7 March 2017

In defence of GDP


Another gathering of the Great and the Good, calling itself the Inclusive Growth Commission, has decided to treat us to its view on the value of GDP as a measure of the economy.

It is, you will be unsurprised to hear, not a positive one. GDP may measure the quantity of growth, they say, but not its quality. It is time for new and better measures.

They’re quite right that GDP is a terrible measure. But it’s still the best we can do – as shown by the fact that all their suggested alternatives are much worse.

GDP is nothing more and nothing less than it says upon the tin – the gross domestic product. It’s the value added of all goods and services produced, in a particular time period, in a certain place.

And yes, there are a whole raft of problems with it. It doesn’t measure inequality, it doesn’t measure the distribution of incomes. Cleaning up pollution is an addition to GDP – quite rightly, as we do think that cleaning up pollution adds value. But it doesn’t measure the damage caused by the pollution that you’re cleaning up.

So what are the alternatives? Actually, each of the three variables in GDP – the G, the D and the P – represents a particular choice. You could use net instead of gross, national instead of domestic, or income rather than product. Mixing and matching these gives you an alphabet’s soup of possibilities – NDP, NNI, GNI and so on.

But what do they mean? “Net” would take depreciation into account – neatly dealing with our pollution problem. “National” means measuring the value flowing to people in the place, not value created there – this is important for Ireland, for example, where those vast tech firm profits wash through the economy but don’t stick to any Irish wallets. And the difference between “production” and “income” isn’t all that important, as the two will almost always equal each other.

So if you want to measure a particular area’s economic health, NNP or NNI are much better measures. But we don’t use them, because calculating that N instead of the G is a right pain in the spreadsheet. You’ve got to wait an age to see what the depreciation is – and we do rather like to have our GDP figures quarterly, rather than 12 months after the period end, when companies report their accounts (which is where, among other places, we get our depreciation number from).

So GDP is the best we can do if we’re not to end up driving the economy via the rear-view mirror even more than we already do.

But there are other reasons that the Inclusive Growth Commission is wrong, beyond the fact that it describes itself as an independent, impactful inquiry, and anyone who uses that middle word must be either wrong or an alien to our language.

According to the Telegraph‘s write-up, the ICG claims that “local productivity, local incomes, the distribution of earnings, pay changes for the lowest paid and levels of regional economic inactivity” could all form part of their proposed “new inclusive growth metric”.

GDP has, as mentioned above, its many faults. But it has one surpassing virtue, over and above the fact that we can calculate it in a reasonable time: it is objective. It has absolutely no moral nor political implications – it is the value that was added. The number of cars made was this, their value was that, input costs were the other. The same is true of the number of tricks from ladies of negotiable virtue, pints sunk, solar panels installed, fox hunts conducted. The people involved in those varied activities valued them at X and that’s the value in GDP.

The moment that we start to try to add, to give one example, the distribution of earnings, then we lose that objectivity. For what value is there in a more equal such distribution?

I, as a capitalist oppressor, might be appalled by more equality. You might think that if the equality is flowing your way, then it’s just great. But those are subjective opinions, not hard facts that we can place on a measurement scale.

Sure, we can measure inequality – but is more or less of it good? If I found a billion-dollar company and keep all the shares, inequality has gone up – but presumably there must be quite a lot of people who like the products I am making.

Paul Samuelson once pointed out that he didn’t care who made the laws, as long as he got to write the economics textbooks. For by doing so he could set in stone in the minds of the next generation – not that he quite put it this way – his own prejudices about what was good and bad. After all, most of those who end up ruling us take a couple of university classes in the subject, and then live off what they dimly recall from them.

The ICG’s inclusive growth measure is, in essence, an attempt to rewrite the textbook – to impose a new filter through which we all will see reality. And it’s far from the first.

Time was, for example, when people campaigned for the abolition of poverty. They were entirely right, because they were talking about absolute poverty, the starve-in-the-gutter type which is indeed an abomination.

But people today don’t talk about absolute poverty – they talk about relative poverty, defined as getting less than 60 per cent of median household income. The reason for the change was obvious – Britain had licked absolute poverty, so there was only inequality left to complain about. The switch was made to complaining about inequality, for what is a campaigning Left without something to whinge about?

Maybe it’s even true that being on £15,000 a year is a crime crying out to the very heavens for remedy. Myself, I’d suggest that being just on the edge of the top 4 per cent of global income earners is not something that requires much correction. (And yes, that’s after accounting for price differences across geography.)

This is exactly what is being tried here. This committee of the great and good have certain ideas about what makes the good society – ideas which we may or may not share. But they want their ideas, and their ideas only, set in stone into the one measure that we’ll use to determine our economic performance.

To which the answer is no. No, we’ll not do that.

By all means argue that more or less inequality is good or bad, that local economies for local people are just copacetic, even that the low paid should have higher incomes even – I’ve done that last myself. But don’t include them in one single measure of how well we’re doing, for they’re subjective not objective.

Another way to put this is that GDP is as good a measure as we’ve got of our capacity to do things. For that is what it is: it’s the value being added, that being the same as the value which can be consumed.

The moment we pollute this measure with who is doing the consuming, then we also open it to the certainty that the valuation of what is being consumed will be determined by someone other than he or she doing that consumption. And we’ve enough examples of authorities trumpeting tractor production statistics while the population desperately searches for food to be able to grasp why that’s a bad idea.

Tim Worstall is senior fellow at the Adam Smith Institute