How to calculate a country's Gross Domestic Product
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Gross Domestic Product (GDP) is an economics term for the total value of all final economic goods and services produced in a country during a specific period of time in local currency.
It is the broadest financial measurement of a nation’s total economic activity and encompasses the total goods and services consumed by private expenditures, government spending, investments, and net exports.
What is the GDP Formula?
There are two primary methods or formulas by which GDP can be determined:
1. Expenditure Approach
The expenditure approach is the most commonly used GDP formula, which is based on the money spent by various groups.
GDP = C + G + I + NX
C = consumption or all private consumer spending within a country’s economy, including, durable goods, non-durable goods, and services.
G = total government expenditures, including salaries of government employees, road construction/repair, public schools, and military expenditure.
I = sum of a country’s investments spent on capital equipment, inventories, and housing.
NX = net exports or a country’s total exports less total imports.
2. Income Approach
This GDP formula takes the total income generated by the goods and services produced.
GDP = Total National Income + Sales Taxes + Depreciation + Net Foreign Factor Income
Total National Income – the sum of all wages, rent, interest, and profits.
Sales Taxes – consumer taxes imposed by the government on the sales of goods and services.
Depreciation – cost allocated to a tangible asset over its useful life.
Net Foreign Factor Income – the difference between the total income that a country’s citizens and companies generate in foreign countries, versus the total income foreign citizens and companies generate in the domestic country.
What are the Types of GDP?
GPD can be measured in several different ways. The most common methods include:
Nominal GDP – the total value of all goods and services produced at current market prices over a time period, including the effects of inflation or deflation.
Real GDP – a more accurate measure of the sum of all goods and services produced at constant prices. The prices used in determining the Gross Domestic Product are based on a certain base year or the previous year, thereby making it inflation-adjusted.
Actual GDP – real-time measurement of all outputs at any interval or any given time. It demonstrates the existing state of business of the economy.
Potential GDP – ideal economic condition with 100% employment across all sectors, steady currency, and stable product prices.
Why is GDP Important to Economists and Investors?
Gross Domestic Product is one of the primary indicators used to determine the overall well-being of a country’s economy and standard of living.
One way to determine how well a country’s economy is doing is by its GDP growth rate, which reflects the increase or decrease in the percentage of economic output in monthly, quarterly, or yearly periods.
GDP enables economic policymakers to assess whether the economy is weakening or strengthening and if threats of recession or inflation are imminent, in order to determine what policies are needed.
Investors place importance on GDP growth rates to decide how the economy is changing so that they can make adjustments to their asset allocation. Investors are also on the lookout for potential investments, locally and abroad, basing their judgment on countries’ growth rate comparisons.
What are Some Drawbacks of GDP?
Gross Domestic Product does not reflect the black market, which may be a large part of the economy in certain countries. In these cases, GDP may not be an accurate measure of the economic state of a country.
Income generated in a country by an overseas company that is transferred back to foreign investors is not taken into account. This overstates a country’s economic output.
This course will cover critical economic principles that impact financial markets rather than worry about micro/macro theory. We will introduce economic events and cover how to differentiate between economic releases and economic indicators.
Next, we will do a quick refresher on central banks and monetary policy before we dive into specific examples such as the Federal Reserve (the Fed), European Central Bank (ECB), Bank of England, and Bank of Japan, and discuss these institutions and their policies in detail. After having learned about central banks, we will go back to economic indicators and give examples of some of the more important ones to be familiar with, such as gross domestic product (GDP), Consumer Price Index (CPI), Purchasing Managers’ Index (PMI), and building permits. Finally, we will end the course by discussing the impact on markets and how they should react to economic news vs. how they react in real life.
Economics for Capital Markets Learning Objectives
Upon completing this course, you will be able to:
Know how economic principles impact financial markets
Classify & interpret economic releases
Understand central banks, their goals, and their role in the economy
Perceive how specific economic events impact specific markets
Grasp how market practitioners use this information to trade and invest
Who should take this course?
This Economics for Capital Markets course is perfect for anyone who would like to build a strong foundation on economic principles before jumping into financial markets, as economics forms the foundation of our monetary system. This course is designed to equip anyone who desires to begin a career in fixed income, equity, sales, trading, or other areas of finance with the fundamental knowledge of economics.
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