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America has changed the way it measures GDP
ECONOMICS is a messy discipline: too fluid to be a science, too rigorous to be
an art. Perhaps it is fitting that economists most-used metric, gross domestic
product (GDP), is a tangle too. GDP measures the total value of output in an
economic territory. Its apparent simplicity explains why it is scrutinised down
to tenths of a percentage point every month. But as a foundation for analysis
it is highly subjective: it rests on difficult decisions about what counts as a
territory, what counts as output and how to value it. Indeed, economists are
still tweaking it. This week America s GDP rose by $560 billion, or 3.6%,
mainly because the boundary that defines what counts as an economic asset was
moved.
The modern history of GDP starts with America s Depression. The set of measures
available to those battling the slump that started in 1929 was scarily narrow.
Policymakers used stock prices, industrial production and transport data, and
little else. The detail needed to diagnose economic problems properly was
provided in a 1934 report by Simon Kuznets (see sources below). The new
national-income and product accounts that resulted measured income by industry
and production by sector; they also introduced lots of new metrics, including
GDP. Richard Stone of Cambridge University developed a similar system for
Britain, adopted by the UN in 1947 as the first System of National Accounts
(SNA), a set of international standards for measuring economic activity.
Since these first big steps to make GDP measurement systematic and
international, improvements have been more gradual. The big problems are what
to measure and how to measure it. Answering the first question involves
defining a set of boundaries : activities inside the ropes are included, those
outside are not. Even the geographical boundary how to define a nation can be
thorny. A country s territorial waters are within its national boundary, but
foreign crews of ships working in those waters contribute to their home country
s output. Smugglers, whose activity crosses borders and is hard to track, are
a real headache.
Defining other boundaries is even harder. Since investment (activity that
creates assets) is part of GDP, it is vital to define assets . Here
practicalities can trump principles. Economists have long thought of spending
on research and development, or on making artwork, as types of investment.
These efforts create things patents, for example that are a lot like fixed
assets. They are durable, they give rise to a future stream of income and they
help generate future output. But the previous SNA system, set up in 1993,
regarded such assets as too difficult to measure. For this reason they were set
outside the asset boundary. And so spending to produce them did not count as
investment, part of GDP.
But the latest SNA system, agreed upon in 2008, shifted the asset boundary to
include these innovative activities, prompting the changes to America s
statistics this week. A new investment class called intellectual-property
products has been created by America s Bureau of Economic Analysis (BEA).
Ideally, the value of private firms R&D would be based on the future income it
generates, discounted to today s values. But since future products, and their
related prices, are unobservable, those calculations are tricky. So the BEA is
measuring R&D investment using firms innovation-related costs. Government R&D,
mainly spending on health, defence and aerospace, is now measured in the same
way.
The BEA faces an even fiddlier task with original artwork, a category that
includes films, books, music and TV shows. (Newspaper articles have no lasting
value, according to the BEA, but what do they know?) The problem is that there
is scant information on investment costs. Moreover, the asset the right to the
music, manuscript or TV format is rarely sold. Rather it is used to create a
future stream of products, like books and TV shows. So the BEA must estimate
likely future royalty fees, and translate them into today s money to value the
investment. Since artistic assets can last a long time ( The Simpsons has been
running since 1989) that is a tough task.
In the short term America s new GDP measure makes international comparisons
more difficult. The BEA is not the first mover: Australia made the change in
2009, leapfrogging Canada in the OECD s country rankings of GDP per person.
Canada switched in 2012, making back some of the ground. For the moment,
America, Australia and Canada are the only G20 countries on the new system. By
2014 many other countries, including those in the EU, will have joined them.
Carrots and statistics
But GDP is still far from perfect. One problem is how to treat goods and
services that are produced and consumed in the home. To do this the SNA defines
another boundary. All goods produced and consumed at home are included in GDP:
if more fruit and vegetables are grown in the garden the economy gets bigger.
The logic is that home-grown produce could be sold at a market, obtain a price
and be measurable. But services cleaning a home, caring for a relative are
excluded from GDP. The logic is that services are produced as they are
consumed: since they could not be sold they are outside the market.
But the assumption that there are no market prices for services delivered at
home is 1940s thinking. It is easy to put a price on cleaning and caring far
simpler than working out how to price future film royalties. And excluding
home-provided health care and education creates an ever-widening faultline
under GDP. The market values of these services are rising much more quickly
than the general rate of inflation. That means the value of the activity
outside the boundary is changing rapidly over time. To stay relevant national
accounts may have to change again.
Sources
"Taking the Pulse of the Economy: Measuring GDP", Landefeld J. Steven, Eugene
P. Seskin and Barbara M. Fraumeni. (2008). Journal of Economic Perspectives, 22
(2): 193-216
National Income 1929 1932 , Kuznets, Simon. (1934). Senate Document No. 124,
73rd Congress, 2nd Session. Washington, DC: U.S. Government Printing Office.
Available at http://library.bea.gov
Measurement of National Income and the Construction of Social Accounts ,
United Nations (1947)
System of National Accounts 2008 , United Nations (2008)
The Impact of R&D Capitalization on GDP and Productivity Growth in Canada ,
Wulong Gu, Berouk Terefe and Weimin Wang, Statistics Canada
An incurable disease , The Economist (2012)
Results of the 2013 Comprehensive Revision of the National Income and Product
Accounts , Bureau of Economic Analysis (2013)