Question

In: Economics

Consider a simple economy that produces two goods: pencils and envelopes. The following table shows the...

Consider a simple economy that produces two goods: pencils and envelopes. The following table shows the prices and quantities of the goods over a three-year period.

Year

Pencils

Envelopes

Price

Quantity

Price

Quantity

(Dollars per pencil)

(Number of pencils)

(Dollars per envelope)

(Number of envelopes)

2016 1 110 2 150
2017 2 155 4 215
2018 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 2016, dollars)

2016
2017
2018

From 2017 to 2018, nominal GDP   , and real GDP   .

The inflation rate in 2018 was   .

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.

Nominal GDP is adjusted for the effects of inflation or deflation, whereas real GDP is not.

Real GDP is not influenced by price changes, but nominal GDP is.

Solutions

Expert Solution

From the given information calculate the real and nominal GDP.

Calculation of Nominal GDP

Nominal GDP = Current year Quantity * Price of Current year

Pencil

Envelop

Nominal GDP

Price

Quantity

Cost

Price

Quantity

Cost

2016

1

110

110

2

150

300

110+300=410

2017

2

155

310

4

215

860

310+860=1,170

2018

3

120

360

4

180

720

360+720 = 1,080

Calculation of Real GDP

Real GDP = Current year Quantity * Price of BASE year

In the given question, BASE year is 2016

Milk

Honey

Nominal GDP

Price

Quantity

Cost

Price

Quantity

Cost

2016

1

110

110

2

150

300

110+300 = 410

2017

1

155

155

2

215

430

155+430 = 585

2018

1

120

120

2

180

360

120+360 = 480

Now calculate the GDP Deflator for each year

GDP Deflator Formula is (Nominal GDP ÷ Real GDP) * 100

Year

Nominal GDP

Real GDP

GDP Deflator

2016

410

410

(410/410) * 100 = 100

2017

1,170

585

(1,170/585) * 100 = 200

2018

1,080

480

(1,080/480) * 100 = 225

From 2017 to 2018, nominal GDP decreased, and real GDP decreased.

Inflation in 2018

Rate of inflation = {(225 – 200) / 200} * 100

Rate of inflation = 12.5%

The inflation rate in 2018 was  

The 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 influenced by price changes.


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