GDP is important to understand because it is often cited as a measure of a nation's economic success. In addition, when studied as a per capita figure it is cited as a measure a nation's standard of living.
History of Gross Domestic ProductThe idea for gross domestic product first arose in the late 1930s amid the Great Depression in an effort to determine the overall economic welfare of a nation. In 1937 an economist from the National Bureau of Economic Research, Simon Kuznets, presented a formula for determining GDP in his report, "National Income, 1929-35" (Dickinson, 2011). This original formula for GDP was important because it included all economic production in a nation.
Although important, Kuznets' formula did not find widespread use until 1944 when the Bretton Woods conference created international financial institutions like the World Bank (Dickinson, 2011). At this time, GDP became the most widely used tool for determining the economic welfare of a nation.
By the late 1950s economists began to question the accuracy of GDP in measuring overall economic success. In 1959 economist Moses Abramowitz was one of the first people to question the formula for determining GDP (Dickinson, 2011). Despite criticisms by him and other researchers GDP is still in wide use today.
Calculating Gross Domestic ProductToday there are three ways that are used to determine gross domestic product - all of which should give the same result if calculated correctly. The first of these is the product approach that sums the outputs of every category of enterprise in a nation to determine the total market value of all of those enterprises, also known as the GDP, over a given period of time - usually one year.
The expenditure approach is another way to determine a nation's GDP. In this approach it is assumed that all products created will be purchased by someone. By using this assumption, economists then claim that the total market value of a nation's products is equal to the people in that nation's total expenditures (Wikipedia).
The income approach is the third way to measure GDP. This approach says that the producer's income must be equal to the total value of the product. GDP is calculated in this approach by combining the sum of all of the producer's incomes (Wikipedia).
Gross National ProductAnother way of calculating a nation's economic welfare is gross national product or GNP. GNP is defined as the total market value of goods and services produced in a place over a given period of time, plus the income earned by that nation's citizens.
GNP is different than GDP because GNP measures the output produced by a country's companies whether the company is physically located in the specific country or not. By contrast, GDP measures all output produced within a country whether or not the companies are foreign or locally owned. For example if a Japanese company such as Honda has an auto-manufacturing plant in the United States then the output of that plant becomes a part of the U.S. GDP but not its GNP because Honda is not a U.S.-owned company. The output of the plant instead becomes a part of Japan's GNP.
Measuring Economic ProgressGross national product is another important way to measure a nation's economic success; however, many nations continue to use gross domestic product as the primary way to measure their economic welfare. The U.S. for instance primarily used GNP to measure its economic progress prior to 1991, but today it uses mainly uses GDP.
Some other methods in use to measure economic progress today are the Human Development Index, the Index of Sustainable Economic Welfare and Gross National Happiness among others. To learn more about gross domestic and gross national product visit the U.S. Bureau of Economic Analysis.