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A country's gross domestic product (GDP) is measured by the value of goods and services produced during a defined period of time. The real gross domestic product (real GDP) adjusts that value according to inflation or deflation. This economic tool helps calculate the GDP deflator and the overall monetary value of a country or individual.
GDP is roughly calculated by adding either all of the income or all of the spending of a country. The resulting figure helps to determine the health of the economy, often as compared to the calculation from the previous year. An increase in income, or a decrease in spending, means that the economy is healthier. Real GDP furthers these calculations by accounting for inflation and deflation.
Inflation is the percentage increase in the price of goods or services over the course of a year. Deflation is the opposite decrease of prices or services. Real GDP uses these factors because a comparison of GDP between two years might not be as large if there was a notable inflation or deflation in the second year.
Real GDP is calculated using a base year for comparison. For example, if someone was calculating the real GDP of 2011, they would want to base the calculation on a year with known prices. Calculations for the year 2011 may use 2010 as the base year. The cost of goods and services from 2011 would be multiplied by the known set prices from 2010 to find an average of cost.
Calculated real GDP can be used in a formula to find the GDP deflator. This economic instrument measures the price index for a particular year. GDP for that year is divided by the real GDP for that year, and the result is multiplied by 100 for the GDP deflator. When this calculation is done using a base year as the GDP, the result will simply be zero since the base year GDP and real GDP cancel each other out in the division.
General calculations for this tool calculate the economic worth of a country. Dividing that measurement by the population of the country finds the real GDP per capita. The per capita calculation helps to determine the quality of life that the general population is experiencing within that country. It can also be used to compare and contrast the currency values of two separate countries.