How to calculate GDP growth rate in India: Nominal GDP, & Real GDP

How to calculate GDP growth rate in India: Nominal GDP, & Real GDP

♦What is GDP?

  • GDP stands for Gross Domestic Product. GDP is the sum total of all goods and services produced in a country, expressed in money terms, during a particular period, generally a year.
  • It is a very important macroeconomic parameter both as an estimation of the capacity of the Economy as also its efficiency. GDP which grows consistently, have a positive effect on health care, literacy, poverty, employment etc., in the Economy. Hence, to understand the Economic well-being of any State, the concept of GDP is critical.

♦How to calculate GDP?

Following equation is used to calculate GDP:

  • GDP=Private consumption+ gross investment + government investment + government spending + (exports – imports)
  • The GDP deflator remains extremely important because it measures price inflation.
  • It is calculated by dividing Nominal GDP by Real GDP and then multiplying by 100. (Based on the formula).

In simple words

Three methods are used to calculate GDP

  • the supply or production method,
  • the income method, and
  • the demand or expenditure method

and according to definition the value of GDP should be identical, irrespective of the method used.

This is because the income of one person or entity is spending or expenditure of another person.

For example, what households spend in buying provisions at a local store is the income of a shop owner. Similarly, an employee’s salary is what his/her company spends.

How is GDP calculated using the supply or production method?

  • In the supply or production method, country’s GDP is given by the monetary value of all products and services generated across the economy.

How is GDP calculated using the income method?

  • In the income method, GDP of the country is given by adding the earnings of all the people and the income of capital employed.

How is it calculated using the demand or expenditure method?

  • The government spends money on welfare measures and salaries of its employees. Industry incurs expenditure on investment and wages. Consumers spend money on buying goods and services, or saving. In the demand or expenditure method, GDP of the country is given by the sum total of spending made by all entities across the economy.

Real GDP

  • One way is to keep the price fixed in a base year and calculate the GDP. This gives us what is called real GDP, which reflects the change in the quantity of goods and services from the fixed price in the base year. In the case of the Indian economy, the base year is 2011-12.
  • A decision to change the GDP calculation method was taken during the UPA-II years. The NDA government launched the first set of data, giving out levels of GDP and growth rates from 2011-12.

Nominal GDP

  • When GDP is calculated using current market prices, it is called nominal GDP. Real GDP is more reflective of economic growth from a government perspective and is good for comparison. Nominal GDP is what most directly affects citizens. The ratio of nominal GDP to real GDP is called the cost inflation index (CII).
  • The Sales Price Index (WPI) and the Consumer Price Index (CPI) are derived from IIC data to present a more realistic picture of inflation as it affects ordinary people. Most of these indices are obtained when the GDP data are compiled and are closely linked.

What is real and nominal GDP?

  • Real GDP is GDP adjusted for inflation. Nominal GDP is calculated at current prices unadjusted for inflation.

What is a “base year”?

  • The base year of the national accounts is chosen to enable inter-year comparisons. It gives an idea about changes in purchasing power and allows calculation of inflation-adjusted growth estimates.
  • The new series has changed the base to 2011-12 from 2004-05. Every national accounts dataset gives GDP calculations for two years: 2011-12 and the current year.

Sectoral Breakup of GDP

The Sectoral breakup of GDP is as follows: –

  • Service: 30%
  • Industry: 29%
  • Agriculture: 17%

What are the main differences in the old and new methods to calculate GDP?

  • In the old method, the main measure to calculate manufacturing and trading activity was the index of industrial production (IIP) or factory output. The drawback was, that this method did not give an idea about value and only counted volume. For example, in the old method, the number of cars produced in the plant was counted, as opposed to the cars’ value that the plant rolled out.

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