Nominal gross domestic product (GDP) is a measurement of economic output that doesn't adjust for inflation. GDP measures everything produced by all the people and companies within a country's borders. When you hear reports of a country’s GDP that don’t specify the type, it's likely to be nominal GDP.
When the Bureau of Economic Analysis (BEA) reports quarterly GDP, it presents it as an annualized rate. This tells you that the economy would produce that amount for the year if it kept going at the same rate. Each month, the agency revises thequarterly estimate as it receives updated data.
By the Numbers
- Nominal GDP, also known as current-dollar GDP,was $25.66 trillion in the third quarter of 2022. That was an annualized 6.7% more than the previous quarter.
- Real GDP grew 2.6% in the same time frame.
- To read more on economists' reactions to the most recent GDP numbers, see our coverage of the latest report from the Bureau of Economic Analysis.
What Is and Isn't Included in Nominal GDP
You might be surprised to learn nominal GDP doesn't include the sale of goods. Instead, nominal GDP tracks inventory. For example, the BEA counts a new car when it's shipped to the dealer. The BEA records it as an addition to inventory, which increases GDP. When the dealer sells it, then the BEA records it as a subtraction to inventory.That reduces GDP until the factory builds another car to replace it.
Nominal GDP includes both goods and services. When measuring goods, it only counts final production. The BEA does not count the parts manufactured to make the product. For example, it counts a truck once it's manufactured. It doesn't count parts such as tires, axles, orseats.
Nominal GDP does not include the full cost of production. It neglects external costs like air and waterpollution, nuclear waste, anddeforestation. These costs are created by production but are borne by society at large. The only way to include those costs is through a Pigouvian tax such as a carbon tax.
Services are a critical component of GDP. Examples include haircuts, financial advice, and babysitting. But the BEA doesn't count some services that aretoo difficult for it to measure. These include unpaid child care, elder care, or housework. It doesn't measure volunteer work for charities. The BEA doesn't include paid work that's illegal, also called the shadow orblack economy.
How To Calculate Nominal GDP
The formula for nominal GDP is:
Note
C + I + G + (X-M)
C = Personal Consumption Expenditures
I = Business Investment
G = Government Spending
X = Exports
M = Imports
These are also the components of GDP. They tell you how much each industry contributes to the economy.
Nominal Versus Real GDP
Nominal GDP differs from real GDP in that it does not account for the effects of inflation ordeflation. As a result, nominal GDP could inaccurately report true growth when compared year to year.
The U.S.Bureau of Economic Analysis reports both real and nominal GDP.It calculates realU.S. GDPas an annual ratefrom a designated base year.You can see the difference between real and nominal GDP when you look at them by year.
You must use nominal GDP when your other variables don't exclude for inflation. For example, if you are comparingdebt to GDP, you've got to use nominalGDP since a country's debt is also nominal. TheU.S. debt to nominalGDP remained below 100% until 2014. Since then, the debt ratio has increased each year.
When To Use Real GDP Instead of Nominal GDP
You must use real GDP when you are comparing the economic output from one year to the next, or between countries.
Real GDP tells you if the economy is growing faster than the quarter or year before. This reveals where the economy is in thebusiness cycle.Declining GDP growth rates signal a contraction.If the current GDP is negative, the economy is in a recession. Theideal GDP growth rateis between 2% to 3%.
TheFederal Reservereviews the GDP growth rate before it changes thefed funds rate. It will raise the rate when growth is too fast.When that happens, consider a fixed-rate mortgage to lock in low-interest rates.
The Fed lowers rates when growth is below the ideal rate. That's when you should opt for an adjustable-rate mortgage. It will allow you to benefit from future lower rates. Investors also use the GDP growth rate to decide how to adjust theasset allocationin their portfolios.
You must use real GDP to compare GDP by country. But, to compensate for the differentcost of livingbetween countries, you must also usepurchasing power parity. Countries with good growth rates attract more investors forstocks, bonds, and sovereign debt.
