Real versus nominal GDP Consider a simple economy that produces two goods: penci
ID: 1220568 • Letter: R
Question
Real versus nominal GDP Consider a simple economy that produces two goods: pencils and envelopes. The following table shows the prices and quantities for the goods over a three-year period. Use the information from the previous table to fill in the following table. From 2009 to 2010, nominal GDP, and real GDP. The inflation rate in 2010 was. Why is real GDP a more accurate measure of an economy's production than nominal GDP? Real GDP is not influenced by price changes, but nominal GDP is. 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 does not include the value of intermediate goods and services, but nominal GDP does.Explanation / Answer
a. The nominal GDP is calculated using the given formuls :
NGDP = Summation of Current year price of goods (pencils and envelope)*quantity purchased (pencils and envelope) in the current period.
NGDP for 2008 = 1*110 + 2*150 = $410.
NGDP for 2009 = 2*155 + 4*215 = $1170.
NGDP for 2010 = 3*120 + 4*180 = $1080.
Real GDP is calculated using the formula, RGDP = quantities purchased in the current year*base year prices (2008).
RGDP for 2008 = 1*110 + 2*150 = $410. The RGDP and NGDP for the base year are always equal.
RGDP for 2009 = 1*155 + 2*215 = $585.
RGDP for 2010 = 1*120 + 2*180 = $480.
GDP deflator = NGDP/RGDP*100.
GDP deflator for 2008 = 410/410*100 = 100.
GDP deflator for 2009 = 1170/585*100 = 200.
GDP deflator for 2010 = 1080/480*100 = 225.
b. Decreased, Decreased.
The nominal GDP and real GDP from 2009 to 2010 has decreased, as it can be seen from the table above.
c. Inflation = [(GDP deflator in 2010 - GDP deflator in 2009)/GDP deflator in 2009]*100.
Inflation = (225 - 200)/200*100
Inflation = 25/200*100
Inflation = 12.50%.
d. Option A is correct.
Real GDP is calculated over base year prices, hence it is not influenced by changes in price that occur over a period of time. Whereas, nominal GDP is computed over current year prices, hence it can be misleading.
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