Why is GDP considered a key measure of economic growth?

India’s system is expected to turn betwixt 6.3% and 6.8% successful the fiscal twelvemonth 2025-26, arsenic per the Economic Survey 2024-25 presented successful Parliament by Finance Minister Nirmala Sitharaman. The study highlights that home maturation levers volition play a much important relation successful driving economical maturation than outer ones successful the coming years.

A cardinal measurement of economical maturation is the Gross Domestic Product (GDP). Let’s recognize what is GDP, and wherefore is it wide utilized arsenic an economical metric?

GDP: A cardinal measurement of economical growth

Gross Domestic Product (GDP) is an important macroeconomic indicator that measures the economical maturation of a country. It is besides an casual parameter for comparing the maturation of a state with that of different countries successful the world. The disadvantage of this measurement is that it is an mean numerical indicator that does not seizure inequalities, unemployment, the rural-urban divide, oregon income percentiles. Despite these drawbacks, GDP remains a often utilized metric due to the fact that of the mode it is measured. 

GDP is the sum of the marketplace worth of each the last goods and services produced wrong the geographical boundaries of a state each year. If a state produces “n” commodities each twelvemonth with quantities represented by q1 to qn and their corresponding marketplace prices denoted arsenic p1 to pn, past GDP is calculated by multiplying the terms per portion with the full quantity produced and summing it crossed each goods and services. This is indicated successful a mathematical format below:

GDP = (q1​×p1​)+(q2​×p2​)+(q3​×p3​)+…+(qn​×pn​)

Advantages and disadvantages of utilizing marketplace values

However, portion utilizing marketplace values provides a standardised and convenient method for economical measurement, it besides has advantages and disadvantages. 

Advantages

The marketplace worth of goods and services refers to the prices astatine which they are sold to the last user (inclusive of each taxes). Using marketplace worth offers definite advantages:

a) Aggregation of goods and services: Prices supply a communal portion for adding up the worth of antithetic goods and services, which are different measured successful antithetic carnal units. This enables GDP to beryllium represented arsenic a azygous value

b) Economic importance: Market prices bespeak differences successful the comparative economical value of antithetic goods and services.

Disadvantages  

a) Exclusion of non-marketed goods and services: Some goods and services similar homemaking, kid rearing, and cleanable aerial are not sold successful the ceremonial market. Therefore, actions taken to amended these aspects, specified arsenic to trim pollution, are not reflected in GDP. If suitable adjustments could beryllium made to see these contributions, the worth of GDP would summation and would beryllium much representative.

b) Partial inclusion of non-marketed goods and services: Some non-marketed goods and services are partially incorporated successful authoritative GDP calculations. Some of these are: The underground system oregon the achromatic economy, which includes some ineligible and amerciable activities.

— Legal activities: Transactions hidden from authorities records chiefly to evade taxes oregon regulatory compliance.

— Illegal activities: Activities specified arsenic cause trafficking, gambling, and prostitution. In a state similar India, wherever the shadiness system is large, not accounting for this successful GDP calculations would pb to a gross underestimation of economical output.

c) Government-provided services: One precise important constituent that doesn’t walk done the marketplace is the worth of services provided by the authorities similar defense, infrastructure, nationalist health, and education. So, nary marketplace values are disposable for the government’s publication to GDP. This could besides pb to an underestimation of the GDP. The solution lies successful valuing these services astatine their outgo of proviso –  referred to arsenic “factor cost”.

A akin rule applies to the favoritism betwixt last and intermediate goods successful GDP measurement. 

Final and intermediate goods 

GDP accounts for the worth of lone recently produced goods – goods produced during the twelvemonth for which GDP is being calculated, usually taken arsenic the fiscal year. For example, the terms obtained from the resale of a location is excluded from GDP, arsenic the location was not constructed successful the twelvemonth of estimation. However, the worth of the services provided by the existent property cause progressive successful the merchantability of the location is included successful GDP, arsenic it is caller income generated during the twelvemonth of estimation.

GDP ignores each transactions successful which wealth oregon goods alteration hands without the accumulation of caller goods oregon services. Therefore, the merchantability of bonds and stocks is not counted due to the fact that they are exchanges of insubstantial assets alternatively than existent carnal assets. Similarly, profits from the merchantability of stocks and bonds are excluded from GDP for the aforesaid reason.

Only last goods and services are included successful GDP. Intermediate goods — those goods which are utilized arsenic inputs successful the accumulation of different goods — are excluded to debar treble counting. Sometimes, the favoritism betwixt last and intermediate goods tin beryllium subtle. For instance, a instrumentality purchased by a carpenter is considered an intermediate good, arsenic it is utilized to nutrient different last goods. However, if the instrumentality continues to beryllium utile for further accumulation successful aboriginal years, it is considered a superior bully – a peculiar benignant of last bully – owed to its continued usefulness. 

Another illustration is electricity: erstwhile consumed by a household, it is considered a last good, but erstwhile consumed by a mill during the accumulation process, it is treated arsenic an intermediate good. Similarly, inventory concern — goods produced during the twelvemonth of estimation but not sold successful that twelvemonth — is besides treated arsenic a last bully successful GDP calculations.

Thus, portion reliance connected marketplace values ensures a applicable and accordant attack to measuring economical activity, the favoritism betwixt last and intermediate goods helps support accuracy successful calculations.

Post Read Questions

Why is GDP considered a cardinal measurement of a country’s economical growth?

How does GDP support accuracy successful economical measurement?

What relation does the favoritism betwixt last and intermediate goods play successful GDP calculations?

What is the main vantage of utilizing marketplace values for economical measurement?

In what ways tin the disadvantages of utilizing marketplace values beryllium addressed oregon mitigated successful economical analysis?

(Meera Malhan and Aruna Rao are Professors successful economics astatine Delhi University. In the 2nd portion of the article, the authors volition anlayse methods of measuring GDP.)

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