Difference between GDP Deflator and CPI

This article will help you to learn about the difference between GDP Deflator and CPI.

Difference between GDP Deflator and CPI

The GDP deflator is an index of price changes for goods and services included in GDP.

Thus, the deflator reflects changes in the price of goods and services purchased by consumers, businesses, and governments.

The GDP deflator is found by dividing current-rupee GDP by constant-rupee GDP, with the spending components (C, I and G) of constant-rupee GDP derived separately.

The CPI is a measure of the prices paid by the typical urban working-class family for a fixed basket of goods and services. Statisticians have sampled “typical” consumers to establish a standard basket of goods which is purchased and the appropriate relative importance (weight) of each good.

The basket consists of goods and services divided into the following categories food and beverages, housing, apparel, transportation, medical care, entertainment, and others.

No doubt the CPI is the most reliable measure of the cost of living. But it may overstate the prices individuals pay for goods and services that they actually purchase over time. Because it is a fixed-weight index, it does not allow for substitution effects, where consumers may reduce or stop purchasing goods whose prices are rising and/or select a substitute good whose price has experienced a smaller relative increase.

The quality of goods also changes, so that a price increase may reflect improved quality rather than inflation. For these reasons, the CPI may not truly reflect the consumers’ cost of living.