How to Increase the Economy's Size by Fiat

The US government has hit on a new solution to kick Carmen Reinhart and Kenneth Rogoff while they're down. Since their recently disputed paper makes so much of public debt-to-GDP ratios, one way to improve the situation is obviously to increase the size of GDP, ceteris paribus. But how do you accomplish that in an economy that requires the addition of a lot more than a dollar in new debt to produce a dollar of 'growth'?

Simple, you just make stuff up. And so it has been decided to 'grow' the size of the US GDP overnight by 3% by adding new items to it, some of which are so diffuse in their nature that they will be ideally suited to manipulating henceforth what is already the most manipulated economic statistic.

 


 

debt and growth

The relationship between the growth in total US credit market debt to 'GDP' (from Dr. Marc Faber's presentation at the CFA Society Vancouver in March 2009) – click to enlarge.

 

 


 

According to press reports, this is how US GDP will be 'grown' overnight:

 

“The U.S. economy will officially become 3 percent bigger in July as part of a shake-up that will for the first time see government statistics take into account 21st century components such as film royalties and spending on research and development.

Billions of dollars of intangible assets will enter the gross domestic product of the world's largest economy in a revision aimed at capturing the changing nature of U.S. output.

In an interview with the Financial Times, Brent Moulton, who manages the national accounts at the Bureau of Economic Analysis, said the update is the biggest since computer software was added to the accounts in 1999.

 

"We are carrying these major changes all the way back in time – which for us means to 1929 – so we are essentially rewriting economic history," said Mr Moulton.  The changes will affect everything from the measured GDP of different U.S. states to the stability of the inflation measure targeted by the U.S. Federal Reserve. They will force economists to revisit policy debates about everything from corporate profits to the causes of economic growth.

The revision, which is equivalent to adding a country as big as Belgium to the estimated size of the world economy, will make the U.S. one of the first adopters of a new international standard for GDP accounting.

"We're capitalizing research and development and also this category referred to as entertainment, literary and artistic originals, which would be things like motion picture originals, long-lasting television programs, books and sound recordings," said Mr Moulton.

At present, R&D counts as a cost of doing business, so the final output of Apple iPads is included in GDP but the research done to create them is not. After the change, R&D will count as an investment, adding a bit more than 2 percent to the measured size of the economy.

GDP will soar in small states that host a lot of military R&D, but barely change in others, widening measured income gaps across the U.S. R&D is expected to boost the GDP of New Mexico by 10 percent and Maryland by 6 percent while Louisiana will see an increase of just 0.6 percent. Creative works are expected to add another 0.5 percent to the overall size of the U.S. economy. Around one-third of that will come from movies, one-third from TV programs, and another one-third from books, music and theater.

The changes are in addition to a comprehensive revision of the national accounts that takes place every five years based on an economic census of nearly 4 million U.S. businesses.

Steve Landefeld, the BEA director, said it was hard to predict the overall outcome given the mixture of new methodology and data updates. "What's going to happen when you mix it with the new source data from the economic census … I don't know," he said.”

 

(emphasis added)

It is quite stunning – or at least it should be – that these numbers will 'affect everything', including “the stability of the inflation measure targeted by the U.S. Federal Reserve.” and that they will allegedly force economists to revisit policy debates about everything from corporate profits to the causes of economic growth.”

How can something that has just been made up out of whole cloth possibly influence everything from policy decisions to economic debates about the 'causes of economic growth'? Especially knowing that absolutely nothing has changed in reality, since the economy is still exactly the same it was before. What changes is how it is 'measured', but that 'measurement' was a complete nonsense number even before these recent changes. No wonder we are lurching from one boom-bust cycle to the next: the state's 'policy' minions and the econometricians populating modern economics all seem to believe that these numbers actually mean something. The problem is, they don't.

 

The Many Deficiencies of GDP

In 1975, Oskar Morgenstern warned his colleagues in the economics profession about using the already back then completely useless 'GDP' accounts as the basis for policy recommendations. Almost needless to say, since Morgenstern delivered his lecture, the numbers have been 'improved' to the point of becoming a complete mirage.

