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What is 'Real Gross Domestic Product (GDP)'

Real gross domestic product (GDP) is an inflation-adjusted measure that reflects the value of all goods and services produced by an economy in a given year, expressed in base-year prices, and is often referred to as "constant-price," "inflation-corrected" GDP or "constant dollar GDP." Unlike nominal GDP, real GDP can account for changes in price level and provide a more accurate figure of economic growth.

BREAKING DOWN 'Real Gross Domestic Product (GDP)'

Real gross domestic product is a macroeconomic assessment that measures the value of the goods and services produced by an economic entity in a specific period, adjusted for inflation. GDP is derived by valuing all production by an economy using a specific year's average prices. Governments use GDP as a comparison tool to analyze an economy's purchasing power and growth over time. This is done by looking at the economic output of two periods and valuing each period with the same average prices and comparing the two together.

Real GDP Versus Nominal GDP

Nominal GDP is a macroeconomic assessment that includes current prices in its measure. The main differentiating factor between nominal GDP and GDP is nominal GDP includes inflation and is therefore normally higher than GDP. Since GDP is calculated using a base year and does not include inflation, it represents an economy's nominal GDP if that economy did not realize any price changes when compared to the base year.

For example, say that in 2004, nominal GDP was $200 billion. However, due to an increase in the level of prices from the base year 2000 to 2004, GDP is $170 billion. The lower real GDP reflects the price changes while nominal GDP does not.

Calculating Real GDP and Measuring Economic Production and Services

GDP is derived as nominal GDP over a deflating number (R): (nominal GDP) / (R). The deflator is the measurement of inflation since the base year; dividing the nominal GDP number by the deflator removes any effects of inflation. For example, if an economy's prices have increased by 1% since the base year, the deflating number is 1.01. If nominal GDP was $1 million, GDP is calculated as $1,000,000 / 1.01, or $990,099.

GDP only counts the final production of an economy and measures the output of every good produced by quarter. Therefore, only finished products like a bicycle are counted toward GDP, and the manufacturing production of tires, frames and other bike components are not counted.

GDP also includes services as part of its measurement. However, services are sometimes hard to account for, and GDP omits such services as elderly care, childcare and various volunteer work. This factor has led some economists to believe GDP is not a truly accurate measure of economic growth.

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