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Nominal GDP Vs Nominal GDP Vs Real GDPReal GDP
Part II of Unit 3—measuring Part II of Unit 3—measuring domestic outputdomestic output
GDPGDP
Reminder: GDP is a figure Reminder: GDP is a figure including every item produced in including every item produced in the economy. the economy.
MoneyMoney is the common is the common denominator that allows us to denominator that allows us to add the total output.add the total output.
Nominal GDPNominal GDP Is the market value of all final g & s Is the market value of all final g & s
produced in a year.produced in a year. Calculated using current prices when the Calculated using current prices when the
output was producedoutput was produced Includes inflationIncludes inflation It is hard to compare market values from It is hard to compare market values from
year to year when the value of the $ itself year to year when the value of the $ itself changes (inflation or deflation)changes (inflation or deflation) To measure changes in the quantity of output, To measure changes in the quantity of output,
we need a “yardstick” that stays the same size.we need a “yardstick” that stays the same size.
Real GDPReal GDP
The value of the final g & s produced The value of the final g & s produced in a given year expressed in the in a given year expressed in the prices of a base yearprices of a base year 20002000
Nominal Vs Real
Traditional Method of Traditional Method of Calculating Real GDPCalculating Real GDP
This economy produces apples & This economy produces apples & orangesoranges
The base year is 2000. Since 2000 is The base year is 2000. Since 2000 is the base year, real and nominal GDP the base year, real and nominal GDP are the same.are the same.
To find the real GDP in 2000, + the value of To find the real GDP in 2000, + the value of apples & oranges produced in 2000 using apples & oranges produced in 2000 using the table:the table:
Value of apples = 60 apples X $.50 = $30Value of apples = 60 apples X $.50 = $30
Value of oranges = 80 oranges X $.25 = $20Value of oranges = 80 oranges X $.25 = $20 Real GDP in 2000 = $30 + $20 = $50Real GDP in 2000 = $30 + $20 = $50
GDP DataGDP Data ForFor 20002000
ItemItem QQ PP
ApplesApples 6060 $.50$.50
OrangesOranges 8080 $.25$.25
To calculate real GDP in 2006, + the value of To calculate real GDP in 2006, + the value of apples and oranges using the prices of 2000apples and oranges using the prices of 2000
Value of apples = 160 apples X $.50 = $80Value of apples = 160 apples X $.50 = $80 Value of oranges = 220 oranges X $.25 = $55Value of oranges = 220 oranges X $.25 = $55 Real GDP in 2006 = $80 + $55 = $135Real GDP in 2006 = $80 + $55 = $135
Real GDP is “constant dollars” or “2000 dollars” Real GDP is “constant dollars” or “2000 dollars” measure (taken inflation out)measure (taken inflation out)
GDP DataGDP Data ForFor 20062006
ItemItem QQ PP
ApplesApples 160160 $1.00$1.00
OrangesOranges 220220 $2.00$2.00
2 purposes of estimating 2 purposes of estimating Real GDPReal GDP
To compare the standard of living over To compare the standard of living over time (based on quantity, not price)time (based on quantity, not price)
To compare the standard of living among To compare the standard of living among countriescountries
Price IndexPrice Index A measure of the price of a specified A measure of the price of a specified
collection of g & s (market basket) in a given collection of g & s (market basket) in a given year as compared to the price of an identical year as compared to the price of an identical collection of g & s in a reference year.collection of g & s in a reference year.
PI = PI = price of market basket for a specific yearprice of market basket for a specific year X 100 X 100 price of same market basket in the base year price of same market basket in the base year
Find Real GDP = Find Real GDP = Nominal GDPNominal GDP X 100 X 100
PIPI
GDP DeflatorGDP Deflator An average of current prices expressed An average of current prices expressed
as a percentage of base year prices.as a percentage of base year prices. Measures the price levelMeasures the price level
The average level of pricesThe average level of prices
GDP deflator = (NGDP / RGDP) X 100GDP deflator = (NGDP / RGDP) X 100 ($135 / $50) X 100 = GDP deflator($135 / $50) X 100 = GDP deflator
2.7 X100 = 2702.7 X100 = 270
If NGDP rises but RGDP remains If NGDP rises but RGDP remains unchanged, prices have risen.unchanged, prices have risen.
Real GDP and the Price Real GDP and the Price LevelLevel
Deflating the GDP BalloonDeflating the GDP BalloonNominal GDP increases because production—real GDP– Nominal GDP increases because production—real GDP– increases. increases.
Real GDP and the Price Real GDP and the Price LevelLevelDeflating the GDP BalloonDeflating the GDP BalloonNominal GDP also increases because prices rise.Nominal GDP also increases because prices rise.
Real GDP and the Price Real GDP and the Price LevelLevelDeflating the GDP BalloonDeflating the GDP BalloonWe use the GDP deflator to let the air out of the nominal We use the GDP deflator to let the air out of the nominal GDP balloon and reveal real GDP.GDP balloon and reveal real GDP.
The Consumer Price The Consumer Price IndexIndex(CPI)(CPI)
Index the gov’t uses to measure Index the gov’t uses to measure inflationinflation
Gov’t uses it to adjust SS benefits Gov’t uses it to adjust SS benefits and income tax bracketsand income tax brackets
Reports 300 items in a market Reports 300 items in a market basketbasket
InflationInflation
A rise in the general level of pricesA rise in the general level of prices Inflation rate = Inflation rate = current CPI-Index CPI current CPI-Index CPI = rate (X 100)= %= rate (X 100)= %
index CPIindex CPI
or or Year2 – Year1Year2 – Year1 = rate (X 100) = % = rate (X 100) = %
Year1Year1