Some Aggregated Data
What is ‘real GDP’?
Does it differ from the unreal?
“Real” Gross Domestic Product (GDP) is a misnomer, really. ..What, after all, is more real than today’s currency? ….Well, for the orthodox economists of today it is a flat dollar, one from which inflation has been removed (in theory anyway). The flat dollar is a pretend dollar, naturally.
Yet, any credit~based economy must have some degree of inflation always present, due to the nature of how credit is created in the economy’s normal working. ..This may be termed ‘background inflation‘ and it will always exist.
It is simple enough to demonstrate why: ..Just think of a bond issue to raise funding for some purpose. The bonds are sold and the issuer now has the means of spending that amount on whatever the project might be.
Of course, every buyer of some bonds rates them as an asset, one that pays them interest for however long it is until they mature. ..For the issuer, the bonds are a liability requiring a stream of interest payments for the life of the bonds, plus repayment of their face value at the end.
Say this is 20 years, and calculate the present value of that stream of future interest payments, plus the end repayment. Using a reasonable depreciation rate to account for expected inflation, this calculation typically will show the present value of those future payments is less than today’s face value of those bonds.
Though even were it not, the money received now is spent now and that spending has a multiplier effect, as the recipients will do spending of their own in turn. ..Due to the increased demand, vendors can charge more or discount less. Prices rise somewhat, and there is the background inflation. It exists because of created credit, in this case an issue of bonds.
GDP
This is a statistical figure that purports to show the total output of an economy during a specified stretch of time, as expressed in the relevant currency. It is necessarily an estimate.
‘Real GDP’ is that figure deflated by an index that relates it to some arbitrary base period. ..The claim is that this removes inflation from today’s figure by expressing it in units of base period currency. ..As such, it is an artificial construct.
Now GDP is an aggregated figure, a summing of a good many component parts, each one being an estimate of the output of some small component of the entire economy during the period in question. ..And being an estimate sports error bounds, somewhere within which the actual value should lie (unless it does not, as will be the case occasionally). ..Where exactly within the bounds the actual figure rests is not known, though it is most likely to be nearer the middle of the area than closer to either boundary.
So today’s estimate of GDP is somewhat uncertain, being a summing of many estimated figures.. The hope is that the various errors involved are random, (some too high and some too low) and largely cancel each other out. ..[One can always hope.].. Sometimes, however, the estimated figure will not be so near whatever the actual figure is, with no way of knowing when that occurs.
Next, to obtain the ‘real’ figure means dividing it by an index figure which itself has error bounds. So the division is of one uncertain figure by another uncertain figure, which — no question — yields a result with wider error bounds, than either of those two. ..The ‘real GDP’ figure is more iffy than today’s GDP estimate, which makes it a bigger guess.
Similarly, if one creates a stream of increases in GDP by subtracting the previous period’s figure from the next one, these differences have wider error bounds than either GDP estimate alone.
Hence, there is great uncertainty whether those figures have meaning. ..This procedure should not be trusted: it really should not be used; ..and for certain, if it has been used in an econometric exercise, ignore the econometric statistics because they are unreliable.
Modified Aggregates
To Highlight What’s Important
Consumption (C) is expenditures by the end users of goods and services within an economy. Other than imports (M), what is used is produced therein, as also are exports (X) sent elsewhere. Adding up all such expenditures, minus net imports, gives the estimated total activity in an economy for a stated period, usually one year. This is called GDP, Gross Domestic Product, and here it is __GDP=C+X-M.
These are purchases for consumption, not purchases by a business that uses them in its activity to produce the service or goods it sells. However, gross purchases don’t tell us much about economic activity, so traditionally two groupings are carved out of C — one is purchases made by Governments (G) of all levels, municipal to national; the other are those relating to capital investments by businesses (Iz). So now __GDP=C+G+Iz+X-M.
Note that if an imported car is purchased, it matters who does so and for what purpose — if for personal use, it falls under category C and so is Mc, while all other purchases may be termed Mn, where ‘n’ denotes ‘not c’. __GDP=(C-Mc)+G+Iz+X-Mn.
