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BANK WINDHOEK
Issue 189
Money Matters
WHAT IS THE GROSS DOMESTIC
PRODUCT (GDP)?
Today’s society likes to keep score. The idea of keeping track of
performance is perhaps most visible in the sport arena where fans
of different sport codes and teams at times frantically keep record of
their team’s performance. The scoreboard for economic performance
is the national income accounting system, which is used to compute
the national income of countries. In this edition of important economic
variables, we will focus on the concept “Gross Domestic Product”
(GDP), which is seen as the key barometer to assess the performance
of national economies.
Dr John Steytler
Economist
Given the importance of this concept, this article will mainly focus on
the definition of the concept GDP and what it includes and excludes.
Subsequent articles will explain different ways of measuring GDP, the difference between nominal
and real GDP and the strengths and weaknesses of the measurement tools used to assess the
performance of the national economy.
What is GDP?
GDP is the most widely used measure of economic performance. It is defined as the market value
of final goods and services produced within a country during a specific time period, usually a year.
In a very simplistic sense, GDP could be described as the sum of the income of all economic entities
of a nation during a specific year. In this regard, it gives a sense of how rich or poor a nation is.
What counts towards GDP?
To assess what should be included and what should be excluded from GDP, let us consider some
of the key phrases in the GDP definition. These are: final goods and services; produced; within a
country; and specific time period. These are considered in more detail below.
Only final goods and services count
If output is to be measured accurately, all goods and services produced during the year must be
counted once, and only once. However, in reality most goods and services go through several
stages of production before they end up in the hands of their ultimate users. To avoid double
counting, care must be taken to differentiate between intermediate goods and final goods and
services.
Intermediate goods refer to goods purchased for use in producing another good or service, while
final goods and services refer to those goods and services purchased by their ultimate users. For
example, wheat flour would typically be an intermediate good that the baker will buy to bake
bread, which is a final good. Sales at intermediate stages of production are not counted by GDP,
because the value of the intermediate good is embodied within the final-user good.
Financial transactions and income transfers are excluded from GDP
Financial transactions and income transfers merely involve transfer of ownership from one party
to another. They do not involve current production and are, therefore, not included in GDP. For
example, if you are a student and your parents send you N$100, they will have less money and
you more, but the transaction does not add anything to the current production. Equally, income
transfer payments by government, such as old age pension and grants to vulnerable children are
omitted, because the recipients of these grants do not produce goods in return for the transfers.
However, if a financial transaction involves a sales commission, the commission is included in GDP,
because it involves a service rendered during the current period.
Only production within the country is counted
GDP counts only goods and services produced within the geographic borders of the country. When
foreigners earn income within the Namibian borders, it adds to the GDP of Namibia. On the other
hand, the earnings of Namibians abroad, do not count towards the Namibian GDP, because this
income is not generated within the borders of Namibia.
Only goods and services during the current period are counted
GDP is a measure of output during the “current period”. Transactions involving the exchange of
goods or assets produced during earlier periods are omitted because they do not reflect current
production. For example, the purchase of “second hand” goods such as a used car or a home
built five years ago, are not included in this year’s GDP. Production of these goods was counted at
the time they were produced and initially purchased. Resale of such items produced during earlier
periods merely changes the ownership of the good or asset10. It does not add to the current
production and it would, therefore, be inappropriate to include them in the current GDP.
Based on a request by some of our readers, our next article will temporary break from important
economic variables to explain what exactly policy makers mean when they speak about “a
balancing act”. Thereafter, we will continue our series on important economic variables, including
additional information on the GDP concept as indicated in the introduction, as well as other
interesting economic variables.
Mr O. Shiwoohamba is the lucky winner of N$1000.00 in the Money
Matters Issue 188 poll draw.
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