GDP Fallacy, Do Governments Willfully Mislead People?
James Bibbings, August 4th, 2009
Page 1
Last week I published an article titled: "The 11th Hour, Moments Before A US Economic Meltdown". In my writing I laid out a theory to explain how the government makes choices in its attempt is to solve the economic problems ailing the United States. I considered and wrote out my theory as a way to rationalize what had been happening within the financial markets over the last several weeks. As everyone knows, recently the markets have been on a tear upward. Much to my bewilderment, this run up has not been driven by powerful fundamental changes, key technical levels, or been followed by significant changes in trade volume. So what happened? How can we explain the irrational reasons for a market climbing when it should be falling apart? To get up to speed in this discussion, or to find out for the first time the reasons why I think we're going forward even though we shouldn't be revisit my original story via the link above.
Now that the framework is in place, I want to touch in detail on each of the points in my original thesis. Today's discussion will focus on points one and two of the ten step plan included in the original article. These points were:
1. GDP = (A) Private Consumption + (B) Gross Investment + (C) Government Spending + ((D) Exports - Imports))
2. The US Government directly controls letter C from above and thus 25% of GDP inputs.
Point Number One
Since the 1950's GDP has largely been used to measure the economic well being of nations. It is the arguably the foremost statistical factor that economic growth is derived from. GDP is also the basis by which the world evaluates (to a certain extent) a country's success amongst its peers. All in all, GDP could be one of the most important global economic figures for a nation. One might think, "What is there really to say about the mathematical components of GDP?" Well, for starters they could say that GDP is a poor way to measure a nation's well being because it does not take into consideration how or why money is spent in a country to propel GDP.
To illustrate the idea of why GDP is a poor gauge of well being in a country consider this example for a moment. In the US, any money spent to re-develop the World Trade center in New York after September 11th has in one way or another counted towards GDP growth. The same goes for any other natural or manmade disaster throughout the country. Likewise, any money spent by the US government on any domestic service, regardless of merit, also goes into GDP. This clearly becomes problematic when considering the prospects of attaching the idea of "well-being" to GDP.
In the instance of ill advised government spending or a catastrophic event, a nation's real overall progress or real well being is usually not advanced. On September 11th thousands of lives were tragically destroyed or lost. Furthermore, in many ways that day symbolizes a turning point in American and world security history. Over the last 8 years that singular attack has brought about a multitude of change within the United States and throughout the world. These changes have largely been restrictive, costly to implement, and the subject of countless hours of debate around the world. In this case, spending on security helped to raise GDP but did it really improve well being? This principal holds the same for other disastrous events around the world such as Hurricane Katrina, the Indonesian Tsunami, or any multitude of natural calamities. Certainly in disasters some good spending and changes come about, but they aren't called disasters for nothing.
In the case of government expenditures, once again GDP can be improved by good spending or by bad spending. Here consider all of the pork that is attached to legislation; it raises GDP, but does it improve well being? How about bailouts or subsidies? Take for example cash for clunkers, that improves GDP; but is it really good for well being? The program will cost billions to taxpayers, pull forward future demand for automobiles only to leave a hole in demand later, and won' t accomplish much of anything. Therefore, since there is no calculated way to discern between good spending or bad spending in the GDP equation, where does the incentive to be fiscal prudent in the government come from?
There are a multitude of reasons for rethinking GDP; I briefly hit on why letter D in the equation doesn't really make sense previously. However, this discussion is not really about the principals of GDP so I'll walk away from this for now. I will however touch on it a bit more when I explain point number four from the original article over the coming days.