__<<Also note that due to the stupidity of ‘globalisation’ Mc has grown large, and so has Mn as industry imports components that used to be made locally. Globalisation has mainly benefitted giant corporations, who have extended their supply chains into low wage areas of the world and have disemployed millions in the formerly well developed economies — where income disparities have widened and crap jobs have proliferated, and where the managerial class has grown increasingly callous.>>
Modifying _G
Traditionally, G simply lumped all gov’t expenditures together, so that infrastructure investments in bridges and social housing and cell phone towers was not separated from ongoing expenses like air travel, hotel room rentals, advertising, telephone service, and supplies.
Obviously, this needs changing. The investment category should be expanded to become: _Iz+Ip+Im+Ih, where these are respectively: _bzzness; public; military; and household capital spending (this last being for housing, including second dwellings such as cottages). Now, in order not to clutter things up unduly, we can re:state some items, so that_ C’=C-Ih, while G’=G-(Ip+Im) giving us __GDP=(C’-Mc)+G’+Iz+X-Mn.
By the way, G relates only to purchases while excluding transfers of money, because it is the recipient that will do the spending. As instance, any transfer from a Province to a municipal gov’t must be excluded from the Province’s spending in order to avoid double counting. Similarly excluded are transfers to individuals, such as pensions and social benefits, and to businesses in the form of grants or subsidies. Such transfers are large — often about half the budgets of senior levels of government consist of various transfer payments.
Something a bit different …
Now we take a short detour in order to explain the next modification to be made. As is often the case, the Wealth of Nations provides a useful quote, an observation Smith made and did little with (a frequent phenomenon). The following is how chapter III of book II begins [paraphrasing]:
“There is one sort of labour which adds value to what it is applied to, and another which has no such effect. This is the distinction between productive and unproductive labour. Thus, the labour of a workman typically adds value to the materials he works on; and the value of his wages together with a profit can be found in the improved value of whatever his labour was bestowed upon. But the labour of a menial servant adds value to nothing… A man grows rich by employing a multitude of productive workers; he grows poor by maintaining a multitude of menial servants.” __{deliberately using ‘multitude’ for effect is a common feature of Smith’s style, which often amounts to propaganda.}
Those servants, however unproductive, nonetheless earn an income. So is their labour to be included in arriving at the output of an economy? Smith says not, nor is this only about menial servants. _ “The labour of some of the most respectable orders in the society is unproductive. This includes some of the gravest and most important of the professions, as well as some of the most frivolous. The whole army and navy are the servants of the public and are maintained by a part of the annual output of the industry of others. So too are churchmen, lawyers, physicians, men of letters of all kinds, players, comedians, musicians, opera singers, etcetera.” [paraphrased, of course]
Note that educators and doctors are lumped in with actors and comedians (buffoons was his word). Not many economists agreed with this position in the years to come, but one who did was J.S.Mill, who put the matter rather well in his 1848 work: Principles of Political Economy, which soon was widely used as a textbook.
“The three requisites of production are labour, capital, and land. … Since each of these elements of production may be separately appropriated, the industrial community may be considered as divided into landowners, capitalists, and productive labourers. Each of these classes, as such, obtains a share of the produce [output]; no other person or class obtains anything _except by concession from them. The rest of the community is in fact supported at their expense, giving [in return, if anything] … unproductive services.” {book II, chapter III, first part — italics added.}
Perhaps a useful analogy here is a household with one breadwinner whose income is spent by several members thereof. Clearly, the spending is not all by the one with outside income, but also by the others who receive some of that money transferred to them. No income; no transfer; no spending by the others. __The same would hold true of money transferred to a cleaner who comes in twice a week. Since having a clean house contributes nothing to national output, the cleaning of it should not be part of GDP. And there are plenty of similar examples among personal services.
Excluding most services …
Aggregated incomes is another way of measuring the output of an economy, and should match GDP in size. But if the cleaner reports such income — which has already been reported as income of the breadwinner — this would be double counting in the National Accounts of incomes. Avoiding this overall entails excluding what is paid for such personal services from the aggregated incomes tally (since it is money transferred). And thus the total of incomes becomes that much less by deducting such transfers.
Of course, total expenditures must also decrease by the same amount, by what is paid in total for such services. By decreasing both aggregated incomes and aggregated expenditures by a like amount, they will still match though at the lowered level. That is to say, GDP will be smaller than now by the amount paid in total for such services. Yet, these services constitute a large component of overall economic activity, and though they may no longer be considered a part of the GDP tally, they should nonetheless still be kept track of.
