Chapter 5, Problem 5PA

Sub part (a):

To determine

Nominal GDP.

Explanation of Solution

The GDP is the summation of the money value of all the goods and services produced within the political boundary of a country within a financial year. There are two different ways of calculating the GDP of the economy and they are the Real GDP and the Nominal GDP. The Real GDP is the GDP calculated at the constant prices. There will be a base price index and the value of goods and services that will be calculated on the base of the constant prices. Thus, it will measure the GDP of the economy on the same base year price index which will help us to identify the inflation in the economy. The Nominal GDP is the GDP calculated at the current prices. The GDP will be calculated by multiplying the quantity of goods and services produced with the current year market prices which will include the inflation impact.

The nominal GDP of the economy can be calculated by multiplying the quantity produced by the per unit price of the commodity. The quantity produced and price in year 1 were 3 bars of chocolate and the price was $4. Thus, the Nominal GDP of year 1 can be calculated as follows:

$\begin{array}{c}{\text{Nominal GDP}}_{\text{Year 1}}={\text{Quantity produced}}_{\text{Year 1}}\times {\text{per unit price}}_{\text{Year 1}}\\ =3\times 4\\ =12\end{array}$

Thus, the Nominal GDP of year 1 is $12.

Similarly, the quantity produced and price in year 2 were 4 bars of chocolate and $5 respectively. Thus, the Nominal GDP of year 2 can be calculated as follows:

$\begin{array}{c}{\text{Nominal GDP}}_{\text{Year 2}}={\text{Quantity produced}}_{\text{Year 2}}\times {\text{per unit price}}_{\text{Year 2}}\\ =4\times 5\\ =20\end{array}$

Thus, the Nominal GDP of year 2 is $20.

The quantity produced and price in year 3 were 5 bars of chocolate and $6 respectively. Thus, the Nominal GDP of year 3 can be calculated as follows:

$\begin{array}{c}{\text{Nominal GDP}}_{\text{Year 3}}={\text{Quantity produced}}_{\text{Year 3}}\times {\text{per unit price}}_{\text{Year 3}}\\ =5\times 6\\ =30\end{array}$

Thus, the Nominal GDP of year 3 is $30.

Economics Concept Introduction

Concept introduction:

Gross Domestic Product (GDP): It is the summation of the money value of all the goods and services produced within the political boundary of a country within a financial year.

Nominal GDP: The Nominal GDP is the GDP calculated at the current prices.

Sub part (b):

To determine

Real GDP.

Explanation of Solution

The base year is year 1 and thus, the real GDP and the Nominal GDP of the year 1 will be the same and thus, the Real GDP of year 1 will be equal to the Nominal GDP of year 1 which is $12.

The quantity produced and price in year 2 were 4 bars of chocolate and the base price was $4. Thus, the Real GDP of year 2 can be calculated as follows:

$\begin{array}{c}{\text{Real GDP}}_{\text{Year 2}}={\text{Quantity produced}}_{\text{Year 2}}\times {\text{per unit price}}_{\text{Year 1}}\\ =4\times 4\\ =16\end{array}$

Thus, the Real GDP of year 2 is $16.

The quantity produced and price in year 3 were 5 bars of chocolate and the base price was $4. Thus, the Real GDP of year 3 can be calculated as follows:

$\begin{array}{c}{\text{Real GDP}}_{\text{Year 3}}={\text{Quantity produced}}_{\text{Year 3}}\times {\text{per unit price}}_{\text{Year 1}}\\ =5\times 4\\ =20\end{array}$

Thus, the Real GDP of year 3 is $20.

Economics Concept Introduction

Concept introduction:

Gross Domestic Product (GDP): It is the summation of the money value of all the goods and services produced within the political boundary of a country within a financial year.

Real GDP: The Real GDP is the GDP calculated at the constant prices. There will be a base price index and the value of goods and services that will be calculated on the base of the constant prices. Thus, it will measure the GDP of the economy on the same base year price index which will help us to identify the inflation in the economy.

Sub part (c):

To determine

GDP deflator.

