Economic Growth, Underdevelopment and Economic Development

Lessons

Senior 6 · Economics

Economic Growth, Underdevelopment and Economic Development

5 lessons

Lesson 1 of 5

Economic growth: meaning and measurement

25 min

Case: one set of accounts, two headlines

In March 2026 the National Institute of Statistics of Rwanda (NISR) published Rwanda's gross domestic product (GDP) for 2025: the value of all final goods and services produced inside the country. GDP at current market prices was Frw 23,387 billion, up from Frw 19,918 billion in 2024, a rise of about 17%. Yet the same release said that "GDP grew by 9.4%" (NISR, GDP National Accounts 2025).

Both numbers are correct. The first values each year's output at that year's prices; the second removes the effect of rising prices. Only the second tells you how much more the country actually produced.

Think: Rwanda's population grew by an average of 2.3% a year between the 2012 and 2022 censuses (NISR). If real output rose by 9.4%, did the average person become 9.4% better off? Keep your answer; you will test it in this lesson.

Definition

Economic growth: a sustained increase in the real output of goods and services that an economy produces over time. It is measured as the annual percentage change in real GDP, written $g$ .

Example: if Rwanda's real GDP rises from Frw 12,000 billion to Frw 12,960 billion in a year, the economy has grown by 8%.

Definition

Nominal GDP (GDP at current prices): output valued at the prices of the year in which it was produced.

Real GDP (GDP at constant prices): output valued at the prices of a fixed base year, so that a change in it reflects a change in quantities, not in prices.

GDP deflator: a price index for everything in GDP, with the base year equal to 100:

\text{GDP deflator} = \frac{\text{nominal GDP}}{\text{real GDP}} \times 100

Definition

Real GDP per capita (per head): real GDP divided by the population. It measures the average output, and so the average income, per person.

\text{real GDP per capita} = \frac{\text{real GDP}}{\text{population}}

Measuring growth: three formulas

If $Y_{t}$ is real GDP in year $t$ , the growth rate is

g = \frac{Y_t - Y_{t-1}}{Y_{t-1}} \times 100

To turn nominal GDP into real GDP, divide by the deflator:

\text{real GDP} = \frac{\text{nominal GDP}}{\text{GDP deflator}} \times 100

Growth of real GDP per capita, $g_{pc}$ , depends on growth of real GDP, $g_{Y}$ , and growth of the population, $g_{N}$ , written as decimals:

1 + g_{pc} = \frac{1 + g_Y}{1 + g_N} \qquad \text{so} \qquad g_{pc} \approx g_Y - g_N

The approximation is close when both rates are small. In an exam, use the exact form when the data allow it, and say that you are approximating when you subtract.

Worked example 1: Rwanda's 2025 accounts

NISR's figures use 2024 as the base year, so the 2024 deflator is 100 and real GDP in 2024 equals nominal GDP, Frw 19,918 billion. Nominal GDP in 2025 was Frw 23,387 billion and real growth was 9.4%. Find (a) nominal growth, (b) real GDP in 2025 at 2024 prices, and (c) the 2025 GDP deflator.

\text{(a)}\quad \frac{23\,387 - 19\,918}{19\,918} \times 100 = 17.4\%

\text{(b)}\quad 19\,918 \times 1.094 = 21\,790 \text{ billion}

\text{(c)}\quad \frac{23\,387}{21\,790} \times 100 = 107.3

So of the 17.4% rise in the money value of GDP, about 7.3% was higher prices, since $\frac{1.174}{1.094} = 1.073$ . Only the 9.4% is growth in the quantity of goods and services.

Worked example 2: growth per head and doubling time

Take real growth of 9.4% and population growth of 2.3%. Find the growth of real GDP per capita, and how long the economy would take to double in size if it kept growing at 9.4%.

1 + g_{pc} = \frac{1.094}{1.023} = 1.069 \quad\Rightarrow\quad g_{pc} = 6.9\%

The quick approximation gives $9.4 - 2.3 = 7.1\%$ , close to the exact 6.9%. So the answer to the opening question is no: the average person's output rose by about 7%, not 9.4%. (NISR's 2.3% is an average for 2012–2022, so treat this as an estimate.)

Doubling time: output doubles when $(1 + g)^{n} = 2$ , so

n = \frac{\ln 2}{\ln 1.094} = 7.7 \text{ years}

The rule of 70 gives almost the same: $n \approx \frac{70}{9.4} = 7.4$ years.

Actual growth and potential growth

Economists separate two kinds of growth.

Actual growth is the increase in real GDP that is actually produced. It happens when idle resources (unemployed workers, unused machines, uncultivated land) are brought into use.
Potential growth is the increase in the economy's productive capacity: the most it could produce with all its resources fully and efficiently employed. It happens when the quantity or quality of resources rises: more capital, a larger and better-educated labour force, new land brought into use, or better technology.

The difference between actual and potential output is the output gap. On a production possibility curve (PPC), a point inside the curve shows unused resources.

In the diagram, the move from A to B is actual growth: the economy produces more of both goods, using resources that were idle, but its capacity has not changed. The outward shift from PPC₁ to PPC₂ is potential growth: the economy can now produce more than was ever possible before, and C is attainable. Long-run, sustained growth needs the curve itself to keep moving out; an economy that only closes its output gap soon reaches the frontier and stops.

