First, GDP figures omit production of goods and services that are not sold on markets. This component includes housework, meals cooked at home, and child care provided by parents, as well as services volunteered for charities and other groups. For example, when parents care for their own children, the value of their care does not appear in GDP. However, when parents pay for child care, those services appear in GDP.
Second, GDP includes only a very
imperfect estimate of production of goods and services sold on the underground
economy (or black market). This activity includes production of illegal
goods and services (such as drugs and prostitution). It also includes
production of legal goods that goes unreported to avoid taxes. Many estimates
suggest that the underground economy in the United States amounts to between 5
and 10 percent of GDP; this figure is even larger in many other countries.
Third, special measurement problems
result when GDP includes certain goods that are not sold on markets. When
you rent a house or apartment, your expenses appear in GDP as payments for
housing services. However, if you own the house or apartment where you live,
GDP includes the government’s estimate of the rent that you would pay if you
were renting.
Fourth: Substitution bias: As
consumers' tastes change and as new technological improvements are introduced,
the relative prices of goods change. Such changes are independent of inflation
so optimally we would like the real GDP measure to take them into
consideration. For example, as more people started using cellular phones, the
cost of supplying this service went down and so has price. In the real GDP the
value of these services is measured using old, higher prices, overstating the
increase in the value of production.
New-good bias: it is very difficult to include
new goods into the real GDP: In the base year they did not exist and hence
their price was infinite.
Quality-change bias: if you simply take the
number of TV sets produced and multiply it by the price of a typical TV set in
the base year, the value of production is going to be underestimated, as this
measure does not take into account the improvements in quality.
GDP is the value of
goods and services produce in a country during the time period
of year.