GDP Deflator

Correct answer: B. It adjusts more regularly for changing relative prices and output composition

Explanation: Chain-weighted real GDP links growth rates calculated from successive years, so the weights are updated more frequently than in a fixed, very old base-year system. This allows the measure to reflect changing relative prices, new products and shifts in production composition more realistically. Option B is correct. The method does not set prices to zero, restrict measurement to one good or eliminate nominal GDP.

Correct answer: B. Current prices are 10 percent below the base year

Explanation: The GDP deflator is calculated as nominal GDP divided by real GDP, multiplied by 100. A value of 90 means the current price level is 90 percent of the base-year price level, so it is 10 percent below the base-year level of 100. It says nothing directly about the quantity of real output; therefore option B is correct, while the other options confuse prices with production or misread the index.

Correct answer: C. 122.9

Explanation: The GDP deflator is calculated by dividing nominal GDP by real GDP and multiplying by 100. Substituting the values gives (1,720 ÷ 1,400) × 100 = 122.857..., which rounds to approximately 122.9. This index indicates that the relevant current price level is about 22.9 percent above the base-year level. Hence option C is correct; the other values result from incorrect division or rounding.

Correct answer: B. 10 percent fall

Explanation: The percentage change in the price level must be calculated relative to the initial value, 160, not by merely subtracting the index points. Thus, change = ((144 − 160) / 160) × 100 = −10%. The negative sign indicates a fall, so option B is correct. A 16-point decline is not the same as a 16% decline; the relevant base is the first-year deflator.

Correct answer: B. 5 percent

Explanation: The governing identity is the GDP growth-factor relationship: nominal growth factor = real growth factor × price growth factor. Therefore the exact price growth factor is 1.155 ÷ 1.10 = 1.05. Subtracting one gives 0.05, or 5%. Option B is correct. Simply subtracting 10% from 15.5% gives 5.5%, but that is only an approximation and not the exact implicit price increase because the factors multiply.

Correct answer: B. 10 percent

Explanation: The deflator is proportional to nominal GDP divided by real GDP. After the changes, its factor is 1.32 ÷ 1.20 = 1.10, so the deflator increases by 1.10 − 1 = 0.10, or exactly 10%. Simple subtraction, 32% − 20% = 12%, is only an approximation and is not exact. Therefore option B is correct.

Correct answer: B. About 8.2 percent rise

Explanation: The deflator changes according to the ratio of nominal GDP to real GDP. After the falls, nominal GDP is 0.92 of its original level and real GDP is 0.85 of its original level. The deflator factor is 0.92 ÷ 0.85 = 1.08235, indicating an approximate 8.2% increase. Thus option B is correct, not a simple subtraction of the declines.

Correct answer: B. About an 8.3 percent fall

Explanation: The identity is Real GDP = Nominal GDP divided by the deflator, with consistent index scaling. The deflator rises by a factor of 150/125 = 1.20, while nominal GDP rises by a factor of 1.10. Thus real GDP changes by 1.10/1.20 = 0.9167, meaning it falls by about 8.3 percent. Option C ignores the price-level increase, while D overstates the fall.

Correct answer: B. 19 percent

Explanation: For cumulative changes, real GDP growth must be calculated from growth factors, not by simply subtracting percentages. The real GDP factor is 1.44/1.21 = 1.19008. Therefore, total real GDP growth is (1.19008 − 1) × 100, or approximately 19 percent. Option A understates the result, while C and D incorrectly use rough subtraction or nominal growth.

Correct answer: A. Government services are part of domestic final output

Explanation: The GDP deflator measures the prices of domestically produced final goods and services. Non-market government services, such as public administration or education, are included in GDP and commonly valued by their production costs. Therefore, if the estimated wage, input, or operating costs of these services rise, nominal GDP can rise relative to real GDP, increasing the deflator even when consumer-goods prices are unchanged. Imports are excluded from domestic output, so option B is incorrect.

Correct answer: A. Prices of imported consumer goods rose while prices of domestic output stayed stable

Explanation: The CPI measures the cost of a consumer basket purchased by households and can include imported consumer goods. The GDP deflator, in contrast, covers final goods and services produced within the domestic economy and excludes imports. Thus, a rise in import prices can push the CPI upward without changing prices of domestic production, leaving the GDP deflator stable. Broad increases in domestic prices would normally affect both measures.

