Question

which of the following statements is/are correct?

a) The GDP price deflator measures the changes in prices for all of the goods and services produced in an economy.

b) The effect of a price change on GDP is due to inflation.

1. a only
2. b only
3. Both a and b 
4. Neither a nor b

Answer 1

Correct Answer - Option 3 : Both a and b 

The correct answer is Both a and b.

• The GDP deflator is a measure of inflation.
• It is the ratio of the value of goods and services an economy produces in a particular year at current prices to that of prices that prevailed during the base year.
  • Base year:
    • The base year of the national accounts is chosen to measure inter-year comparisons.
    • It gives an idea of inflation and real growth in GDP.
    • The present base year for measuring GDP is 2011-12
• \(GDP Deflator = (Nominal GDP/ Real GDP)\)
• The ratio of nominal to real GDP is a well-known index of prices. This is called GDP Deflator.
• Example:
  • Base year = 2011 - 12
  • GDP in 2011-12 (Real GDP) = 100
  • GDP in 2019-20 (Nominal GDP) = 150
  • GDP deflator = 150/100 = 1.5
• This implies that the GDP in 2019-20 is 1.5 times the GDP in 2011-12, not necessarily because of an increase in production but Inflation. Hence, Statement a and b is correct.

• Inflation :
  • Inflation is a general increase in the prices of goods and services in an economy, which also suggests a decrease in the purchasing power of the currency.
  • Inflation can also be measure by CPI and WPI.
  • A consumer price index (CPI) measures changes over time in the general level of prices of goods and services that households acquire for the purpose of consumption.
  • The wholesale price index (WPI) doesn't include service sector. There are only goods whose prices are captured at the wholesale/producer level.
  • Currently, RBI  has adopted CPI as a key measure of inflation.