Explanation of Solution

The GDP deflator is the implicit price deflator. It can be calculated by dividing the Nominal GDP with the Real GDP and multiplying the value with 100 as follows:

${\text{GDP Deflator}}_{\text{Year 1}}=\frac{{\text{Nominal GDP}}_{\text{Year 1}}}{{\text{Real GDP}}_{\text{Year 2}}}\times 100$

Thus, by substituting the values of Nominal and Real GDP in the equation, we can calculate the GDP deflator as follows:

$\begin{array}{c}{\text{GDP Deflator}}_{\text{year 1}}=\frac{{\text{Nominal GDP}}_{\text{Year 1}}}{{\text{Real GDP}}_{\text{Year 2}}}\times 100\\ =\frac{12}{12}\times 100\\ =100\end{array}$

Thus, the GDP deflator in Year 1 is 100. Similarly, the GDP deflator for year 2 can be calculated as follows:

$\begin{array}{c}{\text{GDP Deflator}}_{\text{Year 2}}=\frac{{\text{Nominal GDP}}_{\text{Year 2}}}{{\text{Real GDP}}_{\text{Year 2}}}\times 100\\ =\frac{20}{16}\times 100\\ =125\end{array}$

Thus, the GDP deflator in Year 2 is 125.

The GDP deflator for year 3 can be calculated as follows:

$\begin{array}{c}{\text{GDP Deflator}}_{\text{Year 3}}=\frac{{\text{Nominal GDP}}_{\text{Year 3}}}{{\text{Real GDP}}_{\text{Year 3}}}\times 100\\ =\frac{30}{20}\times 100\\ =150\end{array}$

Thus, the GDP deflator in Year 3 is 150.

Economics Concept Introduction

Concept introduction:

Gross Domestic Product (GDP): It is the summation of the money value of all the goods and services produced within the political boundary of a country within a financial year.

GDP deflator: It is an implicit price deflator.

Sub part (d):

To determine

Growth of Real GDP.

Explanation of Solution

The growth rate of Real GDP from year 2 to year 3 can be calculated by the following formula:

$\begin{array}{c}{\text{Growth rate}}_{\text{Real GDP}}=\frac{\left({\text{Real GDP}}_{\text{Year 3}}-{\text{Real GDP}}_{\text{Year 2}}\right)}{{\text{Real GDP}}_{\text{Year 2}}}\times 100\\ =\frac{\left(20-16\right)}{16}\times 100\\ =25\end{array}$

Thus, the growth rate of Real GDP from year 2 to year 3 is by 25 percent.

Economics Concept Introduction

Concept introduction:

Gross Domestic Product (GDP): It is the summation of the money value of all the goods and services produced within the political boundary of a country within a financial year.

Real GDP: The Real GDP is the GDP calculated at the constant prices. There will be a base price index and the value of goods and services that will be calculated on the base of the constant prices. Thus, it will measure the GDP of the economy on the same base year price index which will help us to identify the inflation in the economy.

Sub part (e):

To determine

Growth rate of inflation.

Explanation of Solution

The inflation rate is the rate at which the inflation rose in the economy. The inflation rate can be calculated using the GDP deflator as follows:

$\begin{array}{c}\text{Inflation rate}=\frac{\left({\text{GDP deflator}}_{\text{Year 3}}-{\text{GDP deflator}}_{\text{Year 2}}\right)}{{\text{GDP deflator}}_{\text{Year 2}}}\times 100\\ =\frac{\left(150-125\right)}{125}\times 100\\ =20\end{array}$

Thus, the growth rate of inflation from year 2 to year 3 is by 20 percent.

Economics Concept Introduction

Concept introduction:

Gross Domestic Product (GDP): It is the summation of the money value of all the goods and services produced within the political boundary of a country within a financial year.

Inflation: It is an increase in the general price level of goods and services in an economy over a period of time.

Sub part (f):

To determine

Growth rate of Real GDP and inflation rate.

Explanation of Solution

The growth rate of the real GDP can be calculated with the help of the percentage change in the quantity because the price is base price which is fixed and does not change. Similarly, in the case of calculation of the inflation rate, the percentage change in the price of the commodity could be measured.

Economics Concept Introduction

Concept introduction:

Gross Domestic Product (GDP): It is the summation of the money value of all the goods and services produced within the political boundary of a country within a financial year.

Real GDP: The Real GDP is the GDP calculated at the constant prices. There will be a base price index and the value of goods and services that will be calculated on the base of the constant prices. Thus, it will measure the GDP of the economy on the same base year price index which will help us to identify the inflation in the economy.

Inflation: It is an increase in the general price level of goods and services in an economy over a period of time.