"Suppose a new computer is invented that costs one-quarter of existing computers and performs as well. Now, when GDP is calculated, production of the same number of computers creates only one-quarter as much dollar output - GDP falls!"

Question

BlackTom AI · Accepted Answer

The prompt presents a scenario about a new computer that costs one-quarter of existing computers but performs as well, and asks about the effect on GDP. We’ll evaluate each option in turn to see which is accurate.

Option a: 'true, both nominal and real GDP fall.' This asserts that both nominal and real GDP decrease when producing the same number of computers. While nominal GDP would fall because the price of each computer is one-quarter of before, the claim that real GDP also falls hinges on how real GDP is measured. Real GDP uses base-year prices to value output; if the base-year price for a computer is higher than the new price, real GDP would reflect the reduced value. However, the statement that real GDP must fall is not necessarily correct in all interpretations because price index adjustments (deflators) attempt to capture changes in overall price levels and can offset some effects of price reductions when accounting for updated price data. In this context, the option asserting both measures fall without acknowledging the role of price indices is incomplete and misleading.

Option b: 'false, real GDP should rise because of adjustments for quality.' This suggests real GDP would rise due to quality-adjusted price changes. However, the problem states the new computers perform as well as the old ones, implying no quality improvement in performance. If there is no improvement in quantity or quality beyond price, there is no basis to claim a rise in real GDP from quality adjustments alone. Thus this option misattributes the effect to an assumed quality improvement that the scenario does not specify.

Option c: 'false, real GDP should rise because of price index adjustments.' This asserts that real GDP would rise due to price index adjustments. The price index (deflator) is used to convert nominal GDP to real GDP by removing price level changes. If the price of computers falls, the GDP deflator would typically move in a way that could offset nominal reductions when calculating real GDP, but the direction is not inherently that real GDP rises; it depends on how much weight is given to the computer sector and the broader price changes. Claiming a rise in real GDP solely due to price index adjustments overstates what the index does and ignores that lower prices reduce the value of output in real terms unless there is corresponding quantity growth, which is not specified here.

Option d: 'false, real GDP should be unchanged because of price index adjustments.' This option recognizes two key ideas: (1) nominal GDP falls when the price of the produced computers falls to one-quarter, since there is the same quantity but a much lower price; (2) price index adjustments (the implicit GDP deflator or chain-weighted measures) can offset some of the nominal change when constructing real GDP, especially if the quantity of goods produced and their contribution to overall output remain similar and the price drop is matched by a corresponding adjustment in the price index. The core point is that real GDP is designed to isolate quantity changes from price changes. If the quantity of computers produced is unchanged and the new prices reflect a lower price level rather than a change in the quantity of goods produced, real GDP can remain essentially the same when measured with a proper price index.

In summary, option a overstates the effect by claiming both measures fall; option b incorrectly asserts a quality-driven rise without evidence of quality improvement; option c incorrectly asserts a rise in real GDP due to price index adjustments without showing why the index would drive a higher real value in this scenario. Option d correctly identifies that, with price index adjustments, real GDP can stay unchanged even though nominal GDP falls because the real measure strips out price changes and the production quantity is unchanged.

"Suppose a new computer is invented that costs one-quarter of existing computers and performs as well. Now, when GDP is calculated, production of the same number of computers creates only one-quarter as much dollar output - GDP falls!"

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