Real GDP

If an economy produces the same number of cars, meals, and haircuts as last year but prices rose 5%, nominal GDP — the unadjusted version — would show 5% growth even though nothing extra was produced. Real GDP strips that price effect out using a reference year's prices, called the "base year." What remains reflects genuine changes in physical output.

The adjustment tool is called the GDP deflator, a broad price index that covers the entire economy. It is wider than the Consumer Price Index (CPI), which only tracks a basket of household purchases. Economists read real GDP growth as the honest measure of whether living standards are improving, which is why governments and central banks focus on it when setting policy rates or fiscal budgets.

A common confusion is mixing up real GDP levels with real GDP growth rates. The level might be expressed in a base year's currency — "in constant 2015 dollars," for example — which sounds odd but is simply a way of holding prices still for comparison. The growth rate, reported as a percentage change, is what makes headlines. Note that in the US, that growth rate is almost always reported as an annualized rate, which can surprise readers unfamiliar with the convention.