Question

Meera and Shahid are two classmates, who were comparing India's economic growth over the years. Meera referred to the increase in Gross Domestic Product (GDP) at current prices prevailing in market, while Shahid insisted on considering GDP after adjusting for inflation. Their debate on which of the two measures gives a true picture of people’s well-being, remained inconclusive. Considering the above mentioned situation, elaborate with valid reason, which of the two variables is considered a better indicator of welfare and why?

Hint:

Real GDP, adjusted for inflation, is a more accurate measure of economic growth and welfare as it reflects the actual increase in goods and services, rather than just price increases.

Answer 1

Step 1: Define GDP and its two measures.
GDP at current prices, also known as nominal GDP, measures the total market value of goods and services produced in an economy, using the prices that are currently prevailing in the market. However, it does not account for inflation.
GDP at constant prices, or real GDP, adjusts the nominal GDP for inflation, providing a more accurate representation of an economy's true growth over time.
Step 2: Which measure is better for welfare?}
Real GDP (GDP adjusted for inflation) is considered a better indicator of welfare as it reflects the actual growth in the economy without being distorted by price increases. It gives a more realistic view of the increase in the standard of living and purchasing power over time.
Step 3: Conclusion.
You should guide Meera and Shahid that while nominal GDP shows the market value, real GDP provides a clearer picture of people's well-being by eliminating the effects of inflation.