1. Current GDP, Real GDP and The Implicit GDP Deflator Index Lecture 9
Dr. Jennifer P. Wissink
©2017 Jennifer P. Wissink, all rights reserved.
September 19, 2017 1

2. The Income Approach to GDP

3. i>clicker question
This economy produced more in year 2 than it did in year 1.
A. True
False
Hard to say
A Three-Good Economy
PRODUCTION
YEAR 1
YEAR 2 Q1 Q2
Good A 6 11
Good B 7 4
Good C 10 12 3

4. Nominal GDP vs Real GDP
Nominal GDP is GDP measured in current dollars, or the current prices we pay for things.
When any variable is measured in current dollars, it is described in nominal terms.
Real GDP is GDP measured in reference to some base year so we can control for overall price changes.
Simple Old Method (used prior to 1996)
Picked a base year as the year chosen to be the reference year.
Used the set of prices in the base year to evaluate quantities produced in the base years and in other years.
A more complicated procedure is now used to perform these calculations.
We will only learn how to perform the old procedure.

5. Calculating Nominal GDP and Real GDP
A Three-Good Economy
(1)
(2)
(3)
(4)
(5)
(6)
(7)
(8)
GDP IN
YEAR 1
YEAR 2 IN
PRODUCTION
PRICE PER UNIT
PRICES Q1 Q2 P1 P2
P1 x Q1
P1 x Q2
P2 x Q1
P2 X Q2
Good A 6 11
$.50
$ .40
Good B 7 4
.30
1.00
Good C 10 12
.70
.90
Total 5

6. GDP %Changes %change in nominal GDP
From our calculations:
Nominal GDP in Year 1 = $12.10
Nominal GDP in Year 2 = $19.20
Real GDP in Year 2 (when Base Year = Year 1) = $15.10
Real GDP in Year 1 (when Base Year = Year 2) = $18.40
%change in nominal GDP
%change in real GDP (Year 1 is base year)
%change in real GDP (Year 2 is base year)

7. i>clicker questions
Assume the base year is When calculating real GDP for 2017 you use quantities from the base year and prices from 2017.
A. True
B. False
Assume the base year is The value of real GDP and current GDP will be the same in the base year.
A. True
B. False
Assume the base year is If the US has been experiencing inflation, real GDP in 2017 will be smaller than nominal GDP in 2017.
A. True
B. False

8. The Process of Deflating & the Implicit GDP Deflator Index
Deflating: changing a measure from a current or nominal value to a real value by use of a deflator.
implies you have a deflator!
To deflate (if you have a deflator):
Conveniently: the government reports the following
$nominal GDP
$real GDP
So subbing-in and cross-multiplying we get...
And...to make it an index just multiply it by 100! And now it’s called the implicit GDP deflator index!

9. Nominal GDP, Real GDP & the IGDPDI
IGDPDI for 2009
IGDPDI for 2015
Inflation between the base year and 2015
Inflation between 2012 & 2015
IGDPDI for 2015 =
IGDPDI for 2012 =
Nominal GDP, Real GDP & the IGDPDI
year
Real GDP, Billions of Chained 2009 Dollars
GDP, Billions of Dollars
 Implicit GDP deflator Index
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015 11

10. Using An Index Like the Implicit GDP Deflator Index
In 1975/76 Cornell tuition + fees + room & board cost approximately $5,000 per YEAR!
So, based solely on the implicit GDP deflator index, what should Cornell have cost in 2015/2016? 12

11. ANOTHER Measure of Inflation: The Consumer Price Index
The consumer price index (CPI) is a price index computed each month by The Bureau of Labor Statistics using a bundle that is meant to represent the “market basket” purchased monthly by the typical urban consumer.
It’s the most popular fixed-weight price index.
The CPI market basket shows how a typical consumer divides his or her money among various goods and services.

12. FIGURE 7.1 The CPI Market Basket

13. Percentage Change in CPI Percentage Change in CPI
TABLE 7.5 The CPI, 1950–2012
Percentage Change in CPI
CPI
Percentage Change in CPI
1950
1.3
24.1
1971
4.4
40.5
1992
3.0
140.3
1951
7.9
26.0
1972
3.2
41.8
1993
144.5
1952
1.9
26.5
1973
6.2
44.4
1994
2.6
148.2
1953
0.8
26.7
1974
11.0
49.3
1995
2.8
152.4
1954
0.7
26.9
1975
9.1
53.8
1996
156.9
1955
-0.4
26.8
1976
5.8
56.9
1997
2.3
160.5
1956
1.5
27.2
1977
6.5
60.6
1998
1.6
163.0
1957
3.3
28.1
1978
7.6
72.6
1999
2.2
166.6
1958
28.9
1979
11.3
65.2
2000
3.4
172.2
1959
29.1
1980
13.5
82.4
2001
177.1
1960
1.7
29.6
1981
10.3
90.9
2002
179.9
1961
1.0
29.9
1982
96.5
2003
184.0
1962
30.2
1983
99.6
2004
2.7
188.9
1963
30.6
1984
4.3
103.9
2005
195.3
1964
31.0
1985
3.6
107.6
2006
201.6
1965
31.5
1986
109.6
2007
207.3
1966
2.9
32.4
1987
113.6
2008
3.9
215.3
1967
3.1
33.4
1988
4.1
118.3
2009
214.5
1968
4.2
34.8
1989
4.8
124.0
2010
218.1
1969
5.5
36.7
1990
5.4
130.7
2011
224.9
1970
5.7
38.8
1991
136.2
2012
2.1
229.6
Note: =100

14. Calculating the Consumer Price Index

15. The IGDPDI vs The CPI

16. The IGDPDI vs The CPI P
Demand A B P2 P1 C E O Q2 Q1 Q

17. Cool Tool: The BLS “Inflation Calculator”
About the CPI inflation calculator:
The CPI inflation calculator uses the average Consumer Price Index for a given calendar year. This data represents changes in prices of all goods and services purchased for consumption by urban households. This index value has been calculated every year since For the current year, the latest monthly index value is used.

18. Why Do We Care So Much About Inflation?
Its potential to change the distribution of income.
Its special effects on debtors & creditors.
The costs of “keeping up” might be self-fulfilling.
Resources (time and money) are used up in the mere act of posting and keeping up with price changes and searching for low prices.
Increased likelihood that people don’t know (or can’t keep up with) changing relative prices, so they don’t allocate efficiently.
Increased uncertainty, pessimism and risk, perhaps making people tentative and investment riskier depresses expenditure on consumption and investment.
Real Culprit: asymmetric and unanticipated inflation

19. And What About Deflation?
Its potential to change the distribution of income.
Its special effects on debtors & creditors.
Can often lead to periods of economic stagnation and high unemployment since people put off buying “stuff” today expecting prices to get lower in the future.
Seemed to be a significant part of Japan’s financial crises from circa , the “lost decade”.
If it’s hard to cut nominal wages, since everyone moans about that, then real wages will rise during deflations and can lead to unemployment pressure.