As Morgenstern pointed out – and in part it turns out his objections were almost prophetic, since every bad idea that could possibly be incorporated into the calculation of 'GDP' has since then indeed been assiduously added to it – GDP incorporates a great many things that have obviously nothing to do with welfare-enhancing growth; in fact, many of these items actually reduce welfare:

 

Anything that leads to a transaction in monetary form, which is where goods and services change hands against money, is recorded as positive, no matter what is being sold, it enters GNP. It may have been sales of goods already stocked, it may have been a car just coming out of a factory: it does not matter. Neither does it matter what it is: Atomic bombs, drugs, cars, food, aesthetic pollution by new billboards, you name it. Clearly that goes against common sense. Why should all goods and services be treated alike? If I don't like more nuclear weapons, why should I accept a measurement that includes them as part of the 'growth' of the economy? Of course one could argue that one is only interested in transactions. But then one would have a great deal of explaining to do how more transactions can possibly be related to 'welfare'. Does the uncontrolled increase of cancer cells in a child mean 'growth'? There are other equally well-known difficulties. Many services are rendered and many goods produced that never enter a market. Thus they escape GNP. As has been noted by many, if housewives were being paid by their husbands, GNP would rise although there would not be one iota of difference in production or services. There are many other similar situations.

Another trouble with the GNP concept is that it measures, or rather expresses, as positive also the malfunctions of the economic system or society. To wit: if we are stuck in one of the thousands of traffic jams, if airplanes are stacked and cannot land on schedule, if fires break out and other disasters occur that require repair – up goes the GNP. More gasoline is used, fares go up, overtime has to be paid, and so on. It would be difficult in any other science to find a 'measure' which tells simultaneously opposite stories if the functioning of a complex system in one single scalar number! If we merely improve the scheduling of airplanes and stagger the times of automobile traffic, and nothing else is changed – down goes the GNP! It goes up, on the other hand, if industry pollutes the air and we create other industries which remove the polluting substances.

So we see that there is real trouble with the basic underlying notion of GNP. It is not an acceptable scientific concept for the purposes it is used.”

 

(emphasis added, italics in the original)

Morgenstern then went on to show that the measurements that are used to put together GDP are themselves deeply flawed ('the numbers are all laundered'). These measurements and actual reality were already shown by Kuznets to have a variance of up to 20%. And yet, the numbers are always presented to us as if they were exact. Nowhere does it say: “GDP was X, plus/minus 20%”.

The above also explains why hobby economists like Paul Krugman (we will forever remain a mystified how this guy won a Nobel prize for economics) are so deeply in love with the broken window fallacy. Every time a catastrophe strikes, GDP subsequently goes up! Instead of noting how this shows how fallacious it is to 'measure' economic growth in this manner, Krugman and his many fellow travelers are usually besides themselves with the anticipation of 'growth' every time windows get broken in great numbers (the WTC attack of 2001, the destruction of New Orleans by hurricane Katrina and the tsunami that devastated Japan were all hailed as 'growth boosters' by them). Krugman even thinks it would be a good idea if we could go to war with aliens from Rigel 2,  since that would surely boost GDP as well, on account of increased government spending.

As we have pointed out previously, a major problem is also that GDP only adds up spending on final goods – the entire production structure of the economy (apart from investment in 'fixed' capital) is simply left out. This leads to a great many misconceptions, such as the well-known adage that the 'consumer is 70% of the economy'. This is balderdash. If one looks at the gross domestic income accounts published by the department of commerce with a delay every three years, it becomes clear that the biggest slice of economic activity in the US is actually represented by the manufacturing sector – the very sector everyone believes to be in perpetual decline, and which according to the official  GDP statistic allegedly represents only '12% of the economy'! In reality, spending by the manufacturing industries exceeds that of every other economic sector, including consumer spending.

Moreover, government spending is added to GDP as a positive factor. It seems hardly necessary to explain how ludicrous it is to assume that government consumption somehow represents a 'growth factor' for the economy. In actual fact, it represent an unadulterated burden on the economy. It creates not one iota of wealth – on the contrary, it wastes existing wealth and creates obstacles in the way of genuine wealth creation, as it competes for the same finite pool of economic resources the private sector needs to employ in its wealth creation activities.

Similarly, as Morgenstern points out, the 'malfunctions' of the economy are counted as a 'positive' factor in GDP. During the housing boom, all the construction activities that took place where regarded as a positive contribution to the economy – in spite of the fact that in reality they represented egregious malinvestment of scarce resources. To illustrate this point a bit further with an example that should make the problem abundantly clear: if the government were to start building a giant pyramid tomorrow, it would be regarded as a contributing to 'economic growth' in the GDP, although economic logic and common sense should immediately tell us that it is the exact opposite: a waste of valuable scarce resources. Krugman would no doubt like it though.

