The GDP or GNP…??

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I also write technical articles here

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We always hear the words GDP and GNP or more precisely the nominal GDP and nominal GNP, but rarely do we understand the exact difference between the two. It would be interesting to dig deep into the difference in GDP and GNP and look at how they affect the overall economy.

 

So, the GDP, standing for Gross Domestic Products, is the monetary value of all the goods and services produced or manufactured within the borders of a country by the industries originating from any country. For example all the goods produced by the Indian unit of General Motors count towards the India’s GDP, though the manufacturer is not Indian.

 

GNP, standing for Gross National Product, on the other hand is the monetary value of all the goods and services produced by the industries of a particular country anywhere in the world. So for example the products of TATA’s unit in South Korea, count towards the GNP of India and the GDP of South Korea.

 

So far so good. Then comes the term Nominal GDP, and the confusion starts increasing. To add to it, there are two terms, nominal GDP and Real GDP, same with GNP. What’s the difference? The difference is the way monetary value of something is affected by another economical phenomena called inflation. We all know that the value of money keeps on changing over the time and so does the monetary value of something. Nominal GDP/GNP is the GDP/GNP calculated based on the prevailing prices of the goods and services produced, so the effect of inflation is included in the final nominal GDP/GNP figure. And when this figure is adjusted for the inflation over time, we get what is called real GDP/GNP.
So if Maruti produced 1000 cars in year 2006 and sold each for Rs 1 lac (For the sake of example only, I know they are not going to sell their car for 1 lac), then their contribution towards GDP is Rs1000 lacs. Now in year 2007, due to inflation the price of the same car goes to 2 lacs (inflation of 50%, a rare case, but again for the sake of example) then their contribution towards the GDP becomes 2000 lacs. This is how it works, no extra goods were produced over the years but the GDP grew at a rate equal to the rate of inflation, again, to be precise, the nominal GDP grew at that rate. Now to calculate the real GDP we subtract the inflation rate from the nominal GDP rate. This figure provides a more true picture to compare year 2007 GDP to that of year 2006 and claim any economical developments.

 

The question still is which one of these is the most dependable indicator of the economy of a country. To me none, none is independently able to provide a clear picture of economy for many reasons. For one, GNP doesn’t give a clear picture as it doesn’t specify how much of the money earned by an Indian corporation outside India, comes back to India, how much does the exchequer earns from such corporations through direct or indirect taxes. For the other the GDP too doesn’t provide any clear picture as it hides the same information about the foreign corporations working on Indian soil. Though for the sake of national pride we admit to one of the two, still we need to choose between the nominal or real figures and none of which is again able to prove anything independently. The nominal figures hide the inflation effect and the real figures totally ignore the inflation effect which is very important.

 

So how does one gauge the health of economy? The answer is obvious, by going beyond GDP and GNP figures, understanding how these figures affect the other economic indicators and how other economic indicators affect these figures.