In a previous article here, we covered the formulas for nominal and real GDP. In that article, we also touched on GDP deflators. I’ll repeat our prior definition and a short excerpt here:
So, the real GDP in 2026 is $120, while the nominal GDP is $144. This means that roughly half of the “increase in the value” of output came from inflation, while the actual value (think of this like purchasing power) increase stripped of inflation was only about $20 from 2024 to 2026.
Here’s one more useful formula to know:
GDP Deflator = nominal GDP/real GDP x 100
Like we said, the GDP deflator gives us a metric detailing how much of GDP increases are due to inflation versus output increases. Since we’ve now calculated both real and nominal GDP, we can run these numbers:
Real GDP in 2026: $120
Nominal GDP in 2026: $144
GDP Deflator = 144/120 x 100 = 1.2 x 100 = 120
A GDP deflator of 120 infers that the current price level is 20% higher than the price level in the base year, or that inflation has been 20% over that three year period. If we look at the inflation numbers described earlier — 6%, 10%, and 3% — 1.06 × 1.10 × 1.03 happens to equal 1.20098, equivalent to exactly 20%.
Now, how can we calculate inflation with GDP deflators?
Well, here’s the idea: since GDP deflators measure how much of GDP’s growth can be attributed to changes in price levels (e.g., inflation or deflation), they essentially strip GDP of changes in actual (real) economic output and provide the raw price inflation. Thus, comparing GDP deflators from two different years—say, a base year and an end year—reflects the normalized (both on a scale of 100+) rate of inflation over that period of time.
To make this comparison work, both GDP deflators have to be based on the same base year when calculating nominal and real GDP.
This may sound complex, but it’s really simple subtraction and division to calculate the different, in percent, between two numbers. Here’s the generalized formula to derive inflation from GDP deflators:
- GDP Deflator for Year 1 (base year): D1
- GDP Deflator for Year 2 (end year): D2
*let’s say you want to calculate the inflation rate from 2005 to 2010 using GDP deflators: the deflator from 2005 would be D1, and 2010 deflator would be D2.
Inflation Rate = ((D2 —D1)/D1)*100
Let’s use a concrete example. Say we want to find the inflation rate from 2021 to 2024. The following data is presented:
- Nominal GDP in 2021: $1.1 trillion
- Real GDP in 2021 (base year): $1.0 trillion
- Nominal GDP in 2024: $1.4 trillion
- Real GDP in 2024: $1.2 trillion
GDP deflators follow this formula: nominal GDP/real GDP x 100, so the GDP deflators for 2021 and 2024 go as follows:
- 2021 deflator: (1.1t/1t)*100 = 110
- 2024 deflator: (1.4t/1.2t)*100 = 116.6
Returning to our inflation rate formula, we can plug the numbers in:
((116.6 – 110)/110)*100 = (6.6/110)*100 = 0.06*100 = 6
Thus, the price inflation rate from 2021 to 2024 is 6%.
Hopefully that helped you! If it did, let me know what else you’d like to learn about, or else check out some other econ articles of mine below:
- Read about the Income Approach to GDP here.
- Read more economics stories here.
- Also, to learn more about the oil market, consider reading about PADD Districts, the Why WTI and Brent are Crude Oils, and Why There are Price Differences Among Crude Oils, and my Oil & Gas Terms Guide.
