When analysts are looking at costs, revenues or expenditures over time, they need to decide how to handle the comparison. Dollars do not have the same buying power over time and therefore comparisons are not as useful as they might appear.

Let’s take the Gross Domestic Product (GDP)—the single statistic that summarizes the general economic activity for each country.

For GDP to be compared over time, the nominal dollar amount is converted to the real dollar amount.

Nominal dollar: this is counting a $100 bill as being worth 100 dollars because that is what it says on the bill.

Real Dollar: what the $100 dollar bill is really worth once inflation is taken into account.

For example, what is $100 in 1980 worth in 2005 dollars? It would be $209 using the GDP deflator. [1] Or looking it differently, what would $100 in 2005 be worth in 1980 dollars? In terms of buying power, it would be worth $42.[2]

The inflation-adjusted real dollars are standardized so analysts can see the real changes in the GDP as opposed to the changes based on inflation. Measuring Worth is a handy dandy website that lets you calculate the worth of dollars easily. Check it out: http://www.measuringworth.com/uscompare/

In budgeting terms, we talk about looking at budgets using current dollars (the amount of dollars as they are at that point in time—another name for nominal dollars) and those using constant dollars (the dollars that have been standardized so they are comparable in terms of buying power—another name for real dollars.)

Below is a table comparing the U.S. GDP in Nominal Dollars versus Real Dollars (prepared by the U.S. Bureau of Economic Analysis: www.bea.gov). I selected 1980 to 2009. The comparison year is 2005 and you will notice that is the only year where the nominal and real dollars are the same. You will also notice that the nominal dollars are higher than the real dollars after the comparison year but as you look back in time, the nominal dollars are much less than the real dollars. This is what inflation looks like.

If advocates wanted to do an OMG there is a dramatic change over time, they would use nominal dollars: the growth in GDP is dramatic, rising from $2.8 trillion in 1980 to $14.3 trillion in 2009.

However, that analysis embeds inflation. When inflation is controlled for, the real dollars show an increase from $5.8 trillion in 1980 to $13 trillion in 2009. This would be a more accurate analysis.

The takeaway lesson is that while it is easier to compare nominal dollars over time, a sophisticated user would want to know whether the analysts are using real dollars or nominal dollars.

U.S. GDP Over Time in Nominal and Real Dollars

[1] Samuel H. Williamson, “Six Ways to Compute the Relative Value of a U.S. Dollar Amount, 1790 to Present,” MeasuringWorth, 2009. URL http://www.measuringworth.com/uscompare/

[2] http://www.measuringworth.com/ppowerus/dollarsource.php