What is price deflator?
A defaltor is used to restate data measured over time to prices prevailing at a particular period or time to make it comparable. Essentially, a deflator removes the effect of inflation from the data.
What is the role of price deflator in GDP calculations?
Prices are continuously in a state of flux, but generally trend upwards over time. Therefore, even without an increase in the quantity of goods and services produced by an economy, price increase can give the impression of an increase in the gross domestic product, or GDP, the benchmark indicator of economic activity. Therefore, the impact of prices has to be removed at arrive at a true measure of the value of goods and services produced, or real economic growth. A deflator is used to reduce output estimates at current prices to what they would be if calculated with reference to prices in a particular year.
Why is GDP deflator considered a good measure of inflation?
The ratio between the GDP at current prices and GDP at constant prices gives an idea of the increase in the prices of a all goods and services with reference to the base year. In that sense it is a more comprehensive measure of inflation than price indices, which are sample based -- a limited basket of goods the prices of which are collected from select centres. It is, however, available with a lag, which limits its use.
How is it used in India?
In the quarterly estimates of GDP, the various price indices are used to deflated output of goods and services to that at a constant prices. The yearly GDP numbers are different in that they are more comprehensive and are backed by better price data. In this case, the GDP deflator is a better measure of prices.
