Monday, 17 February 2014

Does GDP make sense?

Economists are keen to study data about countries - data and economists often go hand in hand that it's difficult to separate them at parties.

The fundamental data that we introduce to students involve looking at gross statistics (in the sense of 'big' rather than 'ugh') such as Gross Domestic Product, Inflation Rate, Unemployment Rate, Interest Rate, etc.

We present these as having some meaning.

And therein lies the problem that has beset economic thinking for the past century.

Data are representations of what we think is going on. Take that in a second time - a representation of a mental representation. Like Plato's artists whose pictures are representations of the phenomena we perceive which in turn are representations of the true Forms (which we cannot see), economic data are very removed from what actually may be the case. Notwithstanding this tertiary representation, the data are then used by governments to set policy targets or compare their performance with other countries - are our hand shadows doing better than theirs?

How can a nation's wealth or the value of its production be assessed?

Try doing this with your own time during the day. I'm currently writing an article - it will never appear in the GDP statistics of course, and if it happened incidentally through any advertising revenue the click through ads might add to my declarable income, it would not reflect in any way the time or value of that time I'm currently using to write it. What if the advertising revenues came a year later? How would we then assess the value of this article? Or what about the twenty minutes I spent ironing clothes for the family, or the half an hour's dinner and table conversation we all enjoyed earlier, or my wife's preparations and coordination in our business office for which she goes unpaid?

The idea that someone could create a figure representing the value of my productive day (only part of which involved monetary remuneration) suddenly becomes ludicrous.

The idea that someone - or a department of statisticians - could create a figure representing the value of a country's productive output is beyond ridiculous.

Yet politicians and economists (who should know better) and think thanks (or unthink tanks) throw such figures around as if they were entities.

It's like the word "economy." There is no such thing as "the economy." There are millions of people interacting and producing and consuming and not producing and not consuming and biding their time and holding on to things or throwing them away...billions of decisions committed daily which make up the millions of markets that generate price activity in their respective markets. There is no entity called "the economy" standing like some medieval troublesome beast casting spells and curses upon people's lives. (Nah, governments do that).

So to say "the economy's GDP grew by 5% last year" is basically a completely meaningless statement.

We can, nonetheless, generate some meaning from it, as we can from any metaphor.

Given that measuring GDP is an inaccurate science, we can admit that changes to the inaccurate measurements over time are comparable, so long as the same techniques are used by the statisticians of course. "Our estimates of what we think may have happened last year seem to show, as best as we can tell from our inaccurate assessments, that there seemingly was an addition to the resources of the fictitious entity called the economy..."

Would we give the politicians or central bankers any credence should they admit how inaccurate their techniques and concepts are?

Statistics developed from William Petty's seventeenth century analysis of exports and imports of England (his book was called Political Arithmetick). As a member of the Royal Society, we could imagine that he was curious about the wealth of England, but, like William the Conqueror's Domesday survey, the implication of Petty's attempt to record national data was gathered to assess what taxes could be garnered from foreign trade. Statistics is indeed derived from state. 

More importunely, Petty's philosophical zeal for data collection (much of which was useless) was part of the zeitgeist - an echo of Pythagorean philosophy that the entire universe was knowable through number. The latter day Pythagoreans of the Royal Society proceeded to mathematicize every aspect of the physical and human world producing the rationalist Eighteenth Century and the notion that the universe was like one giant clock - the clockwork universe presented measurability and predictability and underscored Newton's breakthroughs in physics. However, when applying numbers to human action, to psychology or to innate attributes or aesthetic sentiments, the entire endeavour collapses.

As Murray Rothbard notes:

The 17th-century enthusiasm for the sciences, building upon the quasiunderground age-old numerological mysticism of the hermetic and Kabbalah tradition, led to an arrogant frenzy of enthusiasm for quantitative and mathematical study of social life as well among the scientists and especially their cheering sections. (Austrian Perspective of Economic Thought)
 The passion for numbers clashed with other epistemic traditions that value is innately subjective or that a number cannot be put on many human transactions and assessments. "I love that view!" "That painting is priceless..." It reminds one of Oscar Wilde's quip that "he knows the price of everything and the value of nothing."

Wilde was, perhaps unintentionally, echoing Jonathan Swift's satirical attack on the numerologists and statisticians in his famous A Modest Proposal, which Rothbard believes suitably demolished the fallacies of the statisticians.

Yet the love of number and the attempt to reduce human phenomena to quantities did not ebb. It indeed gained momentum. Today we witness text books presenting complex priest-like mathematical incantations about the state of the economy and (of course) government policy.

I mention priest-like because the ancient Egyptian priests were deemed to have kept knowledge of the seasons, the flooding of the Nile, the movement of the stars, etc, to themselves in order to empower their class over the rest of the people.

Economists do the same thing today.

Behind the diaphanous GDP fairy though sits a true beast: GDP measures the final output of the economy, which means it focuses on the final stage of economic processes, or what we normally call consumption. That seventy more apples were consumed this year compared to last suggests economic growth ... even though the seventy apples may have been taken from a tree destroyed in the wind or cut down for firewood. (So the following year would create a recession in our apple tree economy...ignoring the planting of five new trees to compensate for the recent loss).

The assumption made is that consumption drives changes in GDP, so it's not surprising that statist economists focus on the need for governments to spend more money to get the economy out of a recession. Spending increases G and C in the Keynesian paradigm of Y = C+I+G+(X-M) and so causes GDP to rise - sometimes through a magical multiplier, another alchemist assumption cast into the modern economist's brew!

Yet economic action is not at all about consumption (no wonder economists gain the ire of the rest of the academy from sociologists to theologians): action is about supplying services to oneself and more importantly to others, and many of those services are not part of the final consumption stage - they dissolve into the many stages of production, often with barely an accountable ripple.

E.g., if I teach someone to work more productively over a cup of coffee and they proceed to increase their output, it will neither enter the GDP statistics nor into the theorising of statist economists, who only see people consuming.

And we've not touched on the notion of what economic entity is supposedly being measured here. The modern world divides into nation states - so we measure the GDP of nation states: we are not interested in the GDP of London versus Paris, but the UK versus France. But what are these entities except transient political constructions?

Fairy tales are fun...except when they are used for policy!

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