1. Krugman Section 3 Modules 10 and 15
Nominal GDP Vs Real GDP
Krugman Section 3
Modules 10 and 15

2. GDP
Reminder: GDP is a figure including every item produced in the economy.
Money is the common denominator that allows us to add the total output.

3. GDPn Is the market value of all final g & s produced in a year.
Calculated using current prices when the output was produced
Includes inflation (P X Q)
It is hard to compare market values from year to year when the value of the $ itself changes (inflation or deflation)
To measure changes in the quantity of output, we need a “yardstick” that stays the same size.

4. GDPr
The value of the final g & s produced in a given year expressed in the prices of a base year
(Q X base year price)
Takes out inflation
2000 for our example

5. Traditional Method of Calculating GDPr
This economy produces apples & oranges
The base year is Since 2000 is the base year, real and nominal GDP are the same.
Only during the base year, will the GDPr and GDPn be the same

6. Value of apples = 60 apples X $.50 = $30
To find the GDPr in 2000, + the value of apples & oranges produced in 2000 using the table:
GDP Data
For
2000
Item Q P
Apples 60
$.50
Oranges 80
$.25
Value of apples = 60 apples X $.50 = $30
Value of oranges = 80 oranges X $.25 = $20
GDPr in 2000 = $30 + $20 = $50

7. Value of apples = 160 apples X $.50 = $80
To calculate GDPr in 2006, + the value of apples and oranges using the prices of 2000
GDP Data
For
2006
Item Q P
Apples
160
$1.00
Oranges
220
$2.00
Value of apples = 160 apples X $.50 = $80
Value of oranges = 220 oranges X $.25 = $55
GDPr in 2006 = $80 + $55 = $135
Nominal would be?
$600

8. 2 purposes of estimating Real GDP
To compare the standard of living over time (based on quantity, not price)
To compare the standard of living among countries

9. Price Index
A measure of the price of a specified collection of g & s (market basket) in a given year as compared to the price of an identical collection of g & s in a reference year.
PI = price of market basket for a specific year X price of same market basket in the base year
To find GDPr = GDPn / PI X 100

10. GDP Deflator
An average of current prices expressed as a percentage of base year prices.
Measures the price level
The average level of prices
GDP deflator = (GDPn / GDPr) X 100
Example ($100 / $80) X 100 = GDP deflator
1.25 X 100= 125
Prices have gone up 25%

11. The Consumer Price Index (CPI)
Index the gov’t uses to measure inflation
Gov’t uses it to adjust SS benefits and income tax brackets
Reports 300 items in a market basket
Index or base year always = 100

12. Inflation A rise in the general level of prices index CPI
Inflation rate = current CPI-Index CPI = rate (X 100)= %
index CPI
or Year2 – Year1 = rate (X 100) = %
Year1
or YearAfter – YearBefore = rate (X 100) = %
YearBefore