What are real and nominal GDP?
Methods of calculation of GDP and GNP
There are basically three methods used for calculating the GDP and the GNP.
1. Product method
2. Income method
3. Expenditure method.
We have already discussed in detail the Product method and what are the different platforms on which the calculations are based, in the article published on 10th, April 2019, in these columns. Now let’s look at the other two models.
2.Income method
Under this method, national income is measured as a flow of factor incomes. There are generally four factors of production labour, capital, land and entrepreneurship. Labour gets wages and salaries, capital gets interest, land gets rent and entrepreneurship gets profit as their remuneration.
Besides, there are some self-employed persons who employ their own labour and capital such as doctors, advocates, CAs, etc. Their income is called mixed income.
Income from people in jobs and in self-employment like wages and salaries.
+
Profits of private sector businesses or entrepreneurship.
+
Rent income from the ownership of land
+
Interest that investing organizations by putting in their Capital.
=
Gross Domestic product
3.Expenditure method
In this method, national income is measured as a flow of expenditure. GDP is sum-total of private consumption expenditure, Government consumption expenditure, gross capital formation (Government and private) and net exports (Export-Import).
GDP = C + I + G + (X-M) where
C: Household spending on goods and services
I: Capital Investment spending
G: Government spending
X: Exports of Goods and Services
M: Imports of Goods and Services
What is NDP?
The Net domestic product is the gross domestic product (GDP) minus depreciation on a country’s capital goods. Net domestic product accounts for capital that has been consumed over the year in the form of housing, vehicle, or machinery deterioration. The depreciation accounted for is often referred to as “capital consumption allowance” and represents the amount of capital that would be needed to replace those depreciated assets.
If the country is not able to replace the capital stock lost through depreciation, then GDP will fall. In addition, a growing gap between GDP and NDP indicates increasing obsolescence of capital goods, while a narrowing gap means that the condition of capital stock in the country is improving.
Government announces the rate of depreciation in the economy. In domestic use, NDP is used to understand the loss due to depreciation. NDP is not used for the comparative economies since the rate of depreciation is different for different countries. In India NDP is announced by the Ministry of Commerce and Industry.
What is NNP?
Net national product is gross national product (GNP)minus depreciation. Depreciation describes the devaluation of fixed capital through wear and tear associated with its use in productive activities. NNP or Net National Product is the purest form of Income. It is the National Income or NI.
NNP = Gross National Product – Depreciation
We can find the per capita income of a country if we know the NNP and total population. It is the most appropriate measure of economic growth of a country.
(NNP/ total Population) = per capita income
What are real and nominal GDP?
The difference between nominal and real GDP is that real values are adjusted for inflation, while nominal values are not.
Nominal GDP is the aggregate market value of the economic output produced in a year within the boundaries of the country.It is the GDP calculation without the effect of inflation. It takes into account Current year prices for calculations.
Real GDP refers to the value of economic output produced in a given period, adjusted according to the changes in the general price level. It is the GDP calculation with Inflation adjusted. It takes into account Base year prices or constant prices for calculations.
As a result, nominal GDP will often appear higher than real GDP.
Why is it important to understand the difference between the two ?
The actual growth in an economy is clearly understood with the calculation of Real GDP and not Nominal. The Nominal appreciates the growth to a greater extent as current prices are taken into account and not Base year prices. Lets understand this with the help of an example.
A small island country produces only one product, lets say Carrots. This islands nominal GDP was 70 million for 2016, and 90 million for 2018. 20 million seems like a substantial increase in GDP. But in 2016, the price of 1 kg of carrots was $1. In 2018, the price increased to $1.20. The islands 2016 total output has been 70 million kgs of carrots($70 million/$1). For 2018 the total output was 75 million ($90 million/$1.20). If the 2018 nominal GDP was adjusted for inflation so that the total units produced were calculated at the 2016 price of $1 (since 2012 is the base year in this example), then real GDP for 2018 is $75 million (75 million units X $1 per unit). With this adjustment, there is still an increase in GDP, but only $5 million, which is solely attributable to the increase in production from 70 million kgs of carrots to 75 million kgs.
Real GDP helps in determining the effect of increased production of goods and services as it is affected by change in physical output only. On the other hand, Nominal GDP can increase even without any increase in physical output as it is affected by change in prices also. Real GDP is a better measure to make periodic comparison in the physical output of goods and services over different years. Real GDP facilitates international comparison of economic performance across the countries.
What is GDP deflator?
The Gross Domestic Product (GDP) deflator is a measure of general price inflation. It is calculated by dividing nominal GDP by real GDP and then multiplying by 100.
GDP Deflator = Nominal GDP x 100 Real GDP
What is green GDP?
The green gross domestic product (Green GDP) is an index of economic growth with the environmental consequences of that growth factored into a country’s conventional GDP. It’s a measure of how a country is prepared for sustainable economic development. Green GDP measures GDP growth along with the environmental consequences of that growth factored in. The Green GDP figure accounts for the environmental costs of depletion and degradation of natural resources into the country’s economic growth figures.
Test
1. A growing gap between GDP and NDP indicates
A. Decreasing obsolescence of capital goods
B. Increasing obsolescence of capital goods
C. Decreasing obsolescence of consumption goods
D. Increasing obsolescence of consumption goods
2. NDP is best used for
A. Comparing economies
B. Calculating loss due to depreciation
C. Both a and b
D. Employment levels in the economy
3. The actual growth in an economy is understood with the help of
A. Real GDP
B. Nominal GDP
C. Real NDP
D. Nominal NDP
4. GDP deflator is calculated as
A. Nominal gdp / real gdp *100
B. Real gdp/ nominal gdp*100
C. Either A or B
D. None of the above
5. NNP is calculated as
A. GDP – depreciation
B. GNP – depreciation
C. GDP + depreciation
D. GDP + depreciation
Answers :
1.A, 2.A, 3.B, 4.A, 5.C
