What Do Economic Growth Figures Tell Us?

Economic growth serves as the prominent standard for measuring the performance of an economy. When Presidents get fired up in a dispute over which administration (has) delivered a higher rate of economic growth, they refer to growth figures as if they were indisputable facts. Yet they ignore the fact that economic growth is a tricky concept with a dubious statistical foundation.

Gross Domestic Product

What gets published as GDP does not represent national production but overall spending. Production consists of myriad goods and services. Adding up their prices gives national spending, and because spending by one economic agent means income for someone else, this figure equals national income.

National income statistics and macroeconomic models have as their premise the identity between spending and production based on the tautology that sold production equals expenditures. What analysts are calculating here is income and, as its tautological counterpart, spending.

Real gross domestic product makes sense only from one period to the next. To calculate the rate of real economic growth, statisticians deflate nominal national income by a price index. The figure that results from this procedure is subject to two distortions. First, the indicator does not measure production but expenditures, and, second, it depends on the techniques for calculating the price index.

Calculating growth of real gross domestic product requires deflating the nominal values of expenditures. To do that, the statistical offices specify a basket of goods and compare the prices of the goods in this basket to the prices in a reference time period. But there is no objective basket representing overall domestic product, only a statistical construct based on a series of disputable assumptions.

An economic-growth figure can be determined for an economy in a primitive state in which a few easily identifiable and addable items are being produced. This is the case with an agricultural economy. For an economy that produces only one staple good, output can be measured in weight or volume. In the 1950s and 1960s, economic forecasters used tons of steel as a proxy for a country’s economic performance. Nowadays, gross domestic production gets all the attention, yet the basis for its calculation is more problematic than before.

The more diverse and innovative the economy is, the more difficult it is to calculate an accurate price index. In this case, there is no common standard by which to compare the production of one period with that of another. When the composition of production changes not only in the goods’ quantity but also in their quality, and when new goods appear and obsolete goods vanish, there is no longer such a common standard.

The basket of purchases does not stay constant either for an individual or for a family or a nation. It changes from day to day, and from month to month, not to speak of years and decades. There is no way a statistical office could trace comprehensively all these changes. Because each person has their own basket of consumption goods and the composition of production is different from region to region, there is no such thing as a price index that would be valid across the nation.

The economy is not like a pumpkin that grows to maturity, whose size can be measured at each stage, and whose weight at harvest can be compared from one season to the next. Also, the economy is not a cake we all bake jointly and then consume together. It is this pumpkin-like and cake-like understanding of economic activity that has provided the basis for popular fallacies regarding production, distribution, and economic policy making.

Welfare and Warfare

Economic-growth accounting had its heyday with the spread of the social gospel that says it is up to the state to redistribute income and to guarantee general welfare by managing the economy. In this context, economic growth was conceptualized as an increase in the production of standardized goods. National output served as the benchmark for the standard of living. It was for such aims that the modern system of national income accounting was established.

Measuring the economy, as is the aim of the GDP figure, owes its popularity to the Cold War, and its origins lie in managing a war economy. With the industrialized warfare machinery and the welfare state, economists found a new, expanding field of job opportunities in government. Consequently, the dominant philosophy of the discipline changed from laissez-faire to interventionism. It was in this context that the statistical and aggregate approach to economic issues gained momentum.

The managers of a war economy want to measure output and its growth because such an economy is at the service of the war aims. Through measurement, the central-planning authority can know whether the goods and services the nation needs get produced and in what proportions they should allocate factors of production. In a war economy, production is in the hands of the government.

Under such conditions, the planners rank the production alternatives according to their valuations for the war purposes, and the numbers serve as indicators of economic performance. For a market economy, this procedure makes no sense because here what counts is the individuals’ goals, which differ from the collective purpose of winning a war.

Using gross domestic product as an indicator of economic performance has contributed to the illusion of the efficacy of fiscal and monetary policy. Spending for consumption is said to produce wealth, and government spending is called for to boost economic growth. Yet this kind of economic growth is only the prelude to a recession. Times of war and preparation for it come along with high economic growth rates. Similarly, in ancient Egypt, GDP got a boost after a pharaoh died and the people were ordered to build a new pyramid.

What Should Count

The problem with economic growth goes beyond statistics. Approaching the economic problem in terms of growth and stability represents an obstacle to understanding the true nature of economic activity as exchange-oriented action directed at improving individuals’ conditions. Economic growth as measured by gross domestic product directs policy makers toward imagining a lump sum of output instead of allowing the market to adapt to the diverse needs and wishes of individuals.

The concepts of total output and thus of economic growth are statistical constructs that have limited informational value for an economy that produces a wide variety of goods and services and in which innovation in goods and services occurs at a rapid pace and many items become obsolete from one period to the next.

In a non-collectivist economic system, the focus would not be on economic growth as the expression of the common good in economic policy. Individualistic economic theory would focus on the prevalent conditions of market exchange as the way to economic amelioration. Instead of the fixation on economic growth and stability, a non-interventionist system would favor increasing the scope for individuals to act on their own preferences.

The interventionist system, in contrast, puts the individual in a state of serfdom in which output, or rather expenditure, becomes the criterion. Economic growth sets a criterion of performance that is detrimental to adaptation and to the individual pursuit of benefit. Not unlike the slave masters of the past, the modern interventionist state uses its levers to push the economy toward an obscure figure called economic growth.

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Antony Mueller

Antony P. Mueller is a professor of economics at the Federal University UFS in Brazil where he is also a researcher at the Center of Applied Economics, and Senior Fellow of the American Institute for Economic Research. Antony Mueller earned his doctorate in economics summa cum laude from the University of Erlangen-Nuremberg, Germany. He was a Fulbright Scholar in the United States and a visiting professor at the Universidad Francisco Marroquin (UFM) in Guatemala as well as a member of the German academic exchange program DAAD. Antony Mueller has recently published the book “Beyond the State and Politics. Capitalism for the New Millennium”.