The broadest and most widely used measure of national income is gross domestic product (GDP), the value of expenditures on final goods and services at market prices produced by domestic factors of production (labor, capital, materials) during the year. It is also the market value of these domestic-based factors (adjusted for indirect business taxes and subsidies) entering into production of final goods and services. "Gross" implies that no deduction for the reduction in the stock of plant and equipment due to wear and tear has been applied to the measurements and survey-based estimates. "Domestic" means that the GDP includes only production by factors located in the country--whether home or foreign owned. GDP includes the production and income of foreigners and foreign-owned property in the home country and excludes the production and incomes of the country's own citizens or their property located abroad. "Product" refers to the measurement of output at final prices as observed in market transactions or of the market value of factors (inclusive of taxes less subsidies) used in their creation. Only newly produced goods--including those that increase inventories--are counted in GDP.
For the United States, GDP replaces gross national product (GNP) as the main measure of production. GDP measures the output of all labor and capital within the U.S. geographical boundary regardless of the residence of that labor or owner of capital. GNP measures the output supplied by residents of the United States regardless of where they live and work or where they own capital. Conceptually, the GDP measure emphasizes production in the United States, while GNP emphasizes U.S. income resulting from production.
GDP is one measure, but not a perfect measure, of the well-being of the citizens of a country. For example, homemaker income is not traded in markets, and so is not included in GDP. (Because stay-at-home moms are not paid salaries, there are no government records for how much output they produce for their families.) Economic Indicators, from the Social Studies Help Center.
The Gross National Product (GNP) is a nation's total output of goods and services produced BY a country in one year. In obtaining the value of the GNP, only the final value of a product is counted (e.g. homes but not the construction materials they were built with). The three major components of GNP are consumer purchases, government spending, private investment and exports. The formula is thus:
C + G + I + X = GNP
... The fourth factor is the exclusion of non market activities. Non market activities are those activities that do not take place in the market, and most of them are not accounted for because of measurement problems. Such activities include services people provide for themselves like home maintenance, and the service homemakers provide.
Interactive graphic showing correlation between GNP and life expectancy, population, phone use, and much more, by country over a period of years. Select your choice of variables, display styles, and watch the changes over time!
When economics professors teach the basics of Gross Domestic Product (GDP), we usually caution our students that it is not a good measure of welfare. Unfortunately, many economists go on to give GDP far more credit than it deserves. They tend to consider fiscal and monetary policy positive if these policies increase GDP, but they often fail to ask, let alone answer, whether those same policies increase or reduce welfare. I have a term for giving GDP such a sacred a place in economists' reasoning: GDP fetishism. If we return to some basic principles of economics, we will avoid GDP fetishism, do better economic analysis, and propose better policies.
To see why GDP is not the same as wellbeing [I use "welfare" and "wellbeing" interchangeably], consider the definition of GDP. One of the most careful definitions is in The Economic Way of Thinking, 10th edition, by Paul Heyne, Peter Boettke, and David Prychitko. They write: "The gross domestic product is the market value of all the final goods produced in the entire country in the course of a year." Most economists would agree with this definition. It turns out, though, as Heyne et al. point out, that even this careful definition does not accurately characterize GDP, let alone wellbeing. It is inaccurate in two ways. First, because there is usually no market for the things that government produces (the U.S. Postal Service being one of the exceptions), government spending on goods and services is valued at cost rather than at market prices. Second, because many goods and services are not bought or sold, even though they would have a market value if they were, these goods and services are not counted in GDP. In early editions of his best-selling textbook, Economics, the late Paul Samuelsongave his favorite example of this pitfall in GDP accounting. Samuelson pointed out that if a man married his maid, then, all else equal, GDP would fall....
Morten Jerven of Simon Fraser University, author of Poor Numbers, talks with EconTalk host Russ Roberts about the quality of data coming out of Africa on income, growth, and population. Jerven argues that the inconsistency of the numbers and methodology both across countries and within a country across time, makes many empirical studies of African progress meaningless. The conversation closes with a discussion of what might be done to improve data collection in poor countries.
Becky Pettit of the University of Washington and author of Invisible Men talks with EconTalk host Russ Roberts about the growth of the prison population in the United States in recent decades. Pettit describes the magnitude of the increase particularly among demographic groups. She then discusses the implications of this increase for interpreting social statistics. Because the prison population isn't included in the main government surveys used by social scientists, data drawn from those surveys can be misleading as to what is actually happening among demographic groups, particularly the African-American population.
A Little History: Primary Sources and References
First measurements of GNP: Simon Kuznets, biography from the Concise Encyclopedia of Economics
Simon Kuznets is best known for his studies of national income and its components. Prior to World War I, measures of GNP were rough guesses at best. No government agency collected data to compute GNP, and no private economic researcher did so systematically, either. Kuznets changed all that. With work that began in the thirties and stretched over decades, Kuznets computed national income back to 1869. He broke it down by industry, by final product, and by use. He also measured the distribution of income between rich and poor.
The cuneiform inscription in the Liberty Fund logo is the earliest-known written appearance of the word "freedom" (amagi), or "liberty." It is taken from a clay document written about 2300 B.C. in the Sumerian city-state of Lagash.