Real GDP vs Nominal GDP

Although the size of an economic system may vary from a small business to an entire economy of a country, the basic factors taken into consideration for performance evaluation remain the same. Just like the performance of any business is evaluated by the total value of sales made by it in a financial year or a business quarter, the performance of a country's economy is evaluated using the concept of Gross Domestic Product (GDP). There are two types of GDP evaluated, which vary in their method of calculation. They are known as Real GDP and Nominal GDP.

About Gross Domestic Product (GDP)

For those of you who are new to the concept of GDP, often used in economics as a performance evaluation parameter for an economy, let me define GDP, right at the start. The Gross Domestic Product is the total value of the products, as well as services offered in an economy, during one financial year, according to current or past market prices.

Consider the economy to be one singular business unit, combining all kinds of services and production units together. The valuation of the total sales and services offered by this business unit is the GDP. If you are curious about what is GDP per capita, know that it is the GDP value divided by the total population number of the country. Let us see the difference between nominal GDP and real GDP, which are two of its prime types.

Real GDP Vs Nominal GDP Comparison

GDP could be calculated by either evaluating the expenditures made by the economy or the income earned by the constituents of the economy to calculate GDP. Whatever be the method, the most important factor of consideration is the market prices used for valuing goods and services. That is the point where real GDP and nominal GDP differ.

Basic Differences
Let us first see what is nominal GDP first. It is the GDP calculated by valuing the goods and services produced by the country in a financial year according to the market prices prevalent in that year. The market prices may have inflated in the current year compared to the last year. This fact has a large impact on the real GDP calculation.

Now when I define what is real GDP, the difference will be clear. Real GDP is calculated by evaluating the prices of the goods and services, according to market prices of any previous year, which is mostly termed as the base year for calculation. For example, if real GDP for year 2010 is to be calculated, the base year might be 2008. In that case, the real GDP will be calculated according to market price of 2008.

Difference in Calculation
How does the calculation of GDP differ between the two? The only difference in calculation arises in the market prices variable. While real GDP will take the prices of past years into consideration, the nominal GDP will take current prices into consideration. Thus real GDP can be adjusted for inflation or deflation in market prices which may have occurred during the period between current financial year and past base year used for calculation.

Real GDP per capita represents the change in GDP, with respect to market price in some past year, while nominal GDP reflects the economy's productivity in the current year, according to latest market prices. As discussed before, while the former is adjusted for inflation, the latter isn't. That's the gist of the difference between real GPD and nominal GDP.