Lesson 1, Topic 1
In Progress

Measuring Changes over Time

Abdulaziz July 22, 2020
• Nominal GDP
• A measure of GDP when prices and quantities have not been separated.
• Real GDP
• Actual quantity of goods and services.

nominal GDP = price level × real GDP

A Simple Example: Where Real GDP Doesn’t Change

• To compute GDP across time, we must use one year’s price.
• Real GDP will be measured in a certain year’s dollars
• Nominal GDP is measured in current dollars.
• Consider Apples and Computers:

nominal GDP = (prices of apples × quantity of apples) + (prices of computers × quantity of computers)

• If the quantity of goods and services produced does not change, but prices do change
• Nominal GDP will change.
• Real GDP will not change.

A Second Example: Where Real GDP Changes

• The magnitude of the change in real GDP will depend on the year’s prices we select to calculate real GDP.

Quantity Indexes: Laspeyres, Paasche, and Chain Weighting

• Calculating real GDP changes over time:
• The Laspeyres index
• Calculates changes in real GDP using the initial prices.
• The Paasche index
• Calculates changes in real GDP using the final year prices.
• Over long-time intervals the two indexes can result in substantial differences.
• The Fisher index (chain weighting) is the preferred approach to calculating real GDP.
• Average of the Laspeyres and Paasche index.
• Preferred because new goods are invented while others become obsolete —making early or recent prices inaccurate.
• Can be applied on a year-by-year basis if we compute real GDP each year.

Price Indexes and Inflation

• Recall the formula for nominal GDP:
• The GDP deflator is the price level that satisfies the equation.
• We could compute this formula for two different years to calculate a price change.
• We could also use the following math trick:
• The inflation rate is the percentage change in the price level.

Using Chain-Weighted Data

• Main reason for using chain-weighted data:
• Prices of computers rapidly changing in 1990s.