Calculating the output of an economy and predicting possible complications is an essential task for economists, usually fulfilled by the use of Gross Domestic Product (GDP). Two types of GDP, namely actual and potential, are commonly implemented to ascertain the state of the economy. During economic growth, as GDP changes its value, it becomes possible to evaluate the difference between the economy’s current output, actual GDP, and the level that could be achieved, referred to as potential GDP. Actual or real GDP accounts for inflation and represents the most relevant trends in economic growth.
On the other hand, potential GDP is an estimate of the economic condition that could be accomplished through the normal use of all existing country resources. When contrasted using different time periods, the two types of domestic product can indicate whether the economy is working towards inflation, evident in a positive GDP gap. Alternatively, if a high unemployment rate is present, a negative GDP gap can be observed.
The rule of 70 can be especially useful when estimating the possible increase of a specific measure, for instance, an investment. This method is based on dividing 70 by the annual growth rate, which allows determining the number of years necessary for the said investment to double. In this regard, inflation acts as the annual growth rate. The rule of 70 can positively impact the equity investments made, offering the owner the opportunity to calculate future income.
Utilizing this strategy is most efficient when calculating investments with lower percentages, such as below 6%, as less frequent compounding intervals are usually present in high annual growth rates. Nevertheless, it is imperative to remember that the rule of 70 provides a rough estimate and should be adjusted according to the economic environment.