Nominal GDP

Last Updated :

21 Aug, 2024

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Table Of Contents

What is Nominal GDP?

Nominal GDP refers to the total value of the market products and services that an economy produces, and which remains unaffected by the price changes caused due to the continuous fluctuations recorded in the market over a period. In short, the current market prices taken into consideration constitute this GDP.

Nominal GDP differs from real GDP, which calculates the total value of the products and services an economy produces or provides after studying and considering the effects of market fluctuations on product prices. Though the former offers a clear view of the total output of an economy, the figures greatly differ when inflation, deflation, or price changes due to other factors are considered to derive the latter.

What is Nominal GDP?

Nominal GDP is the calculation of the annual economic production of the entire country's population at the current market price of goods.
It differs from real GDP, which is calculated considering the price fluctuations driven by factors like inflation, deflation, etc.
Price fluctuations affect an economy greatly, not considering the effect of which might not reflect the correct GDP figures.
As the current market price is easy to know and the quantity produced during the year can be gathered easily, nominal GDP is easy to calculate.

Nominal GDP Explained

Nominal GDP is the Gross Domestic Product (GDP), defined as the total monetary value of an economy's products, calculated without considering the influence of inflating or deflating market prices. As the current market price is easy to know and the quantity produced during the year can be gathered easily, it is easy to calculate using the nominal GDP equation. Moreover, knowing the current market price and the total quantity of products a country produces during a year helps calculate it without any further complication or calculation.

The nominal gross domestic product of two consecutive years lets us assess the year that has been more productive for the country. However, economists have a different way of decoding the figures. They go deep into the productivity of the country. Hence, they prefer real GDP over nominal, given the final results are obtained after considering the factors that influence the nominal gross domestic product.

Not considering the effects of inflation doesn't provide clarity on an economy's GDP. For example, if one thinks an increase in the nominal GDP value signifies an increase in the overall economy of a nation, it's not always true. As the nominal gross domestic product considers current market prices, the increase might only indicate the increase in the quantity produced or the value of the economy's products.

Equation

The nominal GDP formula varies based on the provided information and suitable approach, depending on the market scenarios:

#1 - The Common Approach

Nominal GDP = Total quantity of products an economy produced in a year * their current market prices

#2 - The Expenditure Approach

GDP = C + I + G + (X – M)

Here,

C = Consumer Spending, which accounts for the expenditure consumers made
I = Investment, signifying the amount businesses spend for improvement and expansion
G = Amount received from the government for yielding the output
X = Export value
M = Import value

#3 - The Income Approach

GDP = w + i +r + p

Here,

w = wages earned for labor
i = interest earned from an investment
r = rent earned on a property
p = profit earned from a venture

#4 - The Deflator Approach

GDP = (Deflator * Real GDP)/100

The GDP deflator tracks the changes in the gross domestic product over a year. It considers a base year in which the nominal and real GDP are equal. Further, it equates the value to 100 to assess the increase or decrease in the GDP of the coming year. For example, if the GDP next to the base year is 120, the deflator tracks a change of 20%.

Calculation Example

Let us consider the following nominal GDP example to check out the calculation:

Country T produced 1000 kilograms of mangoes, 500 lb of coffee, and 300 lb of tea in 2020 at $10/kg, $4/lb, and $2/lb, respectively.

Thus, the nominal gross domestic product calculated for the year calculated as:

GDP (2020) = (quantity of mangoes * current price of it) + (coffee quantity * current price) + (tea quantity * current price)

= (1000*10) + (500*4) + (300*2)

= 10000 + 2000 + 600 = 12,600

On the other hand, Country T produced 1500 kilograms of mangoes, 900 lb of coffee, and 700 lb of tea in 2021 at $12/kg, $6/lb, and $5/lb, respectively.

Thus,

GDP (2021) = (quantity of mangoes * current price of it) + (coffee quantity * current price) + (tea quantity * current price)

= (1500*12) + (900*6) + (700*5)

= 18000 + 5400 + 3500 = 26,900

The calculation above shows how the GDP of 2021 is better than in 2020. However, the exact figures can only be obtained if the effect of market fluctuations is considered on the market price.

Nominal GDP vs PPP

Nominal GDP and Purchasing Power Parity (PPP) are the terms that define how the GDP of an economy is measured, considering currency value.

Nominal GDP accounts for the current market prices. The total value of the goods and products produced in a country is calculated considering the same. On the other hand, PPP defines the measurement of the value of those products with respect to another country's currency.
Suppose the price of a burger in the United States is $3, and the same in India is INR 150. The nominal GDP for the US, in this case, will be $3 and not INR 244.96 (USD 1 = INR = 84.65).
In short, the GDP does not consider the difference in the currency value of any economy.

Frequently Asked Questions (FAQs)

How to convert nominal GDP to real GDP?

Nominal GDP can be converted to real GDP by dividing the former with the GDP deflator. The deflator tracks the changes that occur in the market, affecting the prices of the goods and products produced in an economy. Hence, the real GDP reflects the economic change per the changing market scenarios or prices driven by different factors.

Why is nominal GDP important?

The nominal gross domestic product is important as it reflects a country's product quantity. In addition, the current market prices are considered, which indicates the market's current price trend. In short, when calculated, this GDP lets analysts understand the accurate figures and assess the difference between the total and real gross domestic products.

Why is it important to adjust nominal GDP for inflation?

It is important to adjust the nominal gross domestic product for inflation to ensure the results reflect the real GDP. The former does not reflect a country's real economic growth or retardation. Hence, the real GDP needs to be figured out with respect to rising prices or inflation to understand the actual economic scenario in a nation at specific periods.