Introducing Concepts - Nominal GDP and Real GDP - Video Tutorials & Practice Problems
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Nominal GDP
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Alright, let's discuss on a high level, one of the more important calculations you're gonna make in this class, it's about gross domestic product. Let's check it out. So gross domestic product, it measures this is the definition, the value of goods and services produced by a country in a specific year. So gross domestic product, it's the level of production in an economy, right? And we generally measure it year by year. So gross domestic product, you're gonna see it all the time. Uh the acronym G. D. P. Okay, and you're gonna get really familiar with it throughout this class and we're gonna go into a lot more detail and other videos about GDP. Okay, so GDP is our gross domestic product. And when we talk about it in this class, we usually talk about 22 measures of GDP, the nominal GDP and Real GDP, that's what we're going to discuss in this video. So um what we can say is that if G. D. P. In the economy is greater in one year than the other, then we could say that the economy is expanding. Okay, so that's a good thing for the economy, right? If the G. D. P. Is greater in year two than in year one, what we're expanding the other way around? If GDP is decreasing, this is a signal that we're possibly in a recession right? As we see production start to decrease in an economy. Cool. So let's start here with nominal GDP and then we'll talk about real GDP in the next video. So nominal GDP, it's a measure of GDP using current year prices. So we are using the current year prices when we calculate nominal GDP and we'll see why this is important when we compare it to real GDP. So let's do this example here. A carpenter builds 100 cabinets. The prices in 2017 are $1000 per cabinet In 2018. The price rises to $2,000 per cabinet. Okay so let's imagine that this is the only thing in the economy. This is the only production that there is in the whole economy. It's a very simple carpenter town where this is all that happens. Right? So if this is all of the production while GDP would be the production in this economy would be the 100 cabinets. So in 2017 we could calculate GDP as the 100 cabinets that got produced times the price of those cabinets. $1,000. And that would tell us that these cabinets are worth 100,000 dollars and that is the production in that economy in 2017. Right? So in 2017 G. D. P. Would be $100,000 because that is what that economy produced. So you can imagine in a more complicated situation like an actual economy like the United States. This is quite a hefty calculation, everything that gets produced in the economy how do we even get that kind of detail? Well we'll get into that in another lesson. But for now let's keep it pretty simple. Okay so this is how we would calculate the G. D. P. We would find everything that was produced the 100 cabinets and what were they worth? $1000? So check it out in 2018. How is this calculation any different? Well they still produced 100 cabinets let's say. Right in 2018 there's still 100 cabinets that get produced. So they produced 100 cabinets in 2017. 100 cabinets in 2018. Right? But now in 2018 the price is $2000 per cabinet. So this leads GDP nominal GDP to be $200,000. Now did the economy really produce more? This is kind of a trick with nominal GDP since we're using the current year prices it might seem like hey in 2018 There was so much more production GDP doubled in 2018. The economy must be doing great. Right but is that really the true picture here in 2017 they built 100 cabinets in 2018. They built 100 cabinets. So really did production really increase maybe just the dollar value of that production increase. So what we do is we use a measure called real GDP. Let's pause real quick and let's talk about real GDP in the next video
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concept
Real GDP
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So we saw that nominal GDP could pose some problems right? Where we had the same level of production, 100 cabinets in each year. But since the price increase in 2018 compared to 2017 GDP increased. Now, what we do is we use this uh calculation called real GDP. And what it does is instead of using current year prices, we're going to use what we say base year prices or I guess I already have based their or year. So we'll put base year prices and the base year is going to be held constant. So we're gonna be using the same prices every year. Okay, So when we do this measure, we're going to say this year is the base year, whatever year that might be, it doesn't even have to be one of the year's. You're calculating base year in this situation, doesn't have to be 2017 or 2018. It could be the year 1983. It doesn't matter what year you choose. It just has to stay constant for the calculation. Okay, So you're using the same prices in every year that way, we're more focused on that quantity of production rather than the price of the goods changing. Okay, so let's check out our example here. A carpenter builds 100 cabinets. The price in 2017 are $1000 per cabinet in 2018. The prices rise to $2000. So it doesn't say it here, but let's assume 2017 is the base year. Okay, so let's write that in there, Assume that 2017 is the base here. And generally when you get a problem like this on a test, they're gonna have to tell you which year is the base year. If they don't say anything you can just assume that the oldest year is the base year. Okay so let's go ahead and do this example. Let's do our real GDP here in 2017. What is our real GDP? Well we produced 100 cabinets And what was those prices in the base year? The base year was 2017 and the price was $1,000. So that leads us to our same conclusion of $100,000. Okay so our notice that our real GDP and are nominal GDP in the base year when we have 2017 as the base year, they're the same. Right? And that should, that will always hold true because the base year price is the same price that we use for both calculations nominal and real GDP. However let's do 2018 real GDP, how are we gonna do that calculation Now in 2018 we still had 100 cabinets produced but we have to use the base year price of $1,000 1000. And that leads us to have 100,000 for the Real GDP in 2018 as well. So notice how now we can compare 2017 and 2018 G. D. P a little better. Right. It doesn't take into account that inflation of prices. Right? The price doubled So our GDP had doubled. But now this has more of a focus on that level of production where in both years we produced 100 cap so we should have a relative measure that shows that they that we had the same level of production. Okay, so we got $100,000 for GDP for Real GDP in 2018 and notice that previously when we calculated nominal GDP we had gotten $200,000 right? Because we had used the nominal price in two 2018 which was 2000. Cool. So that's the difference between Real GDP and nominal GDP, is which price we use? Okay, so Real GDP is a good measure that keeps the prices constant where nominal GDP is using more current numbers. Okay, So there's pros and cons to both but generally we're gonna be focused on Real GDP when we do these calculations. Alright, let's do a quick pause and we'll do a practice question related to nominal GDP and Real GDPP
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Problem
Problem
Simpletown produces Apples and Robots. In Year 1, Simpletown harvested 1,000 apples and built 50 robots. During Year 2, Simpletown had identical production to Year 1. However, during Year 2, prices rose by 50%. Based on this information, which of the following is true?
