Why is GDP an economic indicator that investors need to monitor?

When opening an investment port and viewing the stock exchange register, you may notice that stock prices move significantly when the country’s GDP data is released. This is no coincidence, as GDP is a tool that helps us truly understand the health of an organization and a country’s economy.

What is GDP – The First Step to Understanding

GDP, or Gross Domestic Product, shows the total value of all finished goods and services produced by an economy within a specified period. It is generally measured annually, but sometimes quarterly to provide a clearer picture of economic changes.

GDP serves as a measure of the size and growth rate of the economy. This data not only helps economic policymakers plan better but also assists investors in making informed decisions about their investment directions.

The Building Blocks of GDP – Main Components

GDP = C + G + I + NX

This formula is the core of GDP measurement. Let’s break down each variable to understand its role:

C (Private Consumption) is the foundation of economic activity. Retail consumers purchase goods and services to meet their needs. High consumer confidence means they are willing to spend, leading to economic growth. Conversely, uncertainty often causes them to reduce spending.

G (Government Spending) involves government expenditure on infrastructure, civil servant salaries, and various equipment. During economic downturns, when consumption declines, government spending often increases to serve as an economic engine.

I (Investment) refers to business investments in machinery, facilities, and product development. This indicates business confidence and demand to build capacity.

NX (Net Exports) is calculated as total exports minus total imports. Countries with higher exports than imports have a positive net export component.

Normal vs. Real GDP – The Key Difference

When listening to economic news, you might hear two terms:

Nominal GDP is calculated using current prices each year. It does not adjust for inflation, so figures may appear higher than actual due to rising prices. This type of GDP is suitable for comparing quarters within the same year.

Real GDP is adjusted for inflation, meaning prices are held constant based on a reference year. This helps us see the true growth of output, not just price increases. For example, if prices have risen by 5% since the reference year, the deflator (Deflator) will be 1.05. Nominal GDP is divided by this number to obtain real GDP.

The difference between these two is important: if Nominal GDP grows but Real GDP remains unchanged, it indicates that prices have increased but actual production has not.

GDP and Market Efficiency – A Strong Relationship

Why do investors pay so much attention to GDP? The answer lies in the connection between GDP and corporate performance.

Publicly listed companies are the main drivers of GDP. These businesses generate revenue and ultimately contribute significantly to the country’s economic output. When GDP grows strongly, it means companies can sell more goods and services, leading to higher earnings and potentially rising stock prices.

Conversely, when GDP contracts, it indicates an economic downturn. Consumers stop buying, businesses delay investments, and profits decline. This often results in stock market declines, such as the SET Index.

Essentially, GDP is not just an economic figure; it is a tool that helps forecast a company’s cash flow and is therefore crucial for investment decisions.

Benefits and Limitations of GDP

While GDP is a useful indicator, it has limitations. For example, GDP does not account for underground work, voluntary unpaid work, or the happiness and quality of life of the population. It does not measure income distribution or income inequality.

Therefore, even if GDP increases, it does not necessarily mean that the general population benefits equally. Nonetheless, for assessing overall economic conditions and making investment decisions, GDP remains an indispensable tool.

Summary

GDP is the total monetary value produced within a country over a specified period. It provides insights into the health and direction of the economy by considering consumption, government spending, investment, and trade. Inflationary stimuli can distort figures, which is why economists look at Real GDP when comparing periods. For investors, tracking GDP is a key part of market analysis, as it helps us understand how economic changes may impact business performance and market movements.