GDP: Gross Domestic Product or The Great Duping Program
By
Col (Retd) Bhaskar Sarkar VSM
GDP is widely used or perhaps misused by governments and economists to measure of the prosperity of countries and to formulate the economic policies. The Indian Government keeps trumpeting the GDP growth rate to convince hapless Indians that they are doing a great job of managing the Indian economy. It is therefore necessary that we critically examine the concept and components of GDP. The concept of GDP was first developed by Simon Kuznet for an US Congress report on the state of economy in 1934.
Calculation of GDP
GDP can be calculated in three different ways namely through the product (or sectoral) approach, the expenditure approach and the income approach. The product approach is used in India. The expenditure approach calculates the total value of the products consumed. This method is used in the US. The Income approach calculates the sum of all the incomes where the incomes of the productive factors are equal to the value of their product. This is cumbersome and not popular.
In expenditure approach, GDP = consumption + investment + (government spending) + (exports − imports). Consumption includes individual consumption which is a major contributor and contributes about 70% to the US GDP and about 60% of Indian GDP. Investment is injection of capital for purchase of capital goods, machinery etc. but excludes investment is shares etc. Government expenditure includes expenditure incurred on infrastructure, defence, salaries of public servants etc.
Components of the US GDP
|
Sr. No
|
Components of the US GDP
|
2010
|
|
1
|
Personal consumption expenditure
|
10362
|
|
2
|
Gross private domestic investment
|
1763
|
|
3
|
Net export of goods and services
|
– 499
|
|
4
|
Government expenditure and investment
|
2974
|
|
|
Total
|
14601
|
Note: The GDP figures in the table are in billion US $. Source: US Bureau of Economic Analysis
Calculation of Indian GDP
A sample report from Q2 2014 showing overall GDP change of 6.9% is given below.
|
Ser No
|
Sector/Industry
|
GDP in Crores
|
% Change
|
|
|
|
|
Q2 Previous Year
|
Q2 This Year
|
|
|
1
|
Agriculture, forestry, fishing
|
131,555
|
135789
|
3.2
|
|
2
|
Mining & Quarrying
|
25590
|
24774
|
-2.9
|
|
3
|
Manufacturing
|
187763
|
192849
|
2.7
|
|
4
|
Electricity, gas, water supply
|
22894
|
25137
|
9.8
|
|
5
|
Construction
|
91556
|
95489
|
4.3
|
|
6
|
Trade, hotels, transport, communications
|
311166
|
342080
|
9.9
|
|
7
|
Financing, Insuarance, real estate & business services
|
208644
|
230627
|
10.5
|
|
8
|
Community, Social and personal services
|
169390
|
180511
|
6.6
|
|
|
GDP at Factor Cost
|
1,148,472
|
1,227,254
|
6.9
|
India has made some important changes in the method of calculating the GDP in 2014. Firstly, the Indian statisticians have changed the base year from 2004-05 to 2011-12. This change alone has played an important part in boosting the GDP. Secondly, it has replaced Factor Cost by market price. Market prices mean the actual price paid by consumers. For example the farmer gets Rs 5 for a kg of onions while the consumer may pay Rs. 20. Market price includes any subsidies that are provided to the consumer. This change is in line with international norms. The sudden spike in GDP or GDP growth rate which resulted from the change in the method of calculation doesn’t mean that our economy has overtaken China’s. The changes made within nine months of BJP coming to power were possibly done to impress the gullible public that the Indian economy had taken off after BJP came to power.
GDP as Measure of Size of Economy
The significance of the size of an economy is not clear. Is it like the size of one’s car which is meant to be the neighbour’s envy and owner’s pride? So what if the US with its GDP of about $20 trillion is rated the largest economy in the world? With a national debt of about $20 trillion, it is also the largest debtor nation in the world. It has the world’s largest annual trade deficit of about $ 650 billion. The latest US Census data puts the percentage of people living in poverty (below $ 22,314 for family of four or $ 11,113 for single person) at 15.1 percent. In comparison, as per CIA Fact book figures, the poverty level in Argentina is 13.9 percent, Indonesia 13.3 percent, Russia 13.1 percent and Thailand 9.6 percent. Household, student, corporate and government debt in the US taken together will soon touch $70 trillion. Is that the sign of the strongest economy in the world?