 

Imaginary Numbers

It should also be noted here that much of what enters so-called 'real GDP' are in fact completely imaginary numbers. In Oskar Morgenstern's time the main worry was that every monetary transaction, regardless of whether it was sensible, was regarded as contributing to GDP growth. The extent to which he criticized the 'laundering of numbers' was largely confined to 'seasonal adjustments' and the arbitrary measurement of the 'GDP deflator' (all of these remain with us of course).

Today, statistical fata morganas are included in GDP which Morgenstern probably couldn't have imagined even if someone had spiked his drinks with lysergic acid. Monetary transactions have long ceased to be necessary in order to add monetary numbers to 'GDP'!

There are for one thing so-called 'imputations'. These represent the 'imputed value' of services consumers get for free even though they apparently shouldn't. For instance, if checking services are offered for free by banks to customers opening a current account with them, then the government adds the supposed value of these free services to GDP. Note here that no money has actually changed hands, but what is added to GDP are in fact money terms. Obviously, the choice of what should be 'imputed' is completely arbitrary, with the decisions left to bureaucrats. We are not very far from what Morgenstern still thought of as an utterly absurd example, namely of housewives being paid by their husbands for their housewife-type services in imaginary dollars. These imputations are in fact the equivalent of this idea. They open vast vistas of statistical shenanigans to the government.

Another area in which imaginary numbers play an ever bigger role is the 'hedonic indexing' applied to all sorts of goods, something that has an especially large effect on all things to do with information technology. Here is an example from the second quarter of 2003 illustrating the effect (we have chosen this time period randomly, mainly because we happen to have the exact data at our fingertips. It should be pointed out though that the error in this data series compounds over time).

In Q2 of 2003, actual spending on computers increased by $6.3 billion, from $$76.3 billion to $82.6 billion. If simply 'every monetary transaction' were added to GDP, then this is the number that would have been added, and thereafter it would have been massaged by the 'deflator'. If not for hedonic indexing, that is. Before we tell you, try to guess how big an increase in spending on computers the government actually added to GDP in this instance. Was it 20% larger? 30%? Maybe even 50%? Hold on to your hat.

The number added by government to GDP instead of the $6.3 billion in actual additional spending was $38.2 billion. In other words, almost $32 billion in completely imaginary money that no-one ever spent or received, with the total number  used by the government amounting to more than 6 times the actual spending growth was used for the calculation of 'real GDP'. It should probably be renamed 'unreal GDP'.

One could easily throw a 'growth' party with such methods in the middle of a depression. If only FDR had known, he could have created a more convincing illusion of recovery during the Great Depression. This is also one of the reasons why we have 'jobless recoveries' these days. Most likely there really is no recovery at all – it is a government-produced mirage of imaginary numbers.

We are very curious how the government will value 'original creative works' and the 'research that went into the iPad'. Obviously, there is a lot of room for inventiveness there. Perhaps we should add the creativity expended in making up these numbers to GDP as well? Back in 2008 we joked that we would like to get access to the Fed's discount window when it became known that he Fed accepted practically any type of asset; we proposed to offer our unfinished symphony for discount, without a doubt a work of great value. Somehow we were unable to convince the powers-that-be that they should accept it for the $20 million discount loan we had in mind, in spite of our assurances that we would provide the economy with a badly needed 'shot in the arm', but now it may at least end up as a contribution to GDP.

Regarding the idea of adding R&D spending to GDP: the cost of R&D (and yes, it is a cost to business) is already reflected in the products that spring from applying its results. Even the spending of those that are paid to perform R&D flows into GDP already, so this is simply double-counting the same money over and over again. At any given time, there are numerous technological 'recipes' on the shelf that entrepreneurs can chose from when engaging in production processes. These are by themselves not a 'cause' of economic growth. It is their application when the production structure is lengthened or widened that brings about growth. In fact, Apple's iPad is a good example; not one of the major technological features of the device was actually a new invention. The first tablet PCs were a product of Microsoft, which introduced the term 'tablet' itself back in 2001. Apple simply took existing technological recipes and improved on them, applying them in the production of a device that finally managed to do what previous tablets failed to do, namely resonate with the consumer.

Finally, it should be noted in this context that there is a lot of R&D spending that fails to produce economically viable results. Take for instance the billions spent on the development of drugs that then fail to gain approval as commercial products because clinical tests disprove their efficacy or show that their side-effects are intolerable. Will such wasted R&D spending also be added to GDP now? Should it not instead be subtracted?

