Page 154 - Krugmans Economics for AP Text Book_Neat

What you will learn
in this Module:

• The difference between real Module 11
GDP and nominal GDP
• Why real GDP is the
appropriate measure of real Interpreting Real Gross
economic activity
Domestic Product

What GDP Tells Us

Now we’ve seen the various ways that gross domestic product is calculated. But what
does the measurement of GDP tell us?
The most important use of GDP is as a measure of the size of the economy, provid-
ing us a scale against which to compare the economic performance of other years or
other countries. For example, in 2009, as we’ve seen, U.S. GDP was $14,259 billion,
Japan’s GDP was $5,049 billion, and the combined GDP of the 25 countries that
make up the European Union was $16,191 billion. This comparison tells us
that Japan, although it has the world’s second -largest national economy, car-
ries considerably less economic weight than does the United States. When
taken in aggregate, Europe’s economy is larger than the U.S. economy.
Still, one must be careful when using GDP numbers, especially when
U.S. Department of Commerce $7,085 billion in 1994 and had approximately doubled to $14,259 billion by
making comparisons over time. That’s because part of the increase in the
value of GDP over time represents increases in the prices of goods and serv-
ices rather than an increase in output. For example, U.S. GDP was

2009. But U.S. production didn’t actually double over that period. To measure
actual changes in aggregate output, we need a modified version of GDP that is ad-
justed for price changes, known as real GDP. We’ll see how real GDP is calculated next.

Real GDP: A Measure of Aggregate Output

At the beginning of this section we described the economic troubles that afflicted Por-
tugal in 1975. While the economy wasn’t in as bad shape as many people thought, out-
put was declining. Strange to say, however, GDP was up. In fact, between 1974 and
1975 Portugal’s GDP as measured in escudos (the national currency at the time, now
replaced by the euro) rose 11 percent.
How was that possible? The answer is that Portugal had serious inflation. As a re-
sult, the escudo value of GDP rose even though output fell.

112 section 3 Measurement of Economic Performance