Criticism of Use of GDP as Measure of the Economy
Use of GDP for measuring the state of the economy produces many aberrations. “Personal Consumption Expenditure” constitutes a major part of the US GDP. The GDP of the US in 2007 was $13.8 trillion and out of that $ 9.7 trillion was “Personal Consumption Expenditure” of the American people. What that means is that if the American people used fuel efficient cars or public transport and consume less gasoline, the US GDP will fall. Economists will say that the economy is contracting. And if that happens, World Bank, IMF and the media will go into a tizzy criticizing the Administration. Similarly, if the Americans used energy efficient CFL bulbs and save electricity, do not trash about $ 34 billion of foods stuff, or change cars, televisions, refrigerators etc. less frequently, and cook at home instead of eating out the US GDP would fall. If the American people saved more and spent less, the American GDP would fall and the size of the US Economy, in the eyes of the statisticians, would shrink. Does this make any sense?
When GDP is used to measure the size of the economy, government policies on interest rates and taxation are designed to encourage personal consumption and discourage energy efficiency. GDP appears to grow faster when people consume with borrowed money and mortgage their futures. The American consumerism which started in the “Roaring Twenties” was based on easy and cheap availability of credit.
The GDP method ignores issues such as damage to the environment. Economic growth at the expense of environmental degradation can produce undesirable long term effects like reduction in forest cover, climate change, reduction in food output and increase in unemployment.
Official GDP estimates do not take into account expenditure where the money is spent in cash and the transactions of goods and services are not registered or taxed. This results in inaccurate or abnormally low GDP figures. For example, in many developing countries like India where many business transactions are done in cash and over 50 percent of the population does not have bank accounts, substantial portions of local economy do not enter the GDP statistics.
Simon Kuznets, the inventor of the GDP, in his very first report to the US Congress in 1934 said “…the welfare of a nation [can] scarcely be inferred from a measure of national income…” In 1962, Kuznets stated that distinctions must be made between quantity and quality of growth. For example, the growth in the GDP due to growth of video games available on mobile phones, computers and the internet comes at the cost of children shunning physical activities like sports and games and studies. The children become addicted, unhealthy, and get poor grades in studies. Increasing production and sale of liquor boosts GDP and tax income but leads to alcoholism, domestic violence, crime and ruins lives. Unfortunately, these aspects are given very little consideration or publicity by economists.
The per capita GDP also increases when the income of the super rich increases and gives an unrealistic picture. The per capita GDP of US for 2009 was $ 46,381. The per capita personal income in the US for 2009 was $ 39,138. (Source: U.S. Department of Commerce, Bureau of Economy). Thus we see that per capita personal income was substantially less than per capita GDP. It will be obvious that per capita GDP gives a misleading picture about the standard of living of people.
GDP Growth Rates
IMF, World Bank, rating agencies and most governments consider GDP growth rate to be the most important statistics that reflects on their ability to manage the economy. If a country has negative GDP growth for two successive quarters, the economy is supposed to be in recession. Since most developed countries have given up manufacturing most of what they consume, they find it difficult to show a positive GDP growth rate. Some common measures taken by governments to show a positive GDP growth rate in the short term include supporting real estate. In the US, the Fed and other government agencies kept encouraging the real estate sector to go on building houses without ascertaining whether buyers were available. The building boom created jobs and boosted prices and GDP. Then what happened? The bubble burst in 2007 and every one, particularly the poor and the middle class, were hurt.
The governments also encourage individuals and corporations to borrow and consume in their quest for showing a positive growth rate. There is very little scrutiny of the payback capability or debt worthiness of the borrower. As a result Indian banks have accumulated bad debts of over Rs 8,00,000 crores.
Jobless growth is another product of government policies that seek GDP growth through investment. The US GDP grew by about $ 146 billion dollars in 2010. But it did not create any jobs. Instead, some highly paid jobs in finance were replaced by low paid jobs in hospitality sector. Walmart is taking over Flipkart in India by investing $1.2 billion. GDP will grow but no jobs will be created. Some jobs could be lost. What is the good of growth that does not bring prosperity to the ordinary citizen? The unemployment situation in India has reached crisis proportions.
