A society\'s GDP for year 1 was composed of 100 units of apples sold for $2.00 p

Question

A society's GDP for year 1 was composed of 100 units of apples sold for $2.00 per unit, 200 units of oranges sold for $3.00 per unit and 400 units of bananas sold for $5.00 per unit. The same socie GDP for year 2 was composed of 250 units of apples, sold for $1.00 per unit, 150 units of oranges sold for $4.00 per unit and 600 units of bananas sold for $4.00 per unit. a. Find the real change of society's GDP from year 1 to year 2 using year 1 as a base year b. Find the rate of price inflation from year 1 to year 2.

Explanation / Answer

Answer

Real GDP is the market value of goods produce or sold in a market during a year at a constant Price(Base Year Price).

here Base Year = Year 1

So Real GDP of Year 1 = Nominal GDP of Year 1 = Price *Quantity{Apples} + Price* Quantity{Oranges} + Price*Quantity{Banana}. Year 1 Prices are used in this case.

So Real GDP of Year 1 = Nominal GDP of Year 1 = 100*2 + 200*3 + 400*5 = 2800

Nominal GDP of Year 2 =  Price *Quantity{Apples} + Price* Quantity{Oranges} + Price*Quantity{Banana}. Year 2 Prices are used.

Nominal GDP of Year 2 = 250*1 + 150*4 + 600*4 = 3250

Real GDP of Year 2 =  Price *Quantity{Apples} + Price* Quantity{Oranges} + Price*Quantity{Banana}. Year 1 Prices are used.

Real GDP of Year 2 = 250*2 + 150*3 + 600*5 = 3950.

Real Change = 3950 - 2800 = $1150

Hence, Real Change of society GDP from Year 1 to Year 2 Using Year 1 as Base Year 1

= 3950 - 2800 = $1150.

b) Now, Rate of Inflation = ((Price level in year 2 - Price Level of Year 1)/(Price Level of Year 1))*100

Let Price level of Year 1 be 100.

GDP Deflator (Year 2) = (Nominal GDP/Real GDP)*100  

= (3250/3950)*100 = 82.28.

As this is lesser than 100, hence this is a situation of Deflation.

Rate of Inflation = ((82.28 - 100)/100)*100 = -17.72%

Hence price Inflation decreases at a rate of 17.72% from year 1 to year 2

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