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Chapter 7: Q11. (page 151)

Contrast nominal GDP and real GDP. Why is one more reliable than the other for comparing changes in the standard of living over a series of years? What is the GDP price index, and what is its role in differentiating nominal GDP and real GDP?

Short Answer

Expert verified

Nominal GDP refers to the overall market value of the goods and services produced in an economy during a particular period, while real GDP refers to the nominal GDP adjusted to inflation.

Real GDP uses constant price, and it is more accurate than the nominal GDP. So real GDP is a more reliable measure to understand changes.

The GDP price index is the measure of the price of a collection of specific goods and services in the market. The real GDP can be obtained by dividing nominal GDP by price index.

Step by step solution

01

Nominal and real GDP

Nominal GDP accounts for the measure of each year’s output in terms of prices that are currently prevailing in the market.The nominal GDP is not adjusted with inflation. The real GDP measures the price of output concerning the current prices in the economy by selecting a particular year as the base year. This is because the real GDP is the price leveladjusted with inflation in the economy.

The real GDP is considered a more reliable measure for comparing changes. Because nominal GDP is the one that is not adjusted to the change in the price level, it is based on the current price level only. In contrast, the real GDP is the one that is adjusted to the changes in the price level.

02

GDP price index

The price index is the measure of inflation in the goods and services that are produced in the economy.The price index is a measure of the prices of goods in the market basket compared to the prices of goods in a reference year. Exported goods are also included in the price index.

The price index is calculated by dividing the nominal GDP by the real GDP. The real GDP can be obtained by dividing nominal GDP by the price index.

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Most popular questions from this chapter

Suppose that annual output in year 1 in a three-good economy is 3 quarts of ice cream, 1 bottle of shampoo, and 3 jars of peanut butter. In year 2, the output mix changes to 5 quarts of ice cream, 2 bottles of shampoo, and 2 jars of peanut butter. If the prices in both years are \(4 per quart for ice cream, \)3 per bottle of shampoo, and $2 per jar of peanut butter, what was the economy’s GDP in year 1? What was its GDP in year 2?

Suppose GDP is \(5.0 trillion, depreciation is \)1 trillion, and gross output (GO) is $17.25 trillion.

a. What is the value of all stages of production and distribution except for final sales of goods and services?

b. What is the dollar value of the economic activity taking place at every stage of production and distribution?

Suppose that this year’s nominal GDP is \(16 trillion. To account for the effects of inflation, we construct a price-level index in which an index value of 100 represents the price level 5 years ago. Using that index, we find that this year’s real GDP is \)15 trillion. Given those numbers, we can conclude that the current value of the index is:

a. higher than 100.

b. lower than 100.

c. still 100.

Suppose that in 1994 the total output in a single-good economy was

7,000 buckets of chicken. Also suppose that in 1994 each bucket of chicken was

priced at \(10. Finally, assume that in 2015 the price per bucket of chicken was

\)16 and that 22,000 buckets were produced. Determine the GDP price index for

1994, using 2015 as the base year. By what percentage did the price level, as

measured by this index, rise between 1994 and 2015? What were the amounts of

real GDP in 1994 and 2015?

Suppose that this year a small country has a GDP of \(100 billion. Also assume that Ig = \)30 billion, C = \(60 billion, and Xn = − \)10 billion. What is the value of G?

a. \(0

b. \)10 billion

c. \(20 billion

d. \)30 billion
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