A GDP-Gap?
The GDP-gap is the difference between an economy’s current and potential GDP based on long-term trends. A negative GDP gap is a country’s lost production due to a lack of employment for all willing workers. However, a significant positive GDP gap typically indicates an overheated economy at risk of rising inflation.
The production gap refers to the discrepancy between actual and potential GDP.
Understanding GDP-Gap
GDP gaps are positive or negative and computed as:
(ActualGDP−potential GDP)/potential GDP
Macroeconomically, a small or negligible GDP gap is ideal.
A negative gap indicates an underperforming economy. They are underperforming and losing money from the trend. The lack of jobs destroys output and value here.
Economic shocks and financial crises sometimes lead to negative GDP gaps. This negative GDP gap is primarily due to business uncertainty. Companies are hesitant to spend or raise output until a recovery is evident. This reduces employment and may potentially sustain layoffs across all sectors.
Positive GDP gaps are likewise troublesome. A significant positive GDP gap may indicate an overheated economy preparing for a correction. A wider positive GDP gap indicates a higher chance of rising inflation.
Example of GDP-Gap
For the fourth quarter of 2020, the BEA reported $20.93 trillion in U.S. GDP.St. Louis’ Federal Reserve Bank has 2012 GDP potential. It predicted $19.41 trillion in GDP in 2020 USD.2
The calculation yields a 0.8% GDP deficit ($20.93-$19.41)/$19.41. That is nearly ideal for sustainable economic growth. But this is just a minute. To maintain long-term growth, policymakers monitor the GDP gap and make changes.
Nations’ GDP-Gaps
In simpler terms, the GDP gap is the difference in GDP between two nations.
The GDP disparity between the U.S., the world’s largest economy, and China has garnered attention in recent years. China has closed this GDP gap rapidly over the previous decade, with an expected $5.9 trillion in 2020.3
China has made significant infrastructure expenditures since the Great Recession and recovered faster than the U.S. from the 2020 economic crisis. Also, China may surpass the U.S. in GDP by 2028. However, other analysts believe China’s aging population and rising debt might keep it in second place.
Conclusion
- GDP gaps are the differences between an economy’s actual and potential GDP.
- Economic shocks and financial crises may cause negative GDP gaps, indicating an underperforming economy.
- A significant positive GDP gap may indicate an overheating economy and inflationary danger.
- In simpler terms, the GDP gap is the difference in GDP between two nations.