<<note: Using ‘aggregated’ in the foregoing rather than ‘aggregate’ is a reminder that these overall figures are tallies of amounts from diverse activities, and since they usually are estimates, and as such have error bounds, summing them creates a total with wider error bounds. ..Which means using the aggregated figures for such things as estimating an ‘output gap’ in a real economy (as distinct from in a model of an imaginary one), carries with it great uncertainty as to whether any figure obtained is meaningful, given overlapping error ranges that may be wider than the theoretical gap being estimated. The stuff of economics does not lend itself to fine distinctions. Which rather justifies Maynard Keynes’s saying he would rather be ‘roughly right than precisely wrong’. >>
A Better Understanding …
The current conception of GDP is misleading because everything is lumped together, the important and the less important, with the focus on consumption and consumers. Instead, the focus should be on what is actually important for wealth creation in the traditional sense. Adam Smith’s menial servants are not part of it.
Economic activity should be thought of as being in one or other component part — in the primary, or in the secondary whose income comes from the primary part. Admittedly, this is not immediately obvious because so much of secondary income arrives via government (for health care, education, social services, and so on) and from spending within the secondary component (lawyers dining in a restaurant, as instance).
It should be needless to observe that a social services orientation is expansion of the secondary economy. To the extend this increases imports of consumer goods, this flow must be paid for by increases in exports coming mainly from the primary sector. Those who decry a “growth” economy typically don’t realise this.
Attention needs to be on the primary parts of an economy if we are to better appreciate how it may thrive. A ‘consumer only’ orientation creates an obscuring fog, so much so that some anticipate with evident approval the advent of a “services economy” as the next step in modernity. The more committed theoreticians go so far as to define a service industry narrowly as providing ‘deliverables’ that are intangible, immaterial, ethereal. Sarcastic though it be: “Can anyone thrive on virtual food?” is the only reasonable response.
In economics, services are necessarily more broadly defined — something tangible is usually also part of the service provided, like the dry cleaning of clothes. Service vendors hiring each other is like a dog chasing its tail: round and round it goes. A services-only economy is a crap concept. Some small country or region where tourism provides much of the earnings is one example of a services economy. A tax haven entity is one; another is some minor entity where casinos and brothels provide most of the earnings. Clearly, an economy in which primary activities dominate is more dignified.
The primary component
What activities are in the primary component? It is a familiar list of long standing : agriculture; fishing; forestry; mining; construction; and manufacturing are the major ones. Note that food processing relies on agriculture and fishing, and thus the food supply (surely a vital part of any economy) is largely of the primary component. Much of it is consumed by those in the secondary; while restaurants and take-away vendors are significant buyers. The secondary is an important market for businesses in the primary.
It is arguable that operation of certain public services are of such fundamental importance to industries of the primary component as to warrant their inclusion in it. Transportation especially comes to mind, in particular the movement of goods by ships and railways, if not also by highway trucking. Their inclusion is likely. But then, what of parcel delivery service within cities, or public transit of people, or of air freight? These I think should remain in the secondary component, along with the postal service.
Perhaps also to be included are operation of certain basic sanitation services such as water and sewer and garbage disposal. Important as these no doubt are, nonetheless they don’t directly contribute to wealth creation in the traditional sense. Would there really be any point in putting them in the primary component of an economy?
Electricity production and other ways of using wind, water and solar power are a branch of manufacturing. Maintenance of the electricity grid and of roads and waterways could be included in the primary — perhaps also of pipelines, though this is less certain.
Means of communication are an even more iffy proposition in this regard. Perhaps the only one sufficiently fundamental to warrant inclusion is maintenance of communication satellites. The internet as such, though, should not be included, given the prevalence of social media and entertainment thereon.
Obviously, this sort of discussion can run on and on. But enough has already been related as to give an indications of what considerations are involved. The basic point is that an economy’s GDP should not include every and any sort of business activity, or service provided, but only the primary ones whose output is wealth creation in the traditional sense.
It will be pointed out that the primary component may be smaller than the secondary. Yes, and where that is the case it reflects poor past policy choices — like “globalisation”, which amounts to making the local policy congruent with large corporation priorities; of making consumerism more important than local production and the job creation it provides; of handing over to the next generation a weakened, skewed economy of dimmer prospects for the bulk of its inhabitants.
Regarding most everything else as secondary activities, however useful these may be, will serve to focus attention of the political arena (policy development), academics, and commentators on the structure of the primary component of an economy. Which is as it should be — but now is not. The fundamentals are being lost in a fog of consumerism.