Governments often ignore the sustainability of GDP growth. A country may achieve a high GDP growth for a short period by over exploiting natural resources or by allocating investment in the wrong sector. For example, the large deposits of phosphates gave the people of Nauru one of the highest per capita incomes in the world, but since 1989 their standard of living has declined sharply as the deposits of phosphate have run out.
Continuous growth is alien to nature. A child will grow faster than an adult. An adult will grow old and decline. Developing countries will grow at a faster rate than developed countries while developed countries will struggle to achieve a positive growth. Have we forgotten the “Marginal Productivity Curve?”
Use of GDP and GDP Growth for Financial Policy Making and Planning
It will be seen from above that GDP is a very unsatisfactory and unrealistic method of calculating the size of an economy. In any case, the size of an economy means nothing. Each country is a different entity with its own social and economic history, geography, demography, natural resources, state of development and the needs of its population. The economic policy of a country must try to satisfy the needs of its ordinary people and not the interest of the richest one percent of its people, the profit needs of big business and multinationals or the needs of another country.
To be an effective tool for economic policy making and planning, the state of an economy should be measured by a cluster of indicators like the Human Development Index (HDI), the Ginny Index, which reflects the economic disparity in a country, household, corporate and credit card debt and Median income and its growth. However, while calculating median income, the income of the top one percent must be ignored. Other indicators which should be used are percentage of people below poverty line, unemployment rate, National Debt, Public Debt, household debt and External Debt, foreign exchange reserve, industrial production, agricultural production and its rate of change and trade and current account deficit.
Per Capita GDP does not reflect the prosperity of the people of a country. It should not be treated as an index for any kind of economic planning. Any poverty alleviation program that is based on per capita GDP will only benefit big business and not the people whose poverty needs to be alleviated.
GDP growth rate should never be a factor in economic planning. Poverty alleviation, income growth of individuals, employment generation, infrastructure development, environment protection, conservation of natural resources, balanced trade, inclusive and sustainable growth should be objective of economic planning at all levels.
Why are Questions Raised About our GDP and Growth Rate
The Central Statistics Office (CSO) has changed the method of calculating GDP from GDP at Factor Cost to GDP at Market Prices and changed the Base Year of calculation of GDP from 2004-05 to 2011-12. As a result the growth of the Indian economy is projected to accelerate to 7.4% in the current fiscal compared with 6.9% last year making it the fastest growing major economy in the world. These figures are met with a lot of scepticism. This is because the revival is not reflected in other economic data like tax collections, credit growth or general business activity. Stressed corporate balance sheets are hindering a recovery in private capital spending. Rising bad debts and wilful defaults are making banks wary of lending. Farmers are in great distress. Economists are particularly surprised at the higher sectoral numbers for the manufacturing and financial sector reflected in Indian GDP calculations because this is not reflected in data on factory output, bank credit and corporate sales numbers.
Conclusion
The reality is that 25 million young Indians have applied for 90,000 worker level jobs in Indian Railways. A milkman said to Modiji, “Sir, petrol has become so costly that people are buying less milk.” A student said, “Sir, there is no money in the ATMs. I have to pay fees.” The accompanying minister said, “You idiots, don’t you know that our GDP is growing at 7.5% and soon we will be the third largest economy in the world. World Bank and IMF are praising Modiji and our economic policies. Keep BJP in power till 2029 and you will be bathing in milk and honey.” Modiji does not speak except at election rallies, seminars and inaugurations, to foreign admirers or on “Man ki Bat”. So he did not say anything.
As intelligent and informed citizens of a democratic country we must be aware of the ground realities before judging and praising our government and its policies. One must examine GDP and related numbers by keeping other statistics like unemployment rate, population below poverty line (BPL), power consumption and cement consumption, etc. in mind. These numbers and the realities they represent don’t change overnight with the change in GDP calculation methods or data manipulation.
For those who swear by GDP, “Long live GDP, the Great Duping Program.”
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