Summary of the book "GDP: A BRIEF BUT AFFECTIONATE HISTORY". The concept of GDP was introduced in the 1940s. GDP was a good measure for growth of industrial economies after the Second World War. Now, many developed countries live in the era of service economy and globalization. It makes measuring GDP less reliable. GDP growth now is not a good proxy for social welfare or sustainability. GDP is an important figure though since a country's borrowing is typically measured compared to it. This book was published in March 2015.
From XVIII Century to 1930s
GDP was invented during the Second World War. A British scientistWilliam Petty first introduced statistics to estimate the country resources for financing a potential war in 1665. He also first introduced the method of double-entry bookkeeping for a country. Having such statistics was a competitive advantage for the UK those days. Adam Smith accounted only for physical commodities, agriculture, and industry to calculate the national income. National’ wealth was a difference between the stock of physical assets and the national debt. Adam Smith also claimed that there were productive and unproductive employees. For example, a servant didn’t create anything and was a cost for the employer. This approach was widely adopted during the XIX century. Alfred Marshall was the first who stated that wealth consisted of material and non-material wealth. Services were added to national income. It was in 1890. The Great Depression increased the need for measuring statistics to navigate through downturns. Initially the government played a small role in the economy mostly related to taxes to finance wars. This is the reason that for centuries economic growth was tracked only for the private sector. In XX, however, the governments played a more significant role so their effect was added to the equation. The GDP concept was useful during the recovery period after the Second World War since all the resources were limited in the post war world.
The nature of GDP
The exact definition for GDP is pretty sophisticated because it should account for many things and employ sophisticated statistical methods. For example, it’s harder to measure the output of services compared to the output of a tractor.
GDP can be measured in 3 ways:
1.Value-added approach = Gross output [gross sales - change in inventories] - intermediate input
2.Income approach = Compensation + Rental income + Profits + Taxes on production and imports - Subsidies + Interests + Depreciation
3.Final demand approach = Consumption of final goods and services by households + Investment in plants, equipment, and software + Government expanses (excluding transfers for welfare or pensions) + Exports - Imports
In theory all the spendings in the economy is equal to all the income in the economy of a country, but in reality we constantly see discrepancies. If nominal GDP grows thanks to inflation, that’s a bad signal. For this reason economists calculate general price index (the GDP deflator) to compare GDP for different years in prices of a given year.
Golden age of 1945-1975
The world after the Second World War was in ruins, but unlike after the First World War victors didn’t impose huge reparations and created international Institutions to aid and support poor countries. Today the World Bank publishes GDP comparisons for the countries and the global economy. But after the war the role of GDP was crucial to navigate governments in their journey to recover their countries. That led to 30 year growth, low inflation and unemployment rates. Since GDP doesn’t account for assets accumulated it was natural it grew after the war, because all countries were rebuilding the destroyed infrastructure. Economists believe that the main drivers for growth were availability of resources (mainly labor and capital) and improvements in the use of those resources (technical progress). Growing the educational level of the workforce was also crucially important. Military innovations were also actively applied for civil purposes. The growing income of the general population drew consumption growth.
Crisis of capitalism in 1970s
In the 1970s, capitalism experienced problems for several reasons:
1.Economies switched from strong to steady growth or even recession combined with high and accelerating inflation (stagflation). OPEC dramatically increased oil prices in 1973 and 1975 which made recession unavoidable.
2.Intensity of Cold Was made pressure on the economies since for now western countries didn’t know how bad things in the USSR really were.
3.Emerging environmental movement which claimed that all the resources will be exhausted by 2070. Political debates about sustainability made pressure on the economy.
4.Poor developing countries had been free from colonization for 10-20 years and received considerable aid from developed countries. Yet they were not growing fast due to corruption and proxy wars.
In 1950-1969 immense growth and improvement of living standards happened in developed countries. Unemployment rates were between 0.5% and 4%. Many diseases became curable, many inventions were introduced, services like air travel became affordable for a wide audience. Youth protested and fought police not because of poverty, but rather comfortable prosperity. The problem was that governments used stimulation of economy growth too often to avoid crises so that they exhausted this lever. The whole generation grew sure about constant growth and always having a job. Salaries were always growing. In 1975 however the UK experienced 25% inflation with almost zero GDP growth, while the US faced 10%+ inflation and GDP decline.
Between 1945 and 1970 global GDP tripled and the population grew from 2.5 bln. to 4 bln. It also led to a growing environmentalist movement in developed countries. People in those countries started to live better to have the ability to ponder about environmental issues rather than struggling to find food.
The new paradigm till 2005
Transformation of Reagan-Thatcher in the US and UK was a response to the crisis of capitalism in the 1970s. It was the era of deregulation of the economy, privatization of state-owned corporations, and supporting entrepreneurship with a focus on stimulating supply instead of demand like it was previously. The governments focused more on fiscal policies instead of monetary policies. Economic models of growth developed in the 1980s and onwards explained the contribution and mechanics of technology impact on the economy. It was also the era of mass applications of personal computers and the internet. Businesses used computers starting in the mid-1980s, but their effect on the economy wasn’t obvious before mass personal computers. It gave birth to the new era of capitalism. The US GDP declined only for 2 quarters between 1991 and 2007. Annual productivity grew from 1.38% in 1972-1996 to 2.46% in 1996-2004. Some economists start to talk about the New Paradigm of economy which will not face crises again. Technology also leads to decrease in prices. To be precise the prices grew, but the quality of products grew faster (for example for the same price one could afford a more powerful computer).
XXI Century GDP
Global financial crisis led to reevaluation of financial sector calculations for GDP purposes. For example, the financial sector in the UK in Q4 2008 contributed to national GDP as much as manufacturing which was weird given the Lehman Brothers crash in the US. The trick is that in good times the sector can take higher risks and report higher profits. Those risks are realized during the downturns.
In 1987, Italy changed its approach to calculating GDP and increased it for about 20% overnight by adding unofficial economy (estimated earnings of tax avoiders and informal workers). Informal economies can have a big share of GDP in emerging countries, in countries with high regulation barriers, or in countries with high share of individual entrepreneurs and self-employed. For example, the informal economy amounted to 7% GDP in the US, 20% in Italy, 25% in Greece, and 35-44% in poorer economies. It’s growing globally due to growing taxes and restrictions in employment regulation. Family production for its own use (cooking, cleaning flat, babysitting, vegetable growing, etc.) is another big chunk of the informal economy which is not accounted for in GDP. Time spent on home production has been growing for decades. There are ongoing discussions on how GDP should be adjusted or displaced by other metrics measuring happiness and production impact on the economy.
Modern economists should deal with:
1.Complexity of new economy, global trade, etc.
2.Growing share of advances economies with big share of services and intangible assets.
3.Urgency in dealing with addressing sustainable development.
