The ups and downs of GDP
Economic policy can achieve results only if policy makers – and the voters to whom they are accountable – know what is happening to the economy. Understanding the economy as a whole depends on the available statistics. So economic statistics shape policy and events, and the most closely watched measure is the growth of gross domestic product (GDP).
Growth in real GDP is one of the important factors explaining the popular vote in many developed economies. So it is right for policy makers to pay attention to it, because after all, unemployment and household incomes depend on its growth.
Yet far too much attention is paid in the media and policy debate to the publication of GDP estimates. Inclusive growth has many more facets to it than these quarterly statistics.
Measuring growth is not like trying to estimate the height of a mountain; GDP is not a natural object but an artificial construct. There are many uncertainties and adjustments made in creating the national accounts statistics, and the margin of uncertainty is so large that it makes no sense to put too much weight on the difference between, say, a 0.2% and 0.4% change in GDP in one quarter.
Of course, GDP has plenty of critics. Some make the case for zero growth, despite the evidence that most voters would probably not welcome this. Others have argued for alternatives to GDP that adjust it for the negative side effects of growth, such as pollution and other environmental consequences, crime, and inequality. One problem with this approach is that it ignores some positives that are not captured in the statistics, above all the benefits of innovation. Growth nowadays is largely dependent on innovation. Despite efforts to adjust for quality improvements in some items, such as consumer electronics, the statistics do not remotely capture the gains from new goods and services.
The debate about alternatives to GDP is in fact marked by confusion between economic activity and social welfare or well-being. GDP is a measure of economic activity; it assesses spending or output. Before its introduction during the Second World War, some economists, notably Simon Kuznets, argued for the introduction of a measure of welfare instead, but the demands of war production won out. Critics of GDP now are essentially making the same argument for a measure of social welfare instead.
Their point is entirely valid. We should want policy to pay attention to the factors that contribute to well-being, as well as to economic growth. But it is a mistake to try to combine all of these factors into a single indicator as an alternative to GDP. To do so buries the trade-offs that exist between different aspects of well-being, and also an implicit assumption about how much weight to put on each aspect. A “dashboard” such as the OECD’s Better Life Index (BLI) makes the components and weights explicit, and can inform the policy debate in a constructive way.
However, there is room for improvement in this and other dashboards, which are in their early days. Voters in different countries might want to include different components more in line with their view of well-being, as well as putting different weights on them. It is also important to present changes in the dashboard over time, in an intuitive way, because it is whether or not things are getting better that holds policy makers to account. Data visualisation tools, such as the interactive and shareable ones found on the OECD website, can make an important contribution. As they are interactive, user feedback could in time influence their development.
The other vital issue is measuring sustainability, or the trade-off between the present and the future. Including indicators of environmental quality in a dashboard is only a start. Sustainability has multiple dimensions, including the financial and social aspects as well as environmental. Ideally, some would be incorporated in a performance dashboard.
Sustainability is a question about whether people in the future will enjoy at least the same standard of living as we do now. Are we devouring today’s capital at the expense of tomorrow’s resources? No dashboard can fully answer that question because it requires assumptions about future growth, technology and behaviour, but we could make a start by looking at the net saving or dissaving of different kinds of assets, from the financial and physical assets of the economy, to human capital and natural capital.
Collecting and presenting all these statistics is no small task. Measuring the economy in a way that will direct policy towards social welfare as well as economic growth is a vital task, though, and at least we have made a good start.
* Diane Coyle is author of GDP: A Brief But Affectionate History, just published, 2014, Princeton University Press.
Coyle, Diane (2011), The Economics of Enough: How to Run the Economy as if the Future Matters, Princeton University Press.
OECD Forum Speakers Series: Getting the measure of economic progress
Diane Coyle, Professor of Economics, University of Manchester*