“What we measure informs what we do. And if we’re measuring the wrong thing, we’re going to do the wrong thing.”
Nobel Laureate in Economic Sciences (2001)
In an election rally in UP, PM Narendra Modi recently took a jibe at the economists criticizing demonetization. He quoted the new GDP growth data released by Central statistical Organisation, which the growth rate at 7 per cent in the third quarter of the financial year 2016-17. For decades now, GDP and its growth thereof, has been regularly cited in discussions related to the economic progress. China for one has remained obsessed with the growth so much so that as to set specific targets for GDP growth in its annual and five year plans.
The question however, that needs to be asked is whether GDP still remains a relevant obsession in measuring economic health and wellbeing of nations in the changing landscape of rising income inequalities, shifting demographics, climate change, technological advances and diversification of economic activity in general.
What is GDP and what it measures?
Gross Domestic Product or GDP is the monetary value of all the final goods and services produced within the domestic territory of a country in an accounting year. Therefore, GDP reflects a country’s production and income-generating capabilities. A rise in GDP is important for assessing growth-based or quantitative view of development.
GDP as we know today was developed by Simon Kuznets in the 1930s and he specifically warned against its use as a measure of welfare. However, despite this fair warning policymakers have been using it as a measure of economic progress of a country ignoring its limitations. It is these limitations that have led the economists to explore better options to assess growth of an economy.
The annual meeting of World Economic Forum in 2016 at Davos, discussed specifically the need for a measure of economic progress beyond GDP.
What does the GDP overlook?
GDP as a measure of economic activity, only tells us the volume of the final output, without telling us what is produced, how it’s produced or who is producing it. There are certain aspects of growth and development that the GDP completely turns a blind eye to.
What is produced? GDP assumes all growth to be good growth. GDP does not differentiate between “good and “bad” output. The air and water pollution caused by a factory although definitely a negative for the society but the cleaning up and health costs incurred as a result of these added as positives to the GDP. Similarly, rebuilding after disasters such as earthquakes, floods increase GDP.
GDP ignores quality of life: GDP doesn’t account for leisure time and the kind of work people are engaged in. The GDP will increase if people overwork themselves at the cost of their health and leisure time, but this is a setback to welfare
Environmental Cost: GDP does not tell us whether the growth is sustainable or not. Cutting down a forest to sell the wood would add to the GDP but this severely impacts our future. GDP does not differentiate between draining assets and generating wealth. For instance, two economies might have the same GDP, but a less polluted country is better than a more polluted one from a welfare perspective. GDP does not capture this.
Inequality in income distribution: GDP doesn’t say how the total output is distributed amongst the population. An economy where 90 per cent income is held by top 10 percent is definitely worse than an economy where income is more equitably distributed. GDP however, considers them bot as equals.
Contribution of unpaid work: GDP estimates omit unpaid efforts at home or in volunteer work. In a 2011 study, the OECD found that the “home production” would add between 20 per cent and 50 per cent to the GDP of its member countries. Women do a majority of this unpaid work specially in developing countries. Economist Paul A. Samuelson famously pointed out this drawback of GDP by saying that GDP will fall if a man marries his maid. Since this unpaid work does not form a part of GDP, it is ignored in policy formulation.
Non-monetized sector: Developing countries have a large unorganized, non-monetized sector. GDP does not take into account the value of non-monetized activity. This is a big lapse, particularly in developing countries such as India where much of what is produced is consumed at home or where barter still holds an important role especially in rural setting.
Challenges of the Digital age: Digital age has brought its own set of difficulties in GDP estimation. The line between “home” and “economy” assumed in the conventional definition of GDP is fading away. The increase in digital volunteering has made the estimation of this valuable economic activity very difficult. Digital volunteering, such as Wikipedia and open-source computer programs such as Linux, informative and entertaining blogs, etc. provide more or less free online content to the users. People providing such content online might be doing some of it as part of a paid job or as a hobby. Some of this unpaid-for activity can be picked up in the accounting but mostly it does not.
Apart from these GDP fails to measure any of the most important constituents of welfare such as health, happiness or environmental sustainability. Keeping in mind these, economists have suggested many alternates to GDP estimation. The New Economics Foundation (NEF), proposed five indicators in an October 2015 report including Good jobs, Wellbeing., Environment, Fairness and Health. The NEF designed these measures with the United Kingdom in mind, but these are relevant for other economies as well.
Learning from the experiences of the advanced countries, many developing countries have realized that simply focusing on GDP growth is not the way forward. The African Development Bank, and many of its regional member countries, emphasizes on growth that is both inclusive and green, not merely high. Our very own neighbor, the tiny hilly nation Bhutan lays more emphasis on measuring happiness using the Gross National Happiness indicator to assess the progress than on GDP growth numbers.
While various proposals for alternatives have evoked the interest of economists and technocrats, politicians haven’t seemed to take up the idea yet.
It can be concluded that while GDP can give us a general idea about the economy, it is a only a short term, inadequate, incomplete measure, whereas the complex world today needs more comprehensive instruments to lead us on the path of sustained development.