Definition
Real: The term ‘real’ refers to economic measures that have been adjusted for the effects of inflation. By making these adjustments, it provides a more accurate reflection of an individual’s or economy’s true purchasing power. Real values are crucial for comparing data across different time periods since they strip out the distorting effects of inflation.
Examples
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Real GDP: Real Gross Domestic Product accounts for inflation and reflects the true economic output of a country. Unlike nominal GDP, which can increase due to rising prices, real GDP provides a clearer picture of economic growth.
Example: If a country had a nominal GDP of $1 trillion in Year 1 and $1.2 trillion in Year 2, but inflation was 10%, the real GDP increase would be less than 20%.
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Real Interest Rate: Real interest rate is the nominal interest rate adjusted for inflation. It signifies the actual earning capacity of interest.
Example: If the nominal interest rate on a savings account is 5%, and inflation is 2%, the real interest rate would be approximately 3%.
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Real Wages: These are wages that have been adjusted for inflation. They reflect the actual purchasing power of the earnings.
Example: If an employee’s nominal wage increases from $50,000 to $52,000 per year but inflation is 4%, the real wage increase is less than $2,000.
Frequently Asked Questions (FAQ)
Q1: Why is it important to use real values in economics?
A1: Real values provide a more accurate measure of economic well-being over time by removing the effects of inflation, allowing for more meaningful comparisons between different time periods.
Q2: How is real GDP calculated?
A2: Real GDP is calculated by adjusting nominal GDP for the effects of inflation using a price index, such as the GDP deflator.
Q3: What is the difference between nominal and real interest rates?
A3: Nominal interest rates are the stated rates of return that do not account for inflation. Real interest rates, however, are adjusted for inflation, providing a measure of actual purchasing power.
Related Terms
- Nominal: Refers to economic values that are measured in current prices without adjustments for inflation.
- Inflation: The rate at which the general level of prices for goods and services rises, eroding purchasing power.
- Purchasing Power: The value of a currency expressed in terms of the amount of goods or services that one unit of money can buy.
- Gross Domestic Product (GDP): A measure of the total economic output of a country.
- Price Index: A statistical measure that examines the weighted average of prices of a basket of consumer goods and services.
Online Resources
- Investopedia: Real vs. Nominal
- Federal Reserve: Inflation Adjustment Basics
- The World Bank: Real GDP per Capita
Suggested Books for Further Studies
- Economics by Paul Samuelson and William Nordhaus
- Macroeconomics by N. Gregory Mankiw
- Principles of Economics by Karl E. Case and Ray C. Fair
Fundamentals of Real: Economics Basics Quiz
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