What is GDP?

Zarith Sofea · 29 Nov 2023 4.2K Views

What is GDP?

The entire monetary or market value of all completed goods and services produced inside a nation's borders over a given time period is known as the gross domestic product, or GDP. It serves as a thorough assessment of the state of the economy in a particular nation by serving as a broad gauge of total domestic production.

The BEA estimates that the GDP of the US exceeded $23.3 trillion in 2021.

Economists frequently use data on the gross domestic product to evaluate the rate of economic growth and overall health of an economy. Additionally, it makes sense that the financial markets, particularly forex currency pairs, would benefit from it as well, given its significance for economists.

The US GDP "helps Americans see historical trends, make projections about the economic future, and compare their economy to other nations," according to the BEA's one-page explainer The Making of GDP.

The BEA modifies the data as needed to guarantee consistency, even though it is gathered by different agencies at different times. The movement of GDP is typically expressed as a percentage, i.e., the rate at which GDP increased (or decreased) from one quarter to the next.

What is the ideal GDP growth rate?

The majority of economists concur that GDP growth at an annualized rate of between 2% and 3% is a sign of a robust and healthy economy. If the result is lower, the economy may need stimulatory measures to recover, and if the growth is faster, inflationary concerns may arise.

Since almost every country calculates its GDP, economists from various jurisdictions can compare the performances of other countries and come to relevant conclusions.

Typically, the GDP is announced on a regular basis. For instance, the BEA in the US released GDP figures 19 times in 2021.

The cycle began on January 28 with the release of the Fourth Quarter and Year 2020 advance estimate, and concluded on December 23 with the release of the third quarter's state-by-state GDP estimates.

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The Bureau of Economic Analysis website provides the complete schedule, and many forex traders will mark each date on their calendars to help plan and direct their activities. Moreover, you can use the FOREX.com economic calendar to schedule your trading around announcements of the world GDP.

The BEA, in theory, releases the data four weeks following the end of each quarter. Three months following the conclusion of the applicable quarter, the final GDP data is released, but not before undergoing additional modifications and revisions.

What kind of price action can GDP lead to?

Three categories can be used to classify the price action that a trader can anticipate seeing when GDP data is released.

A GDP number that is lower than anticipated will probably cause the dollar to weaken and put pressure on the dollar side of all relevant currency pairs. If the GDP data is especially out of range, this will be inflated and might even lead to further volatility.

When a reading falls within the anticipated range, it needs to be carefully considered. This scenario is probably not going to involve a lot of action. You should evaluate US data in respect to other countries' contemporaneous data and compare the current reading to the reading from the prior quarter, as well as the same quarter from the prior year.

A reading that is higher than anticipated will probably result in trading support for the dollar relative to other currencies. Similar to point #1, there is more opportunity for sustained dollar gains in the midst of volatile charts the higher the GDP reading.

How general price movements are dictated by long-term GDP patterns?

Most of the published advice regarding GDP data advises taking a broader view of relevant currency pairs rather than looking for an immediate opportunity, in contrast to trading on NFP data, which we'll cover in the next lesson, which frequently stimulates traders to take specific action.

In order to achieve this, it is helpful to review past instances of long-term GDP trends, starting with the chart below.

Before the global financial crisis of 2007–2008, the Eurozone was in a better place than the US. While both economies experienced recessions, the US experienced higher annual GDP growth from 2009 to 2015 than the European average.

Let's now examine how the previously mentioned data relates to the actual pertinent trading pair. The chart below shows the euro's consistent rise versus the dollar before the financial crisis.

This was initially caused by the fact that GDP was increasing in Europe while it was already declining in the US, and when it did decline, it did so very slightly. The impact of the financial crisis was more severe in the US, which allowed EUR/USD to hit an all-time high in July 2008.

But the euro was an overbought currency as soon as it was obvious that the financial crisis was set to be as destructive to the Eurozone as it was to the US, which is why the chart's decline was so sharp.

From then until 2014, there was a great deal of volatility in the market, which was partly caused by specific geopolitical and financial crises in Europe. Following the Greek debt crisis of 2010–2011, the banking industries in Italy, Spain, Portugal, and Ireland experienced severe difficulties.

Looking back at the GDP comparison chart, the US numbers from 2012 to 2015 were remarkably stable (unlike in Europe). This played a major role in the subsequent sharp decline in the euro, which saw it fall from 1.39 in May 2014 to 1.26 in October of the same year.

How should GDP data affect forex traders?

It is challenging to provide traders with specific advice on how to respond to different GDP data points. There is almost always a limit to the amount of surprise factor, particularly given how frequently the data are revisions of earlier findings or heavily hinted at beforehand.

Having said that, there will be occasions when the information does cause a prompt response. Imagine for a moment that the US GDP has been showing disappointing numbers for several months, and the economy is finding it difficult to grow.

Then, a recent release reveals an abrupt and unanticipated jump.

Purchasing dollars in several important trading pairs will be the initial market response, which could take several hours. Given the new information, some traders will undoubtedly believe the currency has been oversold and thus has value.

At least temporarily, those traders will be hoping for high prices. After a first surge, the currency's value may, nevertheless, frequently wane and ultimately fall back to levels quoted prior to the release of the GDP data.

It's critical to realize that, despite its significance, a single GDP data release cannot alter the underlying economic picture of the currency as a whole.

Furthermore, good news that meets forecasts is rarely a bullish indication for a currency and could even cause it to weaken.

Conclusion

Lastly, it might be wise to look at GDP data without taking the value of the dollar into account. Similar recent GDP data may have been produced by a few other significant currencies, and they might be traveling in the same direction. Because of this, GDP comparison graphs—like the one in the first image on this page—might work better as a reference.

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