ECONOMIC GROWTH- MEASURES:
GDP: Total value of all new goods and services produced by the economy in a given period of time (such
as a year/ quarter). UK 2015: 1.75 trillion pounds.
o Long Run: A year- calculate/ study LR growth
o Short Run: A quarter- economic fluctuation
o Y=C + I + G + NX
Real vs Nominal GDP
- Difference in Real GDP over time is affected only by quantities (of output produced). Prices (base
year) x Quantity. The value of all goods and services produced in an economy in a given period of
time, calculated using the prices of a base year.
- Difference in Nominal GDP over time is affected by both prices and quantities. The value of all goods
and services produced in an economy in a given period of time, calculated using current prices
- Implications
o When there is inflation, Nominal GDP is higher than Real GDP; vice versa if there is deflation.
o The purpose of real GDP is to correct for price differences overtime by using prices from a base
year
PPP vs Market Exchange Rate GDP
- PPP GDP is calculated using the prices of a base country. Difference between GDP among countries
is affected only by quantities.
o The purpose of real GDP is to correct for price differences over space by using prices from a
base country
o Limitations: The same good is assumed to be valued equally in all countries, when this may not
always be the case.
- Market Exchange Rate GDP is calculated using local prices, and are compared across countries
using market exchange rates. Difference between GDP among countries is affected by exchange rate
factors.
o Currency exchange rates fluctuate from day to day: this does not mean that the GDP of the
country really undergoes such fluctuation.
o Currency may be overvalued or undervalued. Under perfect conditions where everything is
“accurately” valued, the ratio of prices of the same good between countries should equal the
exchange rate. If the exchange rate between A and B is higher than the ratio of Pa and Pb, the
currency of A is undervalued. E.g. Exchange rate 5 RMB for 1 USD, but it costs 4 RMB to buy 1
USD worth of goods (exchanging 1 USD should yield only 4 RMB). Vice versa.
Possible due to limited opportunities for arbitrage
o Goods in poorer countries may be cheaper due to cheaper labour/ raw materials etc., even
though the value of the good to consumers is the same.
o Implications:
Market Exchange GDP of poor countries are lower than PPP GDP of poor countries since
prices are comparatively lower in poor countries. Using Market Exchange GDP may lead to
underestimation of material welfare in these countries.
- GDP per capita: each person’s ‘slice of the pie’
o Limitations (imperfect measure of welfare):
GDP: Total value of all new goods and services produced by the economy in a given period of time (such
as a year/ quarter). UK 2015: 1.75 trillion pounds.
o Long Run: A year- calculate/ study LR growth
o Short Run: A quarter- economic fluctuation
o Y=C + I + G + NX
Real vs Nominal GDP
- Difference in Real GDP over time is affected only by quantities (of output produced). Prices (base
year) x Quantity. The value of all goods and services produced in an economy in a given period of
time, calculated using the prices of a base year.
- Difference in Nominal GDP over time is affected by both prices and quantities. The value of all goods
and services produced in an economy in a given period of time, calculated using current prices
- Implications
o When there is inflation, Nominal GDP is higher than Real GDP; vice versa if there is deflation.
o The purpose of real GDP is to correct for price differences overtime by using prices from a base
year
PPP vs Market Exchange Rate GDP
- PPP GDP is calculated using the prices of a base country. Difference between GDP among countries
is affected only by quantities.
o The purpose of real GDP is to correct for price differences over space by using prices from a
base country
o Limitations: The same good is assumed to be valued equally in all countries, when this may not
always be the case.
- Market Exchange Rate GDP is calculated using local prices, and are compared across countries
using market exchange rates. Difference between GDP among countries is affected by exchange rate
factors.
o Currency exchange rates fluctuate from day to day: this does not mean that the GDP of the
country really undergoes such fluctuation.
o Currency may be overvalued or undervalued. Under perfect conditions where everything is
“accurately” valued, the ratio of prices of the same good between countries should equal the
exchange rate. If the exchange rate between A and B is higher than the ratio of Pa and Pb, the
currency of A is undervalued. E.g. Exchange rate 5 RMB for 1 USD, but it costs 4 RMB to buy 1
USD worth of goods (exchanging 1 USD should yield only 4 RMB). Vice versa.
Possible due to limited opportunities for arbitrage
o Goods in poorer countries may be cheaper due to cheaper labour/ raw materials etc., even
though the value of the good to consumers is the same.
o Implications:
Market Exchange GDP of poor countries are lower than PPP GDP of poor countries since
prices are comparatively lower in poor countries. Using Market Exchange GDP may lead to
underestimation of material welfare in these countries.
- GDP per capita: each person’s ‘slice of the pie’
o Limitations (imperfect measure of welfare):
