What is GDP and how is it measured?

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GDP – or Gross Domestic Product – is an important tool for judging how well, or badly, an economy is doing.

It lets the government work out how much it can afford to tax and spend, and helps businesses decide whether to expand and hire more people.

What is GDP?

GDP is a measure of all the economic activity of companies, governments and individuals in a country.

In the UK, new GDP figures are published by the Office of National Statistics (ONS) every month, but the quarterly figures – covering three months at a time – are considered more important.

When an economy is growing, each quarterly GDP figure is slightly bigger in than the previous three-month period.

Most economists, politicians and businesses like to see a steadily rising GDP because it usually means people are spending more, extra jobs are created, more tax is paid and workers get better pay rises.

When GDP is falling, it means the economy is shrinking – which is bad news for businesses and workers.

The Covid pandemic caused the most severe recession seen in more than 300 years, which forced the government to borrow hundreds of billions of pounds to support the economy.

In 2022, the UK’s GDP was worth £2.2tn, but we tend to concentrate on how much it has grown rather than the total figure.

What is the UK’s current growth rate?

In January 2023, Prime Minister Rishi Sunak set out a pledge to “grow the economy”. This will be met if GDP is bigger in the three-month period between October and December 2023 than it was during the previous quarter (July-September).

How does GDP affect me?

The government can use growing GDP as evidence that it is doing a good job of managing the economy. Likewise, if GDP falls, opposition politicians say the government is running it badly.

But it’s more than just a report card on the government’s economic performance.

If GDP is going up steadily, people pay more in tax because they’re earning and spending more. This means more money for the government to spend on public services, such as schools, police and hospitals.

Governments also like to keep an eye on how much they are borrowing in relation to the size of the economy.

For example borrowing was equivalent to about 14% of GDP in the first year of the Covid pandemic, the highest proportion since World War Two.

How is GDP measured?

GDP can be measured in three ways:

  • Output: The total value of the goods and services produced by all sectors of the economy – agriculture, manufacturing, energy, construction, the service sector and government
  • Expenditure: The value of goods and services bought by households and by government, investment in machinery and buildings – this also includes the value of exports, minus imports
  • Income: The value of the income generated, mostly in terms of profits and wages

In the UK, the ONS publishes one single measure of GDP, which is calculated using all three measurements.

But early estimates mainly use the output measure, using data collected from thousands of companies.

Image source, Getty Images

Why does the GDP figure often change?

The UK produces one of the quickest estimates of GDP of the major economies, about 40 days after the quarter in question.

At that stage, only about 60% of the data is available, so the figure is revised as more information comes in.

What are the limitations of the GDP figure?

  • Hidden economy: Unpaid work such as caring for children or elderly relatives isn’t captured
  • Inequality: GDP growth also doesn’t show how income is split across a population – rising GDP could result from the richest getting richer, rather than everyone becoming better off

Just because GDP is increasing, it doesn’t mean that an individual person’s standard of living is improving.

If a country’s population increases, it pushes GDP up, because with more people, more money will be spent.

But individuals within that country might not be getting richer. They may be getting poorer on average, even while GDP goes up.

The ONS also publishes a figure for GDP per capita – or head of population – which can tell a different story.

Alternative measures have been developed which try to capture this.

Image source, Getty Images

Image caption,

Should GDP take more account of the impact on the environment?

Since 2010, the ONS has also measured well-being alongside economic growth. This assesses health, relationships, education and skills, as well as people’s personal finances and the environment.

In 2019, then New Zealand PM Jacinda Ardern released the country’s first “well-being budget”, prioritising health and life-satisfaction rather than economic growth.

But despite its limitations, GDP is still the most widely-used measure for most government decisions and international comparisons.

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