product continues to be the go-to metric government policymakers rely on when planning for their country’s economic future because Institutions are better equipped to measure its components, and the clarity of its definition reduces the likelihood of infusion bias. In this way, GDP remains the primary way to quickly measure the health of an economy.
