Question

Why does GDP not grow at a steady rate? What are the influencers of GDP, and what role do they play?

Answer 1

At the onset, the gross domestic product is the final value of all goods and services produced in an economy during a given period. The GDP can be calculated using various approaches. However, the commonly used approach is the expenditure approach, which can be summed-up as follows -

Gross Domestic Product = Consumption Spending + Investment Spending + Government Purchases + Net Exports

From the above, the key drivers of GDP are -

1. Private Sector

2. Household Sector

3. Government Sector

It is important to note that the private sector and the household sector are the dynamic sectors of the economy. On the other hand, the government sector is a static sector of the economy.

The role of the government sector is to support the economy when there is a recession and make policies tight when there is an inflationary boom. Further, the role of the government is to create conducive policies for the private sector to grow.

On the other hand, the private sector is driven by competition and innovation. The factor of innovation is key to growth and it is consumer demand and competition that drives innovation in the economy.

In several economies like the United States, the household sector is of paramount importance with nearly 70% of the country's GDP driven by consumption spending.

Coming to the specifics, it s impossible for GDP growth rate to remain steady. Just as an example, if a country is exports oriented and there is a recession in few economies globally, the net exports factor is impacted. Investment in export oriented industries is impacted and jobs in exported oriented industries is impacted. The key point is that in a globally synchronized world, several factors influence consumption and investment spending. It is impossible to keep all factors steady. It is therefore impossible to keep growth steady.

Similarly, nearly 70% of the US GDP is driven by consumption spending. With factors of leveraging, ageing population, increasing dependency, it is unlikely that consumption spending will remain steady. The factors mentioned will trigger higher or lower consumption spending from time to time.

At the same time, government spending in the economy is never steady. It increases when the economy is in a downturn and declines when the economy is growing at a robust pace. This is necessary to keep the government budget balanced.

Therefore, all components of GDP are dynamic in nature and this implies variation in growth from one period to the other.