Transcript Nominal versus Real

NOMINAL VERSUS REAL
Nominal is the CURRENT value of output in an
economy. If I state that GDP is 17 trillion dollars
this is a nominal figure as I am not comparing it
to any other GDP figures or time.
 Because the dollar is used for measuring or
valuing GDP and because the dollar changes in
value over time, comparisons can be difficult to
make.
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MEASURING
To make comparisons we have to have a
measurement that doesn’t vary in value.
 So if we want to compare GDP now with GDP in
the past we have to be able to adjust GDP in
one place or the other for the changes in the
value of the dollar.
 Real GDP is a figure that has been adjusted for
the changes in value of the dollar.
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WAYS TO MEASURE PRICE CHANGE
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There are a variety of ways to measure change in the
value of the dollar over time.
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1) Establish a price index for the years in question. A
price index is a measure of the price of a specific
collection of goods and services, usually called a
market basket, in a given year, that is compared to a
similar if not identical collection of goods and services
in a reference or base year
USING A PRICE INDEX TO MEASURE
CHANGE
Formulae are written on the board since I
couldn’t figure out how to put them in here in
any way that would actually make sense to any
of us in this room right now.
 Using a price index can allow us to divide the
price of a market basket in a specific year by
the price of a market basket in a base year and
the multiply that result by 100.
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WHAT GOES ON IN THE REAL WORLD
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Frankly, GDP deflator calculations are much too
complex for us, so we are satisfied with the methods
that we have just discussed.
Points to remember: Once we establish the price index
and nominal GDP we can see clearly how Real GDP
can be obtained.
The base year is always calculated as 100 since real
and nominal GDP in that year are equal.
Real GDP allows us to see actual growth or shrinkage
in the economy because we are using a “constant
dollar” measuring stick.
CPI (CONSUMER PRICE INDEX)
Measures the cost of a constant standard of
living for a typical urban consumer. Generally,
this fixed weight basket of items will remain the
same over time. It is usually adjusted
approximately once a decade.
 The current composition of goods was
determined from survey of urban consumers in
2003-2005.
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CPI
Although the CPI is not a GDP deflator, it can
serve as a kind of guide to general changes in
the value of the dollar over time.
 The GDP index is more sensitive because it
changes components every year.
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Components of the CPI
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Major groups and examples of categories in each are as follows:
FOOD AND BEVERAGES (breakfast cereal, milk, coffee, chicken, wine, full
service meals, snacks)
HOUSING (rent of primary residence, owners' equivalent rent, fuel oil,
bedroom furniture)
APPAREL (men's shirts and sweaters, women's dresses, jewelry)
TRANSPORTATION (new vehicles, airline fares, gasoline, motor vehicle
insurance)
MEDICAL CARE (prescription drugs and medical supplies, physicians'
services, eyeglasses and eye care, hospital services)
RECREATION (televisions, toys, pets and pet products, sports equipment,
admissions);
EDUCATION AND COMMUNICATION (college tuition, postage, telephone
services, computer software and accessories);
OTHER GOODS AND SERVICES (tobacco and smoking products, haircuts and
other personal services, funeral expenses).
WHAT GDP DOESN’T MEASURE
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GDP only measures those things for which
income is generated that are legal and
reported. It also doesn’t measure some things
that may add to the quality of life or subtract
from it simply because they are generally not
amenable to measurement.
GDP SHORTCOMINGS
Cannot measure the value of things such as
homemaker, volunteer work, home
improvement)
 Doesn’t measure improvements in product
quality or increased leisure time
 Doesn’t adjust for change in composition of
output or distribution of income
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SHORTCOMINGS
Underground economy:
 Illegal activities are not counted
 Legal “untaxed” activities are not counted
 GDP and the environment:
 Harmful effects of pollution are not deducted
from GDP
 Nor are costs associated with cleaning things
up such as payments for oil spills etc
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GDP FINALE
Per capita GDP is a better, although, not perfect
way to measure standards of living
 Non economic sources of well being such as
courtesy, lack of crime, health, and happiness
are not covered in GDP
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