August 30, 2011

GDP Measures a Lot of Things

Suppose we look at an economy. Let's take an example that is close to home - the economy of Israel (that would be close to my home).
So GDP Measures everything that the Israeli economy produces in one year - the IDF, the Israeli education system, the bread baked in bakeries (including pita bread since this IS the middle east), and also the refined diamonds that Israel exports that are consumed say in Belgium.
If the Israeli economy were to produce the exact same products in 2011 as it did in 2010, only 5% more of each, than we could comfortably say that the Israeli GDP grew 5%, but what if for example everything else stayed the same, and only diamond production went up by 50%?
Now if Diamond production is 10% of the Israeli economy, we would still be inclined to say that GDP went up by 5%, but this completely changes the picture. For starters, most of the diamonds produced (refined) in Israel are not consumed in it, and for seconds, only a small group of Israelis has enjoyed this growth, and it might not 'trickle down' to the rest of the Israeli population.
So here we have seen two scenarios of '5% Growth' that are not that similar. In the next few weeks I will show how for different 'products' GDP and changes in GDP mean different things.