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Creating the National Accounts
The national accounts, like modern macroeco- sioned Simon Kuznets, a young Russian - born of the economy’s performance. The federal
nomics, owe their creation to the Great Depres- economist, to develop a set of national income government began issuing estimates of gross
sion. As the economy plunged into depression, accounts. (Kuznets later won the Nobel Prize in domestic product and gross national product
government officials found their ability to re- Economics for his work.) The first version of in 1942.
spond crippled not only by the lack of adequate these accounts was presented to Congress in In January 2000, in its publication Survey
economic theories but also by the lack of ade- 1937 and in a research report titled National In- of Current Business, the Department of
quate information. All they had were scattered come, 1929–35. Commerce ran an article titled “GDP: One
statistics: railroad freight car loadings, stock Kuznets’s initial estimates fell short of the of the Great Inventions of the 20th Century.”
prices, and incomplete indexes of industrial pro- full modern set of accounts because they fo- This may seem a bit over the top, but
duction. They could only guess at what was cused on income, not production. The push national income accounting, invented in
happening to the economy as a whole. to complete the national accounts came the United States, has since become a tool of
In response to this perceived lack of informa- during World War II, when policy makers were economic analysis and policy making around
tion, the Department of Commerce commis- in even more need of comprehensive measures the world.

The moral of this story is that the commonly cited GDP number is an interesting
and useful statistic, one that provides a good way to compare the size of different Aggregate output is the total quantity of
final goods and services produced within an
economies, but it’s not a good measure of the economy’s growth over time. GDP can economy.
grow because the economy grows, but it can also grow simply because of inflation.
Even if an economy’s output doesn’t change, GDP will go up if the prices of the goods
and services the economy produces increase. Likewise, GDP can fall either because the
economy is producing less or because prices have fallen.
To measure the economy’s growth with accuracy, we need a measure of aggregate
output: the total quantity of final goods and services the economy produces. The meas-
ure that is used for this purpose is known as real GDP. By tracking real GDP over time,
we avoid the problem of changes in prices distorting the value of changes in production
over time. Let’s look first at how real GDP is calculated and then at what it means.

Calculating Real GDP

To understand how real GDP is calculated, imagine an economy in which only two
goods, apples and oranges, are produced and in which both goods are sold only to final
consumers. The outputs and prices of the two fruits for two consecutive years are
shown in Table 11.1.

table 11.1

Calculating GDP and Real GDP in a Simple Economy
Year 1 Year 2
Quantity of apples (billions) 2,000 2,200
Price of an apple $0.25 $0.30
Quantity of oranges (billions) 1,000 1,200
Price of an orange $0.50 $0.70
GDP (billions of dollars) $1,000 $1,500
Real GDP (billions of year 1 dollars) $1,000 $1,150

module 11 Interpreting Real Gross Domestic Product 113