Actual GDP is the real GDP of an economy, i.e., the GDP that has been recorded. Potential GDP is the level of production assumed when all of an economy’s productive capacity is being used efficiently. The output gap between these two GDP figures is often used as an indicator of inflationary pressures. However, how is it possible to achieve real GDP using more productive capacity than assumed by potential GDP, as shown in the data for Argentina and the Philippines in 2013 (link here)?
There are two possible reasons for this gap.
The first reason concerns the estimation of potential GDP. Structural methods analyze the contributions of production factors (labor, capital, total factor productivity, etc.) using a production function. The estimation of potential GDP will be sensitive to the assumptions made in this context. An underestimation of the contributions of these factors could, for example, justify a potential GDP lower than the actual GDP.
The second reason relates to a demand shock, which would imply a sharp increase in actual GDP with potential GDP remaining unchanged.
AJ
