The term “real gross domestic product,” which is a type of GDP, is one of the most widely circulated terms in economic and political circles, and some may confuse real and nominal GDP, so there is a need to clarify what is meant by them and the importance of calculating GDP. The real GDP and its real effects on society are explained, in addition to the method of its calculation. This article will shed light on the concept of real GDP, the importance of its measurement, how it is calculated, the preference for its use when comparing, and the difficulties facing its measurement.
What is the real GDP?
Real Gross Domestic Product (Real GDP) means the measure that reflects the value of all goods and services produced by the economy in a given year, expressed at base-year prices, taking into account the effects of inflation or deflation when measuring economic output.
Real GDP provides a more realistic assessment of growth than nominal GDP, as when it is not used, a country may appear to have produced more simply by raising prices.
Terms referring to real GDP
- There are many terms that refer to real GDP, and they are as follows:
- Constant-price GDP.
- Inflation-corrected gross domestic product
- Constant dollar GDP.
How is real GDP calculated?
The process of calculating the real gross domestic product is a complex one, due to the difficulty of evaluating and calculating everything that is produced in the economy in a way that allows entering data into the equation. However, an equation has been developed that tries to present the real gross domestic product in the best way, and this equation depends on dividing the nominal GDP by the GDP deflator.
The GDP deflator is a measure of inflation from the base year, so nominal GDP is divided by the deflator to remove the effect of inflation.
Why is it important to measure real GDP?
Many economists, citizens, and decision-makers see real GDP growth as an important measure of national success and economic stability. Therefore, some may use the terms “achieving economic growth and achieving growth in GDP as synonyms. It is worth noting that countries with a large real GDP will have a large amount of goods and services that are produced in the country, and the standard of living will be better and the welfare will be higher.
In addition, the real GDP helps decision-makers and officials of international central banks to understand and analyze the states of the economy in terms of expansion or contraction and also helps in defining important plans to confront these cases in addition to cases of economic recession and inflation, to which the real GDP contributes in its calculation. For these reasons, real GDP is a good and preferred measure that measures changes in production between different time periods.
Difficulties in measuring real GDP
The presence of part of the informal economic activities in the economy causes the real GDP to be less than the actual produced reality, in addition to the presence of activities that are difficult to evaluate, such as household activities and services that are provided on a family level, so they are not counted in the real GDP even though they add a type of production in society and affect its well-being.
Reasons for preferring real GDP over nominal
When comparing the GDP of different countries and societies, it is preferable to use the real GDP over the nominal GDP for several reasons, the most important of which are the following:
- The real GDP expresses an actual increase in the production of goods and services, as it separates the effect of inflation from it, in contrast to the nominal GDP, whose value may increase only with an increase in prices without an increase in the production of goods and services in the economy.
- Because the real GDP depends on the term “base year” for its measurement, this gives it preference when making comparisons of production periodically and over different periods.
- Real GDP reflects economic growth more accurately than nominal GDP, which enables comparisons between countries in terms of economic performance.
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