What is Gross Domestic Product ?

The gross domestic product (GDP) is one the primary and major indicators that indicate the health of a country's economy. In the simplest form it represents the total value of all goods and services produced over a specific time period – one can think of it as the size of the economy. Usually, GDP is expressed as a comparison to the previous quarter or year. For example, if the year-to-year GDP is up 9.5%, this is thought to mean that the economy has grown by 9.5% over the last year when compared with the previous year.

Measuring GDP is very complicated but at its most basic, the calculation can be done in one of two ways: either by adding up what everyone earned in the country in a year (income approach), or by adding up what everyone in the country spent (expenditure method). Logically, both measures should arrive at roughly the same total. Given that the basis of calculation is the same across both the periods of time, things that have not been captured in the both the years will negate each other and one will still get a uniform platform for measuring the GDP which is still a meaningful indicator of the economy.

The income approach, which is sometimes referred to as GDP(I), is calculated by adding up total compensation to employees, gross profits for incorporated and non incorporated firms, and taxes less any subsidies. The expenditure method is the more common approach and is calculated by adding total consumption, investment, government spending and net exports.

How does the GDP Affect You ?
For example, if the GDP growth rate is speeding up, the central bank may raise interest rates to stem inflation or cushion the effect of a fall and decrease in the pace of growth. In this case, you would want to lock in a fixed-rate mortgage, because you know that an adjustable-rate mortgage will start charging higher rates next year. When the economy is healthy, one will typically see low unemployment and wage increases as businesses demand labor to meet the growing economy. A significant change in GDP, whether up or down, usually has a significant effect on the stock market. One of the major reasons why the Indian stock market is currently doing well is because of the high growth rate of 8%-9% p.a that India is clocking. It's not hard to understand why money is coming from all corners of the world into the Indian stock market because they expect the Indian companies serving the domestic market to reap the benefits of the growth story. A bad economy usually means lower profits for companies, which in turn means lower stock prices. Investors really worry about negative GDP growth, which is one of the factors economists use to determine whether an economy is in a recession.

You could also use the GDP report from the central to look at which sectors of the economy are growing and which are declining. This would help you determine whether you should invest in, say, a tech-specific mutual fund vs. a fund that focuses on agribusiness or one on infrastructure or power etc.