19 January, 2015Issue 27.1EconomicsPolitics & SocietySocial Policy

Email This Article Print This Article

GDP Fetishism

Ramin Nassehi

Diana Coyle
GDP: A Brief but Affectionate History
Princeton University Press, 2014
£13.95 (hardback)
168 pages
ISBN: 9781400849970

Gross Domestic Product (GDP) is arguably one of the most influential concepts of our era. Our politicians, media, corporations, even celebrities, are obsessed with the slightest change in this indicator. As increasing economic growth has become an end in itself in both developed and developing countries, we have come to fetishize GDP. Yet despite its pervasiveness and importance, a general audience often knows little about this abstract measure. Diane Coyle’s latest book, GDP: A Brief but Affectionate History, addresses this problem. Coyle succinctly explains the strengths and shortcomings of GDP in an accessible but academically rigorous manner. As its name suggests, the book defends GDP for still being useful despite its many flaws.

Coyle starts her book with the history of national income accounting. She argues that seventeenth century wars provided the initial impetus for states systematically to measure the size of their economy in order to gain better information about their tax base and consequent financial capacity for military development. Coyle then follows the evolution of indicators used for measuring the economy up to the invention of GDP during World War II. By doing this, she shows how the definition of “economy”, and the indicators devised for measuring it, have changed over time depending on the needs of states and the broader historical context. We should therefore bear in mind that GDP, like the indicators that came before it, measures a fluid concept defined as “economy” rather than an unambiguous physical object.

As Coyle explains, GDP is a flow variable that measures the performance of an economy in a given period of time. This variable captures the sum of all incomes including wages, rents, profits, interest payments and so on in the economy, which is equal to the sum of all expenditures by households, businesses and government (because one person’s spending is another person’s income). The sum of all incomes is in turn automatically equal to the sum of the added value of goods and services provided by businesses. Hence growing GDP means growing aggregate income, expenditure and production in a country.

Over the past two decades, GDP has suffered numerous philosophical criticisms for concentrating on a very narrow aspect of human well-being. The most well-known of these criticisms has been that put forward by Nobel Prize-winning economist Amartya Sen. Sen argues that GDP ignores other aspects of well-being such as access to education, health care and political rights that are as important as economic welfare. In addition, as a flow variable, GDP does not take into account the problem of environmental sustainability. For instance, if a country engages in deforestation to create more space for agricultural development, GDP shows an increase in economic activity and fails to reflect the long-term cost of this environmental degradation. Moreover, GDP does not value the domestic household activities often provided by women, such as childbearing and rearing, as these activities are not traded in the market.

Coyle does not think these criticisms should push us into discarding GDP altogether. Instead, we should complement this measure with other indicators to better capture human well-being. The United Nations Development Index, inspired by Sen’s ideas, is one such indicator; this index measures life expectancy, infant mortality and access to education alongside GDP per capita. Environmental economists have also recently augmented GDP to capture the externality effects of various economic activities, creating the Sustainable Economic Welfare Index. In parallel with these efforts, economists like Joseph Stiglitz have been advocating the “dashboard” approach that entails looking at several indicators (including GDP) together, rather than constructing single indices. Among alternative measures for well-being Coyle is particularly critical of the so-called “happiness approach”, which has become increasingly popular. As its name implies, this approach attempts to measure the level of “happiness” in a society as the most important indicator of human welfare. But for Coyle such an approach suffers from various methodological and philosophical shortcomings. For instance, the frequent changes in the subjective mood of individuals pose a major difficulty to accurate measurement, while the “hedonic treadmill” effect, which refers to the tendency of individuals to get used to their living conditions, presents a serious philosophical challenge to considering happiness as a suitable indicator for well-being.

After addressing the various philosophical critiques of GDP, the book deals with the practical shortcomings of the concept as a measure of economic activity. By nature, this indicator only focuses on the changes in the quantity of goods and service produced in an economy and therefore fails to take into account the change in variety and quality of those goods and services. This focus on the quantity of production goes back to the Fordist era of capitalism, where mass production of industrial goods dominated economic activity in Western countries. But this kind of indicator is less suitable for measuring today’s increasingly service-oriented economies in the west, where quality and variety matter most. For instance, GDP cannot accurately measure the value created by nurses, teachers and accountants, or capture the massive improvements in variety and quality of laptops produced in these economies. GDP also omits the economic benefits of free information services that are offered by the internet. For these reasons, Coyle believes that GDP crudely underestimates the value created by the IT revolution of recent decades. As evidence she is able to point to the information sector’s constant share of GDP in Western economies in the past decade despite major technological advancement.

On the other hand, Coyle stresses that GDP overestimates the added value of the financial industry. She reminds us that in the midst of the 2008 economic crisis, during the quarter when Lehman Brothers went bankrupt and global credit markets froze, the financial industry showed its fastest rate of output growth on record. This suggests that there is a fundamental problem with the way added economic value is measured in this sector. Clearly, various adjustments need to be made to GDP to ensure its relevance and accuracy as an economic measure for today’s post-Fordist economies.

Despite these shortcomings, Coyle adopts a pragmatic view towards GDP and defends it as a still useful concept. She highlights that almost all the alternative indicators that have been proposed for measuring social welfare so far use GDP one way or another. Instead of discarding this concept entirely, she argues we should try to address its philosophical and methodological shortcomings and, more importantly, use it in tandem with other indicators of well-being. GDP measures just one aspect of human welfare; the problem lies with the political discourse that treats its pursuit as the ultimate goal of society.

Ramin Nassehi is a Teaching Fellow at the Department of Economics at SOAS, University of London.