What is the difference between real and nominal GDP? To understand the answer to this question, we must first know what GDP is. GDP is the total value of goods and services produced by a country in a given time period. GDP is an important indicator used to measure the economic size and welfare level of a country.
However, we should also know that GDP alone is not enough. Because GDP also reflects changes in prices of goods and services. For example, even if the quantity of goods and services produced by a country in a year stays the same, if prices increase, so will GDP. In this case, the increase in GDP is not a real growth, but only an increase due to inflation.
This is where the concepts of real and nominal GDP come into play. Nominal GDP is the GDP in which goods and services are valued at current prices. Real GDP, on the other hand, is the GDP in which goods and services are valued at fixed prices. Fixed prices refer to prices for a particular base year. Because real GDP is adjusted for price changes, it better reflects real economic growth.
To calculate the difference between real and nominal GDP, the following formula is used:
Real GDP = Nominal GDP / Price Index
The price index is a measure of the average price level of goods and services. The most widely used indicator in the price index is the CPI (Consumer Price Index). CPI measures the price change of the basket of goods and services that consumers buy.
As an example, let's assume that Turkey's nominal GDP is 5.1 trillion TL and its real GDP is 4.5 trillion TL in 2020. We also know that the CPI in 2020 is 14.6%. In this case, we can calculate the difference between real and nominal GDP as follows:
Real GDP = Nominal GDP / Price Index
Real GDP = 5.1 trillion TL / (1 + 0.146)
Real GDP = 4.5 trillion TL
As this example shows, nominal GDP is higher than real GDP. This indicates that prices have increased. Real GDP, on the other hand, shows real economic growth by taking into account price increases.
As a result, the difference between real and nominal GDP reveals the effect of price changes in the economy. By comparing real and nominal GDP, we can better assess a country's economic performance.