Archives for November 2010

Components of Gross Domestic Product

In this article we will look at the different components of gross domestic product (GDP).

Personal Consumption- Growth in this category often leads a general recovery from recession, encouraging manufacturers to invest more. However, if consumption grows faster than the productive capacity of an economy, imports are sucked in and inflation rises. Personal consumption typically accounts for 60% of GDO, so a change in consumption has a big effect on total output.

Government spending- This reflects, to some extent, politics rather than market forces. Its share in GDP is higher in countries where the state provides many services. A short-term increase in government spending can provide a stabilizing boost to the economy, but in general it diverts resources from productive growth.

Investment- This is a key component, contributing to current growth and laying down the foundation for future expansion. Look for spending on machinery rather than, say, dwellings.

Change in stocks- These can be erratic. The decline when demand is growing more rapidly than production (a good sign at the beginning of a recovery, potentially inflationary at the end) or when manufacturers and distributors are squeezed and are trying to cut the cost of holding stocks. Inventories tend to rise when demand slows.

Exports and Imports- Exports contribute to overall GDP growth; higher imports reduce the increase in output relative to the growth in demand. A sudden increase in import penetration (imports divided by GDP) suggests that consumer demand is growing faster than the domestic economy can cope with (overheating). A longer-term increase in imports relative to exports may imply a decline in the competitiveness of domestic producers. Imports which are substantially larger than exports may point to exchange-rate problems.

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