5. Real versus nominal GDP Consider a simple economy that produces two goods: cu
ID: 1155535 • Letter: 5
Question
5. Real versus nominal GDP
Consider a simple economy that produces two goods: cupcakes and oranges. The following table shows the prices and quantities of the goods over a three-year period.
Year
Cupcakes
Oranges
Price
Quantity
Price
Quantity
(Dollars per cupcake)
(Number of cupcakes)
(Dollars per orange)
(Number of oranges)
2014
1
110
2
150
2015
2
155
4
215
2016
3
120
4
180
Use the information from the preceding table to fill in the following table.
Year
Nominal GDP
Real GDP
GDP Deflator
(Dollars)
(Base year 2014, dollars)
2014
2015
2016
From 2015 to 2016, nominal GDP decreased/increased , and real GDP decreased/increased .
The inflation rate in 2016 was -12.5%/ 0.1%/ 12.5% /88.9% /112.5% .
Why is real GDP a more accurate measure of an economy's production than nominal GDP?
-Real GDP measures the value of the goods and services an economy produces, but nominal GDP --measures the value of the goods and services an economy consumes.
-Real GDP is not influenced by price changes, but nominal GDP is.
-Real GDP does not include the value of intermediate goods and services, but nominal GDP does.
Year
Cupcakes
Oranges
Price
Quantity
Price
Quantity
(Dollars per cupcake)
(Number of cupcakes)
(Dollars per orange)
(Number of oranges)
2014
1
110
2
150
2015
2
155
4
215
2016
3
120
4
180
Explanation / Answer
(1) Nominal GDP (NGDP) = Sum of (Current year price x Current year quantity)
2014 ($): 1 x 110 + 2 x 150 = 110 + 300 = 410
2015 ($): 2 x 155 + 4 x 215 = 310 + 860 = 1170
2016 ($): 3 x 120 + 4 x 180 = 360 + 720 = 1080
(2) Real GDP (RGDP) = Sum of (Base year (2014) price x Current year quantity)
2014 ($): 1 x 110 + 2 x 150 = 110 + 300 = 410
2015 ($): 1 x 155 + 2 x 215 = 155 + 430 = 585
2016 ($): 1 x 120 + 2 x 180 = 120 + 360 = 480
(3) GDP Deflator = (NGDP / RGDP) x 100
2014: ($410/$410) x 100 = 100
2015: ($1170/$585) x 100 = 200
2016: ($1080/$480) x 100 = 225
(4) From 2015 to 2016, Nominal GDP decreased and real GDP decreased.
(5) Inflation in 2016 = % Change in GDP Deflator = (225/200) - 1 = 1.125 - 1 = 0.125 = 12.5%
(6) Real GDP is more accurate measure because
- Real GDP is not influenced by price changes but Nominal GDP is.
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