 

Conclusion

And so the global economy 'grows' overnight, adding the equivalent of the entire annual output of Belgium by government fiat. Soon we may have a veritable virtual boom. After all, why not add the value of the millions of tweets that appear on twitter every day, to name just one example? Surely they improve growth by disseminating information more quickly than was possible previously. For instance, how would you have learned that there were 'smiles all around as Justin Bieber leaves his Stockholm hotel' if not for a timely tweet?

We are sure many more things can be thought of. Carmen Reinhart and Kenneth Rogoff clearly have no leg to stand on anymore. Undoubtedly we can now 'grow' GDP a whole lot faster than the public debt. The only limit is our imagination.

 


 

public debt-GDP ratio

The trajectory of US public debt versus GDP (indexed to 1 as of 2007) – click to enlarge.

 


 

 

 

Charts by Marc Faber, St. Louis Fed


 

 
 

 
 

Dear Readers!

You may have noticed that our so-called “semiannual” funding drive, which started sometime in the summer if memory serves, has seamlessly segued into the winter. In fact, the year is almost over! We assure you this is not merely evidence of our chutzpa; rather, it is indicative of the fact that ad income still needs to be supplemented in order to support upkeep of the site. Naturally, the traditional benefits that can be spontaneously triggered by donations to this site remain operative regardless of the season - ranging from a boost to general well-being/happiness (inter alia featuring improved sleep & appetite), children including you in their songs, up to the likely allotment of privileges in the afterlife, etc., etc., but the Christmas season is probably an especially propitious time to cross our palms with silver. A special thank you to all readers who have already chipped in, your generosity is greatly appreciated. Regardless of that, we are honored by everybody's readership and hope we have managed to add a little value to your life.

   

Bitcoin address: 1DRkVzUmkGaz9xAP81us86zzxh5VMEhNke

   
 

3 Responses to “The Mirage of Economic ‘Growth’, or Kicking Rogoff While He’s Down”

  • Just a made up bunch of crap, just like Krugman’s Nobel Prize. This isn’t the first time Nobel has made a mistake. Just maybe it wasn’t a mistake, but done on purpose to glorify a Keynesian voice. Rogoff and Reinhart will be right. It merely isn’t in the interest of the political class that they be recognized as right.

  • jimmyjames:

    It leaves you speechless but on the other hand- it does carry the imagination to the outer limits-
    I’ll bet they wish prostitution and drug use were legal now- I suppose to harness that (to date) non countable piece of GDP pie in the sky- maybe they could fashion a multiplier based on how many ladies of the night and pot smokers are busted each year and how many they estimate got away with it- the possibilities are endless-

    • RedQueenRace:

      They should add stocks, options, the nominal value of futures contracts, CDS, etc. Need to add increase GDP? Just hold futures margin requirements steady and increase the multipliers.

Your comment:

You must be logged in to post a comment.

Most read in the last 20 days:

