What's in and what's not in GDP?

Definition: GDP is defined as: the market value of currently produced, final goods and services produced annually within a country's borders. 

It turns out that nearly each term in this definition is there for a reason and that if we look briefly at each of the terms we will have a better sense of what GDP is - and what it is not.  First, however, let's fast forward and acknowledge that  GDP is NOT a measure of economic well-being - a point first made by Kuznets who developed the national income accounts, and more recently presented by Cobb, Halstead, and Rowe in their 1995 Atlantic Monthly article: "If GDP is UP, Why is America Down?"  Now let's look at the individual terms and see where this divergence comes into play.

GDP is the market value ... Market price is the common denominator for the tons of steel, bushels of apples, or gallons of wine produced in an economy. GDP is simply the weighted sum of output from all sectors of the economy, where output is valued at market prices. The rationale for this approach is that the market prices reflect what individuals pay for these goods and services, and thus prices must reflect how people value them. If you pay $16 for a CD, then it must be worth $16 to you, and thus the market value can be viewed as a measure of value created.  If 10 CDs are produced and sold at a price of $16, then $160 worth of value has been created.  

Because of the nature of the GDP calculations, natural disaster can provide a boost to the economy in much the same way as a war.  An example would be the boost to GDP given by the recovery efforts following the destruction of hurricane Andrew.  It also means the enormous sums spent on security tend to push GDP higher.  As Cobb (1995) points out, the bombing in Oklahoma City gave the economy a little boost as it generated demand for security systems.  William Bennet, Secretary of Education under Reagan, produced a study of social decline called "The Index of Leading Cultural Indicators" which included crime, divorce, and mass-media addiction activities that contribute to big business and higher GDP.

The focus on market value has other limitations. It means many activities that take place outside of the market are excluded from GDP calculations. For example, raising children is certainly no easy task, it is time consuming, and it provides an extremely valuable contribution to the welfare of a nation.  Historically in the US, however,  much of the child-rearing was done in the home and thus the value is not included in any measure of GDP.  GDP does not count this important non market value.  Also ignored are illegal activities such as illegal gambling, prostitution and 'under-the-table' work, activities that are often referred to as part of the underground economy.

GDP, with the focus on market value, also excludes any value for leisure, although this would likely be included in any of our estimates of the quality of life. Certainly the reduction in the average number of hours worked would be a plus, although this may actually show up as a reduction in GDP. There is also no account taken of the depletion of our resources and degradation of the environment which may accompany production. The limitations of this can be seen in the "haze" that blocked the sun in much of Southeast Asia in the summer of 1997 - pollution which was produced as a by-product of the rapid economic growth. According to Herman Daly, a former World Bank economist, "the current accounting system treats the earth as a business in liquidation." (Cobb 1995).  The depletion of natural resources is completely ignored in the national accounts which makes sense only when the supply of resources is unlimited.  This point was emphasized by Barber Conable, then president of the World Bank, who in 1989 acknowledged that: "Current calculations ignore the degradation of the natural resource base and view the sales of nonrenewable resources entirely as income." (Cobb 1995)

GDP is the market value of currently produced ... There are a number of things we buy that are not the product of current production, and the value of these transactions is excluded from GDP. Missing from GDP calculations would be the value of the sales of existing homes or used cars, although the sales commissions are included because they represent payment for a currently provided service. Also excluded will be the value of antiques and classical works of art sold during the year. Similarly, when you buy stocks, bonds, or mutual funds, only the commissions / fees would be included in GDP because there is no production directly involved.

GDP is the market value of currently produced final ... Let's assume you have a summer job in a factory producing CD ROMs to be used to store computer software. The CDs are sold by the manufacturer to the software company for $10, and the software company adds the software instructions to the CD and sells it for $50. In this example, the $10 would be considered an intermediate product and would not be included in GDP. The only final good would be the CD with the software, sold to the computer user for $50. [Note: we could also calculate GDP by looking at the value added by each producer. The CD maker adds $10 in value [assuming that material cost zero] and the software maker adds $40 ($50-$10), so that the entire operation adds $50 - precisely the value of the final goods produced.

GDP is the market value of currently produced, final goods and services ... Included in GDP are the values of goods, such as the cars you drive and the computers you work on, and the value of services, such as the education you are receiving or the medical advice / treatment that you receive this semester. One of the issues we will explore in greater detail is the changing composition of what we produce. There was a time when nearly all people were employed in agriculture - the time that Plimouth Plantations or Mystic Seaport attempt to preserve. As you all know, this gave way to the era of manufacturing. The brick and granite mills that dominate the skylines of Pawtucket, Fall River, Lowell, and Manchester are monuments to the days when manufacturing was at the center of our economy. As we move into the next century, as you look for jobs in the post -industrial or information age economies, growth will be in the production of services - in law, medicine, accounting, software.

GDP is the market value of currently produced, final goods and services produced within a country... How do we account for the work of Juan, a Mexican national who works in the fields of Southern California helping to harvest a crop of avocados? Or how do we account for the value created by Mary, a native of Boston who is working in Germany for IBM? As the extent of international transactions increases and labor and capital become increasingly mobile, these situations are likely to increase, which means we need a way to account for them. GDP would include in the US figure only the value created by Juan, while GNP would include only the value created by Mary. GNP is the market value of currently produced, final goods and services produced by permanent residents of a nation within a specified period of time.

GDP is the market value of currently produced, final goods and services produced within a country within a specified period of time. We are now at the end of the definition - the time where we set the time limits. GDP is value produced during a year, although the data is tabulated and reported four times a year. Each quarter there is an estimate of the value produced during the preceding three months.  This  number is then multiplied by four to provide an annual rate of production. What would be reported for the first quarter of 1998 would be the value of what would be produced for the year if the rate of production that existed during January, February and March was maintained for the entire year.