Review from Friday The Income and Expenditure Approaches National / Domestic Income Assignments 2.1 and 2.2

GDP Analysis Continued The Circular Flow Model Nominal versus Real GDP

The Circular Flow Model Revisited

Nominal vs. Real GDP GDP is a measure of the market or money value of all final goods and services produced by the economy. Since market value is measured by money, it is hard to compare GDP from year to year if the value of money changes (inflation or deflation). To solve this problem, we deflate GDP when prices rise and inflate GDP when prices fall.

Nominal vs. Real GDP Nominal GDP (unadjusted for inflation): Refers to GDP based on the prices of a product in the year it was produced. Not inflated or deflated. Real GDP (Adjusted for inflation): Refers to a GDP that has been adjusted for inflation or deflation. Accurately shows the increase or decrease in production for comparison, and measured in relation to the price index of a given year.

Price Index, Year 2 = (3.00 / 2.50 x 100) = 120 A Price Index A Price Index is a measure of the price of a collection of goods (market basket) in a certain year as compared to the price of the similar "market basket" in a reference year. Price Index in a certain yr = (Price of basket in specific yr / Price of same basket in base yr) x 100 If the price of Monkey’s Choice Bananas in the Base Year is $2.50 Price Index, Year 2 = (3.00 / 2.50 x 100) = 120

Dividing Nominal GDP by Price Index Real GDP = Nominal GDP / price index (in hundredths). 2000 Nominal GDP (1038.8 B) / 2000 Price Index of 112.7 or 1.127= Real GDP of 921.74 B

Assignment 2.3 Page 150, Key Questions 11 and 12.