  • The Biggest Stock Market Crashes Tend to Happen in October
      October is the Most Dangerous Month The prospect of steep market declines worries investors – and the month of October has a particularly bad reputation in this respect.   Bad juju month: Statistically, October is actually not the worst month on average – but it is home to several of history's most memorable crashes, including the largest ever one-day decline on Wall Street. A few things worth noting about 1987: 1. the crash did not presage a recession. 2. its...
  • Fed Quack Treatments are Causing the Stagnation
      Bleeding the Patient to Health There’s something alluring about cure-alls and quick fixes. Who doesn’t want a magic panacea to make every illness or discomfort disappear? Such a yearning once compelled the best and the brightest minds to believe the impossible for over two thousand years.   Instantaneous relief! No matter what your affliction is, snake oil cures them all. [PT]   For example, from antiquity until the late-19th century, bloodletting was used to...
  • Canada: Risks of a Parliamentary Democracy
      A Vulnerable System Parliamentary democracy is vulnerable to the extremely dangerous possibility that someone with very little voter support can rise to the top layer of government. All one apparently has to do is to be enough of a populist to get elected by ghetto dwellers.   Economist and philosopher Hans-Hermann Hoppe dissects democracy in his book Democracy, the God that Failed, which shines a light on the system's grave deficiencies with respect to guarding liberty. As...
  • Federal Reserve President Kashkari’s Masterful Distractions
      The True Believer How is it that seemingly intelligent people, of apparent sound mind and rational thought, can stray so far off the beam?  How come there are certain professions that reward their practitioners for their failures? The central banking and monetary policy vocation rings the bell on both accounts.  Today we offer a brief case study in this regard.   Minneapolis Fed president Neel Kashkari attacking a block of wood with great zeal. [PT] Photo credit: Linda Davidson...
  • Thoughtful Disagreement with Ted Butler
      Too Big to Fail?   Dear Mr. Butler, in your article of 2 October, entitled Thoughtful Disagreement, you say:   “Someone will come up with the thoughtful disagreement that makes the body of my premise invalid or the price of silver will validate the premise by exploding.”   Ted Butler – we first became aware of Mr. Butler in 1998, and as far as we know, he has been making the bullish case for silver ever since. Back in the late 90s this was actually a...
  • Donald Trump: Warmonger-in-Chief
      Cryptic Pronouncements If a world conflagration, God forbid, should break out during the Trump Administration, its genesis will not be too hard to discover: the thin-skinned, immature, shallow, doofus who currently resides in the Oval Office!   The commander-in-chief - a potential source of radiation?   This past week, the Donald has continued his bellicose talk with both veiled and explicit threats against purported American adversaries throughout the world.  In...
  • Precious Metals Supply and Demand Report
      Fat-Boy Waves The prices of the metals dropped $17 and $0.35, and the gold-silver ratio rose to 77.  A look at the chart of either metal shows that a downtrend in prices (i.e. uptrend in the dollar) that began in mid-April reversed in mid-July. Then the prices began rising (i.e. dollar began falling). But that move ended September 8.   Stars of the most popular global market sitcoms, widely suspected of being “gold wave-makers”. From left to right: Auntie Janet...
  • The Donald Can’t Stop It
      Divine Powers The Dow’s march onward and upward toward 30,000 continues without a pause.  New all-time highs are notched practically every day.  Despite Thursday’s 31-point pullback, the Dow is up over 15.5 percent year-to-date.  What a remarkable time to be alive.   The DJIA keeps surging... but it is running on fumes (US money supply growth is disappearing rapidly). The president loves this and has decided to “own” the market by gushing about its record run. During...
  • 1987, 1997, 2007... Just How Crash-Prone are Years Ending in 7?
      Bad Reputation Years ending in 7, such as the current year 2017, have a bad reputation among stock market participants. Large price declines tend to occur quite frequently in these years.   Sliding down the steep slope of the cursed year. [PT]   Just think of 1987, the year in which the largest one-day decline in the US stock market in history took place:  the Dow Jones Industrial Average plunged by 22.61 percent in a single trading day. Or recall the year 2007,...
  • Stocks Up and Yields Down – Precious Metals Supply & Demand
      Where the Good Things Go Many gold bugs make an implicit assumption. Gold is good, therefore it will go up. This is tempting but wrong (ignoring that gold does not go anywhere, it’s the dollar that goes down). One error is in thinking that now you have discovered a truth, everyone else will see it quickly. And there is a subtler error. The error is to think good things must go up. Sometimes they do, but why?   Since putting in a secular low at the turn of the millennium,...
  • The 2017 Incrementum Gold Chart Book
      A Big Reference Chart Collection Our friends at Incrementum have created a special treat for gold aficionados, based on the 2017 “In Gold We Trust Report”. Not everybody has the time to read a 160 page report, even if it would be quite worthwhile to do so. As we always mention when it is published, it is a highly useful reference work, even if one doesn't get around to reading all of it (and selective reading is always possible, aided by the table of contents at the...
  • Precious Metals Supply and Demand
      Fundamental Developments The prices of the metals shot up last week, by $28 and $0.57.   Heavy metals became pricier last week, but we should point out that the stocks of gold and silver miners barely responded to this rally in the metals, which very often (not always, but a very large percentage of the time) is a sign that the rally is unlikely to continue or hold in the short term. [PT]   Last week, we said:   “One way to think of these moves is...

Support Acting Man

Top10BestPro
j9TJzzN

Austrian Theory and Investment

Archive

350x200

THE GOLD CARTEL: Government Intervention on Gold, the Mega Bubble in Paper and What This Means for Your Future

Realtime Charts

 

Gold in USD:

[Most Recent Quotes from www.kitco.com]

 


 

Gold in EUR:

[Most Recent Quotes from www.kitco.com]

 


 

Silver in USD:

[Most Recent Quotes from www.kitco.com]

 


 

Platinum in USD:

[Most Recent Quotes from www.kitco.com]

 


 

USD - Index:

[Most Recent USD from www.kitco.com]

 

 
Buy Silver Now!
 
Buy Gold Now!
 

Oilprice.com