Nominal Gross Domestic Product - Explained
What is Nominal GDP?
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Table of ContentsWhat is Nominal Gross Domestic Product?How to Calculate Nominal GDP?Effects of Inflation on Nominal GDPAdjusting Nominal GDPAcademic Research on Nominal Gross Domestic Product
What is Nominal Gross Domestic Product?
Nominal gross domestic product otherwise called nominal GDP refers to the GDP of a country calculated at the current market prices. This means that all goods and services produced in a country at a particular time are evaluated at their current market prices. Measuring a country's GDP at the current market prices entails factoring all the changes in market prices, as well as other market indices. The real GDP of a country is not the same as its nominal GDP. The nominal GDP is otherwise canned the current dollar GDP.
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How to Calculate Nominal GDP?
In some definitions, the nominal gross domestic product of a country is its real GDP when changes in prices due to inflation and other market factors are accounted for. The Nominal GDP is accounted for as the market value of goods and services produced in an economy at a specific time, unadjusted for inflation. There are three approaches to measure nominal GDP, these are;
- The expenditure approach: This approach entails adding up the sales or purchases of finished goods and services for a particular year to measure the nominal GDP.
- The income approach: The addition of all income earned by companies and households (received as wages, profit, rent and interest as the case may be) for a single year.
- The production approach: This approach entails calculating all productions for a single year and deducting actual sales from output.
Effects of Inflation on Nominal GDP
There are some significant impacts that inflation has on the nominal GDP of a country. Inflation affects the economy negatively in that the prices of finished goods and services increase making it difficult for consumers to purchase the finished products. Consumers and investors experience a decline in purchasing power as a result of inflationary outcomes. During inflation, consumers are required to spend more money for the purchase of goods and services as against the amount the spend before inflation occur. Inflation results in an overall increase in the price of goods and services. If prices of goods rise by 5% and the income an individual earns also rise by 5%, there is no change in the real income of the individual.
Adjusting Nominal GDP
For economists and data analysts, it is important to distinguish real gross domestic product from the nominal GDP, since both GDPs thrive on economic data. When considering the extraction of a real economic data from the nominal GDP, it is crucial to factor in a price index. There are diverse price indices that can be used when drawing out actual economic data from the nominal GDP, the common ones are;
- Consumer Price Index (CPI): This uses the prices of market basket comprising of eight categories of consumer goods and services to extract actual economic data form the nominal GDP.
- GDP deflator
- Producer Price index (PPI)
It is important that the appropriate price index is used when adjusting nominal GDP, it helps to ensure that inflation is not distorted.
Academic Research on Nominal Gross Domestic Product