Correct answer: A. Real GDP was recalculated using the new base prices and weights

Explanation: A GDP deflator is commonly calculated as nominal GDP divided by real GDP, multiplied by 100. Changing the base year does not normally alter the historical nominal GDP measured at current prices, but it changes the reference prices and possibly the weights used to calculate real GDP. Because the denominator changes, the historical deflator can also be revised. Population and disappearance of imports are not necessary explanations.

Correct answer: A. Misrepresentation of current price changes

Explanation: Index weights should represent the relative importance of goods and services in the economy. If an obsolete product receives too much weight, the aggregate deflator gives that product an influence larger than its current economic importance. Its historical price movement may then dominate the measured index, causing the deflator to misrepresent present price changes. The problem is measurement bias, not zero prices, automatic growth in real GDP, or a conversion of imports into domestic production.

Correct answer: A. Better reflection of changing relative prices and output composition

Explanation: A chain-type index updates expenditure or output weights more frequently than a fixed-base index. As consumers, producers, and technology change, the composition of domestic output also changes. Current or recently updated weights therefore make the measured aggregate price movement more representative and reduce distortion caused by an obsolete base structure. They do not keep nominal GDP fixed, assign equal weights, or automatically include imports in the GDP deflator.

Correct answer: B. Inflation may be overstated and real growth understated

Explanation: Quality adjustment attempts to separate a price increase caused by better product characteristics from a pure increase in the price of an unchanged product. If the subscription costs 20 percent more but provides substantially improved features, recording the entire 20 percent as inflation treats quality improvement as price inflation. Consequently, the deflator may be overstated and the quality-related real increase in output may be understated. Nominal GDP need not fall.

Correct answer: A. The deflator may fall as current weights change

Explanation: The GDP deflator is a weighted measure of prices for domestically produced final output, and its weights reflect the value or composition of current production. If production shifts toward a relatively cheaper good and away from a relatively expensive good, the cheaper item receives greater influence in the aggregate measure. Holding other relevant prices constant, this composition change can reduce the deflator. The result is not inevitable without more price information, so option A correctly says “may.”

Correct answer: B. Yes, because changing weights can affect the aggregate index

Explanation: With a current-weighted GDP deflator, the aggregate price measure depends not only on listed prices but also on the value or quantity weights assigned to the goods produced. If goods have different price levels relative to the base year, a shift toward one good and away from another changes their contribution to the index, even when each individual price is unchanged. Therefore, a composition effect can alter the deflator. It is not necessary for imports to rise.

Correct answer: A. Incorrect separation of price growth and volume growth

Explanation: For many government services, output is estimated using inputs such as staff costs because there is no observable market price. If productivity improves but the statistical method does not capture it, part of the increase in service output may be confused with a price or cost change. This creates an incorrect split between price growth and real volume growth, so option A is correct. The other choices concern unrelated accounting or demographic issues.

Correct answer: A. The indices are relative to different reference points

Explanation: The GDP deflator is an index calculated as nominal GDP divided by real GDP, multiplied by 100, with real values based on a chosen base year. Different base years create different reference points and may also involve different output weights. Thus, comparing the numerical levels directly can mislead; currency, equal real GDP, and population are not the governing issue.

Correct answer: B. 8 percent fall

Explanation: Real GDP changes according to the ratio of the nominal-GDP growth factor to the deflator growth factor. The nominal factor is 1.15, while the deflator factor is 175/140 = 1.25. Therefore the real factor is 1.15/1.25 = 0.92, meaning real GDP becomes 92% of its initial level and falls by 8%.

Correct answer: C. 29.8 percent

Explanation: For a multi-year comparison, divide the cumulative nominal-GDP factor by the cumulative price-level factor rather than subtracting the two percentage changes. The real-GDP factor is 1.728/1.331, approximately 1.298. Hence total real GDP growth is about 1.298 − 1 = 0.298, or 29.8%.

Correct answer: A. 5 percent

Explanation: Inflation for a particular year is measured by the percentage change in the deflator from the preceding year, not from the original base-year value. For the third year, the change is 124.74 − 118.8 = 5.94. Dividing by 118.8 and multiplying by 100 gives 5%, so option A is correct.

Correct answer: A. Separating pure price growth from quality improvement

Explanation: A higher price does not necessarily represent pure inflation when the product has improved substantially. Some of the observed price difference may compensate for better effectiveness, safety, or other quality characteristics. Statistical agencies therefore need quality adjustment to estimate the price change for an equivalent product and to avoid overstating inflation in the GDP deflator. Option A is correct; the other choices do not solve the measurement problem.