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July 28, 2010

GDP is a Bad Statistic. Alternatives Coming

By Ron Robins, Founder & Analyst - Investing for the Soul

Hell could have just as big a GDP as heaven! Some could argue that hell′s ‘inhabitants′ under duress might produce even more than those in heaven. GDP makes no distinction between good and ‘bad′ production. Disasters like that of BP′s Deepwater Horizon oil spill increase GDP. The rising costs of crime and building more prisons raise the GDP. Haitian type earthquakes and Pacific tsunamis may massively boost GDP.

The GDP statistic is really bad in helping us understand our economic well-being. It is misunderstood, misused and overhyped. Fortunately, modifications and alternatives to it are gaining ground.

Everywhere politicians, the general public—and even many economists—crave to increase the GDP. Falsely, I believe, they feel that the GDP measure offers the ability to make real cross country comparisons in living standards and economic growth, much like one compares football scores. But for many reasons, comparisons are erroneous without knowing much more about other factors. Even the U.S Bureau of Economic Analysis does not endorse the idea of GDP reflecting Americans′ well-being.

The GDP was never intended for measuring our well-being. It was created in the 1930s and came into use during World War ll to measure war output. It is simply the value of all final goods and services within a country.

Elaborating on why the GDP cannot be used to describe our well-being is the following by Clifford Cobb and colleagues. They state, “much of what we now call the growth of GDP is really just one of three things in disguise: (1) fixing blunders and social decay from the past [paying for pollution, costs of crime, etc.]; (2) borrowing resources from the future [GDP excludes the costs related to farmland depletion, water, other resources]; or (3) shifting functions from the traditional realm of household and community to the realm of the monetized economy [i.e. eating out rather than at home].”

My personal big issue with the GDP is its non-accounting of debt and thus the illusory halo of purported economic strength it showed in past years. According to Comstock Partners, Inc., the debt required to produce a one dollar increase in GDP jumped from $1.53 in the 1960s to $6 in the first decade of this century. This burgeoning debt productivity problem, unrecognized in the GDP, led to an intolerable level of debt that has begun to meltdown. Only after the credit crises began to knock down two of GDPs principle components, private consumption and gross investment, did we see it decline. Thus, GDP is blind to debt and therefore a deceptive statistic in informing us about our true financial and economic condition or well-being.

There are two ways forward to formulate a better measure of our well-being. One way is to add new parameters to the GDP, and the other is having numerous different indicators that all mesh in representing society′s overall functioning. Typical of the first variety is the United Nations′ Human Development Index (HDI) and of the second is the ‘State of the USA.′

The HDI, now twenty years old, adds educational and health measures to the GDP. Educational measures include literacy and educational attainment, and health measures are based on life expectancy. However, the HDI leaves out key information related to debt, sustainability, climate change, carbon footprint, ‘happiness′ measures, and so on.

The recognition of the limitations of GDP and even the HDI has led groups in some countries to try and develop a broad set of new measurements.

The U.S. administration under President Obama recognized this need and embedded in its recent healthcare legislation the creation of a new agency under the National Academy of Sciences (NAS) to develop a system of key national indicators. It appears that the State of the USA will become that agency. It aims to be officially launched sometime this summer and is developing about three-hundred different metrics.

In Europe, the European Commission has also been creating an array of indices that will reflect societal well-being. Their plan is to first issue a “pilot version of a comprehensive environmental index.” Unlike the U.S., the Europeans expect to integrate it into their present macro-economic statistical systems.

Other potential GDP replacements are: the Calvert-Henderson Quality of Life Indicators; Canadian Index of Wellbeing; Genuine Progress Indicator (GPI), Index of Sustainable Economic Welfare (ISEW); and the National Accounts of Well-being.

GDP is a bad statistic as it does not paint a real picture of our well-being. Blind adherence to it has the potential for leading society down a slippery slope to a place it would not want to go. GDP does not discriminate between what really benefits society and what does not. It treats costs related to pollution, crime and disasters as gains. It does not account for resource depletion. By excluding debt the GDP statistic provides an imaginary picture of our true economic condition.

Because of these and numerous other inadequacies, governments and private organizations around the world are zealously creating new measures that will add to, or replace, the GDP. May GDP′s reign end soon.

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Disclaimer: This website does not make investment recommendations. Nothing in this site should be interpreted as a recommendation or solicitation to buy/sell any securities or investments. Investing for the Soul is a source of general information and resources for ethical investing and socially responsible investing (SRI). Investors should consider their actions thoroughly and consult their financial advisers and other professionals, prior to taking any investment action. This website does not necessarily agree with the opinions expressed in articles on its pages or offered on the web pages to which it might be linked. Such opinions are the responsibility of the writers themselves. Furthermore, this site does not offer or provide any warranties, representations, guarantees, implied or otherwise, as to the accuracy, legality, copyright compliance, timeliness or usefulness of the information, materials or services on this, or other sites, to which it is linked. Also, Mr. Ron Robins is not an investment advisor, nor is he licensed with any professional investment related body, and thus is not able to, nor does he make, any investment recommendations.


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