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INTERPRTING
REAL GDP
What does the
measurement of GDP tell
us?
GDP TELLS US


The most important use of GDP is a measure of the
size of the economy, providing us a scale against
which to compare the economic performance of
the years or other nations
One must be careful when using GDP numbers,
especially when making comparisons over time.
Why?


Because part of the increase in the value of GDP over
time represents increases in the price of goods and
services rather than an increase in output.
To measure actual changes in aggregate output, we
need a modified version of GDP that is adjusted for
price changes (real GDP)
REAL GDP: MEASURE OF
AGGREGATE OUTPUT


GDP number is an interesting and useful statistic, one that
provides a good way to compare the size of different
economies.
Problem is it is not a good measure of the economy’s
growth over time. Why?

GDP can grow because the economy grows, but it can also
grow because of inflation.



Even if an economy’s output doesn’t change, GDP will go up if
the prices of the goods and services the economy produces
increase.
GDP can fall because either the economy is producing less or
because prices have fallen.
To measure the economy’s growth with accuracy, we need a
measure of aggregate output.

Total quantity of final goods and services the economy produces
which is real GDP.
CALCULATING REAL GDP



By tracking real GDP over time, we avoid the issue of changes in
prices distorting the value of changes in production over time.
To understand how real GDP is calculated we must look at data
YEAR 1


YEAR 2


Apples (2,000 billion X $.25) + Oranges (1,000 billion X $.50)= 1,000
billion
Apples (2,200 billion X $.30) + Oranges (1,200 billion X $.70) = 1,500
billon
This is a 50% increase but is it really?


This increase in the dollar value of GDP overstates the real growth in
the economy.
Yes the quantities of both apples and oranges increased from year
one to year two so did the prices. Part of the that 50% growth is not
higher production, the dollar value of GDP simply reflects higher
prices.
 How
do we measure the true increase in
aggregate output produced?


Find the value of output in year 2 expressed
in year 1 prices.
Apples (2,200 billion X $.25) + Oranges
(1,200 billion X $.50) = 1,150 billion.
 Output
in year 1 with year 1 prices was
1,000 billion so from year 1 to year 2 GDP
measured in year 1 prices rose 15% from
1,000 billion to 1,150 billion

Real GDP

Is the total value of final goods and services produced in the
economy during a year, calculated as if prices had stayed
constant at the same level of some given base year.


Nominal GDP

Number that has not been adjusted for changes in prices is
calculated using the prices in the year in which the output is
produced.


Real GDP number always come with info about what the base
year is.
GDP at current prices
By using real GDP we do not overstate growth instead we
are able to focus on changes in the quantity of output.
WHAT REAL GDP DOESN’T
MEASURE

GDP is a measure of a nation’s aggregate output.



Other things equal, a nation with a larger population will
have higher GDP simply because they have more
people working.
If we want to compare nations and want to get rid of
the population effect we use the measure GDP per
capita
Real GDP per capita can be a useful measure


Comparison of labor productivity between nations.
However, despite that fact that it is a rough measure of
the average real output per person, real GDP per
capita has limitations as a measure of a nations living
standards.