What is the difference between nominal GDP and real GDP?

The distinction between nominal GDP and real GDP is crucial for understanding the economy's performance over time. Nominal GDP represents the total value of all goods and services produced within a country's borders in a given year, measured using current market prices. This means it does not account for changes in price levels due to inflation or deflation; thus, nominal GDP can increase simply because prices have risen.

In contrast, real GDP adjusts nominal GDP for inflation, providing a more accurate reflection of an economy's size and how it is growing over time. By using constant prices from a base year to measure economic output, real GDP allows for an assessment of an economy's performance without the distortion caused by changing price levels. This makes real GDP a more reliable indicator for assessing growth trends and making comparisons over different time periods.

Understanding this difference helps economists and policymakers evaluate whether an economy is genuinely growing or if observed changes in GDP are merely the result of inflation.