The GDP can affect the decisions business owners make.
Gross domestic product (GDP) measures the value of a country's overall goods and services at market prices, without including income from abroad. In the U.S., for example, GDP figures are released quarterly. Although the GDP gauges the economy's health, it can also have either a positive or negative effect on the economy. Because of its importance, financial analysts and government officials pay close attention to the GDP.
Business Planning
Businesses use the GDP as a planning tool to decide whether they will expand or contract in the coming year. If the GDP has grown since the last year, a company may take the growth as a positive sign and hire more employees, build a new factory or purchase more raw materials for production. Conversely, when the GDP shrinks, firms may not focus on expanding their operations. Instead, many will concentrate on survival.
Changes in Currency Values
When a country releases its GDP data, its currency can appreciate or depreciate as a result. Let's say that the U.S. releases its GDP for the past year, and the GDP has risen since the last time the data was published. It will likely take more of a foreign currency--for example, the British pound--to buy fewer U.S. dollars. If the U.S. GDP shrinks in comparison to the previous year, it will generally cost fewer British pounds to buy more U.S. dollars.
Government Policies
As the GDP measures economic performance, governments watch it closely. A low GDP will cause a government to embark on a different economic policy, one which will boost economic performance. If, on the other hand, the GDP rises from the previous year, the government will propose policies to maintain economic growth, but will also seek to prevent inflation.
Interest Rate Changes
Rising or shrinking GDP also affects interest rates. The interest rate refers to the amount of money charged for loans. In the U.S., the Federal Reserve sets the basic interest rates. If the GDP rises, it means the economy has grown. GDP growth also means that people are spending more money to purchase goods on the market. To prevent inflation, the Federal Reserve will raise the prime interest rate, making the supply of money scarcer. When the GDP shrinks, the Federal Reserve often lowers the interest rate, making it easier to borrow money and encouraging expenditures.
