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


 

 
 

Emigrate While You Can... Learn More

 
 

 
 

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:

  • What Do “Think Tanks” Think About?
      “Russiagate” WEST RIVER, MARYLAND – We’re back at our post – watching... reading... trying to connect the dots. And we begin by asking: What do “think tanks” think about? The answer in a minute. First, there is a dust-up in the Washington, D.C., area. “Russiagate,” it is called. As near as we can make out, some people think the Trump team had or has illegal or inappropriate contacts with the Russian government.   It's all very obvious, if one looks...
  • Parabolic Coin
      The Crypto-Bubble - A Speculator's Dream in Cyberspace When writing an article about the recent move in bitcoin, one should probably not begin by preparing the chart images. Chances are one will have to do it all over again. It is a bit like ordering a cup of coffee in Weimar Germany in early November 1923. One had to pay for it right away, as a cup costing one wheelbarrow of Reichsmark may well end up costing two wheelbarrows of Reichsmark half an hour later. These days the question is...
  • Quantitative Easing Explained
      [Ed. note: This article was originally posted in November of 2010 - we have decided to republish it with updated charts, as it has proved to be very useful as a reference - the mechanics of QE are less well understood than they should be, and this article explains them in detail.]   Printing Money We have noticed that lately, numerous attempts have been made to explain the mechanics of quantitative easing.  They range from the truly funny as in this by now 'viral' You Tube...
  • The Three Headed Debt Monster That’s Going to Ravage the Economy
      Mass Infusions of New Credit   “The bank is something more than men, I tell you.  It’s the monster.  Men made it, but they can’t control it.” – John Steinbeck, The Grapes of Wrath   Something strange and somewhat senseless happened this week. On Tuesday, the price of gold jumped over $13 per ounce.  This, in itself, is nothing too remarkable.  However, at precisely the same time gold was jumping, the yield on the 10-Year Treasury note was slip sliding down...
  • Jayant Bhandari on Gold, Submerging Markets and Arbitrage
      Maurice Jackson Interviews Jayant Bhandari We are happy to present another interview conducted by Maurice Jackson of Proven and Probable with our friend and frequent contributor Jayant Bhandari, a specialist on gold mining investment, the world's most outspoken emerging market contrarian, host of the highly regarded annual Capitalism and Morality conference in London and consultant to institutional investors.   As soon as Jayant touches down in London, he is accosted by...
  • Monetary Madness and Rabbit Consumption
      Down the Rabbit Hole “The hurrier I go, the behinder I get,” is oft attributed to the White Rabbit from Lewis Carroll’s, Alice in Wonderland.  Where this axiom appears within the text of the story is a mystery.  But we suspect the White Rabbit must utter it about the time Alice follows him down the rabbit hole.   Pick a rabbit to follow...   No doubt, today’s wage earner knows what it means to work harder, faster, and better, while slip sliding behind. ...
  • Central Banks – Tiptoeing Toward the Exit
      Frisky Fed Hike-o-Matic We haven't commented on central bank policy for a while, mainly because it threatened to become repetitive; there just didn't seem anything new to say. Things have recently changed a bit though. A little over a week ago we received an email from Brian Dowd of Focus Economics, who asked if we would care to comment on the efforts by the Fed and the ECB to exit unconventional monetary policy and whether they could do so without triggering upheaval in the markets and...
  • The Anatomy of Brown’s Gold Bottom – Precious Metals Supply and Demand
      The Socialist Politician-Bureaucrat with the Worst Timing Ever As most in the gold community know, the UK Chancellor of the Exchequer Gordon Brown announced on 7 May, 1999 that HM Treasury planned to sell gold. The dollar began to rise, from about 110mg gold to 120mg on 6 July, the day of the first sale. This translates into dollarish as: gold went down, from $282 to $258. It makes sense, as the UK was selling a lot of gold... or does it?   Former UK chancellor of the...
  • The Valium Era
      Don’t Be Fooled by These Calm Markets What is happening in the world of money? Well - the most striking thing is: nothing. It doesn’t seem to matter what happens. Dysfunction in Washington. Meltdown of the techs. No matter how rough the seas get, the markets glide along... scarcely noticing the storm-tossed waves below.   Thankfully the world's central planners are so well-versed in egging on the creation of an ever greater mountain of debt and seemingly limitless asset...
  • Is Trump a Modern Caesar?
      Putting on the Purple   Mayor: Drebin, I don’t want any more trouble like you had last year on the South Side. Understand? That’s my policy. Drebin: Yes. Well, when I see five weirdos dressed in togas stabbing a guy in the middle of the park in full view of 100 people, I shoot the bastards. That’s my policy. Mayor: That was a Shakespeare in the Park production of Julius Caesar, you moron! You killed five actors! Good ones. – The Naked Gun   Laura Loomer,...
  • The Fed Rate Hike and Gold – Precious Metals Supply and Demand
      Shrinking the Balance Sheet? The big news last week came from the Fed, which announced two things. One, it hiked the Fed Funds rate another 25 basis points. The target is now 1.00 to 1.25%, and there will be further increases this year. Two, the Fed plans to reduce its balance sheet, its portfolio of bonds.   Assets held by Federal Reserve banks and commercial bank reserves maintained with the Fed – note that while asset purchases and bank reserve creation are connected,...
  • How to Discover Unknown Market Anomalies
      Seasonax Event Studies As our readers are aware by now, investment and trading decisions can be optimized with the help of statistics. After all, market anomalies that have occurred regularly in the past often tend to occur in the future as well. One of the most interesting and effective opportunities to increase profits while minimizing risks at the same time is offered by the event studies section of the Seasonax app.   A recent event that had quite an impact on certain...

Support Acting Man

Austrian Theory and Investment

Own physical gold and silver outside a bank

Archive

j9TJzzN

350x200

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]

 

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

 
Buy Silver Now!
 
Buy Gold Now!
 

Oilprice.com