So we saw that nominal GDP could pose some problems, right? Where we had the same level of production, 100 cabinets in each year, but since the price increased in 2018 compared to 2017, GDP increased. Now what we do is we use this calculation called real GDP and what it does is, instead of using current year prices, we are going to use what we call base year prices. And the base year is going to be held constant. So we're going to be using the same prices every year, okay? So when we do this measure, we're going to say this year is the base year, whatever year that might be. And it doesn't even have to be one of the years you're calculating. The base year in this situation doesn't have to be 2017 or 2018. It could be the year 1983. It doesn't matter what year you choose, it just has to stay constant for the calculation.

Okay? So you're using the same prices in every year, that way we're more focused on the quantity of production rather than the price of the goods changing, okay? So let's check out our example here. A carpenter builds 100 cabinets, the prices in 2017 are $1,000 per cabinet. In 2018, the prices rise to $2,000. So it doesn't say it here, but let's assume 2017 is the base year. Okay? So let's write that in there. Assume that 2017 is the base year and generally, when you get a problem like this on a test, they're going to have to tell you which year is the base year. If they don't say anything, you can just assume that the oldest year is the base year.

Okay? So let's go ahead and do this example. Let's do our real GDP here. In 2017, what is our real GDP? Well, we produced 100 cabinets and what were those prices in the base year? The base year was 2017 and the price was $1,000. So that leads us to our same conclusion of $100,000. Okay? Notice that our real GDP and our nominal GDP in the base year when we have 2017 as the base year, they are the same, right? And that should always hold true because the base year price is the same price that we use for both calculations, nominal and real GDP. However, let's do 2018's real GDP. How are we going to do that calculation?

Now in 2018, we still had 100 cabinets produced, but we have to use the base year price of $1,000, and that leads us to have $100,000 for the real GDP in 2018 as well. So notice how now we can compare 2017 and 2018 GDP a little better, right? It doesn't take into account that inflation of prices. Right? The price doubled, so our GDP had doubled. But now this has more of a focus on the level of production. Where both years we produced 100 cabinets, so we should have a relative measure that shows that they had the same level of production. Okay? So we got $100,000 for GDP, for real GDP in 2018 and notice that previously, when we calculated nominal GDP, we had gotten $200,000, right? Because we had used the nominal price in 2018, which was $2,000. Cool? So that's the difference between real GDP and nominal GDP is which price we use, okay? So real GDP is a good measure that keeps the prices constant where nominal GDP is using more current numbers, okay? So there's pros and cons to both, but generally, we're going to be focused on real GDP when we do these calculations.

Alright. Let's do a quick pause and we'll do a practice question related to nominal GDP and real GDP.