What it means
The calculation is straightforward: take output at the end of the period, subtract output at the start, and divide by the starting figure. The complexity lies entirely in which output measure is used and over what period.
Real rates strip out inflation while nominal rates do not, and the gap between them can be large. In a year when nominal output rises 5.2% and prices rise 2.2%, the real growth rate is roughly 3.0%, and that real figure is the one that describes actual production.
Quarterly rates are usually small numbers that get annualised to make them intelligible. Compounding a 0.7% quarterly rate over four quarters gives an annualised rate of about 2.83%, which is more meaningful to most readers than the raw quarterly figure.
Businesses use the rate as a benchmark and as a leading input to planning. Comparing your own revenue growth against it shows whether you are gaining or losing ground, and a sustained slowdown in the rate usually shows up in order books within a couple of quarters.
Watch out for revisions. First estimates are published quickly on incomplete data and are frequently revised by several tenths of a percentage point, so building a decision on a single early reading is risky.
There are also different ways of framing the same period. A year-on-year rate compares a quarter with the same quarter twelve months earlier and smooths out seasonal effects, while a quarter-on-quarter rate captures momentum but bounces around far more, so always check which basis a headline figure is using.
In practice
Real-world examples.
Example
A car dealership group benchmarks itself against a national growth rate of 2.5%. Its own unit sales rose 1%, so despite a profitable year it treats the result as underperformance and reviews its marketing spend.
Example
A central bank raises interest rates after two quarters in which the growth rate exceeded expectations. A manufacturer with floating rate debt sees its interest bill climb within a month of the decision.
Example
An export business tracks growth rates across four markets it sells into. One market slows from 4% to 1% while another accelerates, so it reallocates two sales staff between the territories.
Formula
Calculation
Economic Growth Rate = ((Real GDP at end - Real GDP at start) / Real GDP at start) x 100
An economy records real gross domestic product of $2,400 billion in year one and $2,472 billion in year two. The increase is $2,472 billion - $2,400 billion = $72 billion, so the growth rate is ($72 / $2,400) x 100 = 3.0%.
To annualise a quarterly figure, compound it over four quarters. A quarterly growth rate of 0.7% means output is multiplied by 1.007 each quarter, so over a year it is multiplied by 1.007 x 1.007 x 1.007 x 1.007 = 1.0283. That is an annualised growth rate of about 2.83%. Simply multiplying 0.7% by four would give 2.80%, so compounding adds a small amount, and the gap widens as the quarterly rate rises.Case study
Seen in the real world.
Kestrel Interiors is a fictional, illustrative supplier of office furniture operating across three regions. Its board had always set a uniform revenue growth target of 8% for every regional manager, regardless of local conditions.
A review of regional economic growth rates showed the disparity clearly. One region was growing at 4%, another at 2.4%, and the third had contracted for two consecutive quarters, so the manager working hardest in the weakest region was consistently rated worst on the scorecard.
The board replaced the uniform target with a relative one: each region was measured on growth relative to its local rate plus three percentage points. Nothing changed in the underlying business, but in this illustrative example the incentive finally rewarded performance rather than luck of geography, and the strongest manager in the weak region stayed rather than resigning.
Watch out
Common mistakes.
- Comparing a quarterly growth rate with an annual one without annualising it first. A 0.7% quarter and a 0.7% year describe very different economies.
- Using nominal growth rates when the question is about real activity. In a high-inflation period, nominal growth can be strongly positive while real output falls.
- Reacting to a single quarter's figure. Early estimates are revised, and quarterly data is noisy, so the trend across several quarters is far more informative.
Questions
People also ask.
Why is a quarterly rate annualised rather than just multiplied by four?
Because growth compounds, so the correct method raises the quarterly factor to the fourth power, which gives a slightly different and more accurate answer.
What growth rate is considered healthy?
For a mature economy, something in the range of 2% to 3% real growth is typically regarded as solid, while developing economies often run considerably higher.
How does the growth rate relate to a recession?
A recession is commonly described as two consecutive quarters of negative growth, though official bodies use broader criteria including employment and income.
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