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1)    Explain what is the difference between real and nominal GDP? 2 ) and explain why do...

1)    Explain what is the difference between real and nominal GDP?

2 ) and explain why do economists need to make this distinction?

3)   Is the CPI a biased measure of the inflation rate? Explain your answer.

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Answer #1

a) Real GDP is the GDP at a base price i.e. the price level of the base year. It is adjusted for the inflation. Nominal GDP on the other hand, is the GDP which is at the current price and not adjusted for the inflation. It includes the price increase in the current year.

b) Economist need to make a distinction because it will lead to an increase in the GDP even if the real output has not increased. The ideal way to measure the increase in the GDP is to measure it at the base rate that will give a correct idea about the increase in the price and actual increase in the output.

c) Yes, CPI doesn't account for the change in quality and the substitution effect in the market. The actual increase in the price is much lower than anticipated by the CPI.  

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