In the aggregate demand and supply model, actual growth is a rise in aggregate demand when there is spare capacity, and potential growth is a rightward shift of the long-run aggregate supply curve.

Warning

A fall in the growth rate is not a fall in output. If growth slows from 8% to 5%, real GDP is still rising, only more slowly. Real GDP falls only when the growth rate is negative. Read exam data carefully: a graph of growth rates and a graph of GDP levels tell different stories.

Why GDP figures are an imperfect measure of growth

Problem	Why it matters, with a Rwandan example
Subsistence output	Many farm households eat much of what they grow. This output is never sold, so its value has to be estimated, and the estimate may be too high or too low.
The informal sector	Street vendors, small workshops and casual labour are often unregistered, so part of their output is missed.
Unpaid work	Housework, caring for relatives and the monthly community work of umuganda produce real value but are not bought or sold, so they are not in GDP.
Changes in quality	A phone bought today does far more than one sold ten years ago for a similar price; price indices capture this only partly.
Population growth	Total GDP can rise while GDP per head falls, if population grows faster than output.
Distribution	An average hides who gains. GDP per head can rise while the poorest households gain little or nothing.
Costs to the environment	Cutting a forest adds the timber to GDP, but the loss of the forest is not subtracted.
Comparing countries	Converting at market exchange rates ignores that prices are lower in poorer countries; economists therefore also compare GDP at purchasing power parity (PPP).

Tip

The rule of 70. To estimate how many years an economy takes to double, divide 70 by its growth rate in per cent. At 7% a year: about 10 years. At 2%: about 35 years. Small differences in growth rates, kept up for decades, make huge differences in living standards.

Important

Discuss. Real GDP per capita is the most common single measure of a country's living standard. Using the table above, argue whether it is more likely to understate or to overstate the true living standard in rural Rwanda.

tutor2u, "Economic Growth and the PPF" (A-level). Watch how each supply-side cause of growth shifts the production possibility frontier outward, and compare it with the move from A to B in this lesson's diagram.

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Practice

Define economic growth and distinguish between nominal and real GDP.
Real GDP rises from Frw 12,500 billion to Frw 13,300 billion. Calculate the growth rate.
Nominal GDP is Frw 20,000 billion and the GDP deflator is 125. Calculate real GDP.
Real GDP grows by 6% and population by 2.5%. Calculate the exact growth rate of real GDP per capita, and compare it with the approximation.
Use the rule of 70, and then the exact formula, to find how long an economy growing at 5% a year takes to double.
With the help of a PPC diagram, distinguish between actual and potential economic growth.
Explain three reasons why Rwanda's measured GDP may differ from the true value of what it produces.
"Real GDP grew by 8% last year, so the people of the country are 8% better off." Evaluate this statement.

Show answersHide answers

Economic growth is a sustained increase in real output over time, measured by the percentage change in real GDP. Nominal GDP values output at current prices; real GDP values it at constant base-year prices, so it changes only when quantities change.
$\frac{13\,300 - 12\,500}{12\,500} \times 100 = 6.4\%$ .
$\frac{20\,000}{125} \times 100 = 16\,000$ billion.
$\frac{1.06}{1.025} = 1.0341$ , so 3.4%. The approximation $6 - 2.5 = 3.5\%$ is 0.1 percentage points too high.
Rule of 70: $\frac{70}{5} = 14$ years. Exact: $\frac{\ln 2}{\ln 1.05} = 14.2$ years.
A move from a point inside the PPC towards the curve is actual growth (idle resources used); an outward shift of the whole curve is potential growth (capacity rises through more or better resources or technology).
Any three: subsistence output must be estimated; the informal sector is under-recorded; unpaid work such as housework and umuganda is left out; quality changes are poorly captured; environmental damage is not deducted.
Not necessarily. Per-head growth is lower if population grew (for example $\frac{1.08}{1.025} = 1.054$ , about 5.4%, if population grew by 2.5%). The average may hide unequal gains; output may be capital goods or exports rather than consumption; and pollution, longer hours or lost leisure may offset the gain. Growth makes people better off only if its benefits reach them.

Sources and credits

Rwanda's GDP for 2024 and 2025: GDP National Accounts, 2025, National Institute of Statistics of Rwanda (NISR), March 2026 (base year 2024). Figures quoted as facts.
Population growth of 2.3% a year, 2012–2022: Fifth Rwanda Population and Housing Census, 2022: Main Indicators Report, NISR, 2023.
Photo: High Angle View Of Kigali City Street, Emmanuel Kwizera, via Wikimedia Commons, CC BY-SA 4.0.
Photo: Repair Work along Nyabugogo Avenue - Kigali - Rwanda, Adam Jones, via Wikimedia Commons, CC BY-SA 3.0.
Video: Economic Growth and the PPF, tutor2u, embedded from YouTube.

Written by Ganzaa: the text, the production possibility diagram, the worked examples and the practice items. The practice figures are illustrative.

1Case: one set of accounts, two headlines

2Measuring growth: three formulas

3Actual growth and potential growth

4Why GDP figures are an imperfect measure of growth

Case: one set of accounts, two headlines

Measuring growth: three formulas

Actual growth and potential growth

Why GDP figures are an imperfect measure of growth