The Hindu Business Line : GDP: Don't count on it

IT IS a matter of regret that India, which now has a government blessed with the benefit of advice of the Left, continues to conduct its economic discourse on the basis of the distinctly coarse notion of the Gross Domestic Product (GDP).

Surprisingly, the Left, which rather fancies itself as the sole custodian extant of political rectitude and ideological rigour, has nothing to say about the use of the GDP as a means of calibrating the economic development of the country in spite of its documented deficiencies — other than that approximately 40 per cent of it comprises black money, an observation which is neither here nor there. In this respect, the Left in India is content to follow the example of the World Bank which continues to designate GDP as "the main criterion for classifying economies" even though most secular economists, the world over, have long since accepted the fact that it is nothing other than an arithmetical aggregation of the total value of all products and services bought and sold in an economy — and that it is, as such, a thoroughly misleading metric.

GDP suffers from a multiplicity of failings. For instance, it does not distinguish between productive and destructive activities as a result of which governments in recent times have tended to look to a rollicking good war when confronted by a falling GDP. Further, it does not reflect the value of natural resources until they enter the monetary economy. A country can have abundant natural resources but they count for nothing until they have been destroyed through consumption. And, then again, the GDP does not take into account activities and services which carry no price tag. The invaluable functions of the family and the community do not show up in the GDP... until they have been converted into a commercial activity.

Thus, the Centre for Environmental Strategy of the University of Surrey, in a study on the need to replace GDP with new indicators, argues: "What makes us better off? For the last century we have pursued increased well-being and quality of life through more and more economic growth, as measured by GDP — the headline indicator of progress. But the side-effects of economic growth are increasingly making us worse off. GDP takes no account of increasing inequality, pollution or damage to people's health and the environment. It treats crime, divorce and other elements of social breakdown as economic gains. This current model of `progress' is cheating on ourselves (sic), other countries and future generations. We need to redefine progress, and replace GDP with new indicators of progress, which measure how our national policies truly deliver a better quality of life for all."

The essential absurdity of GDP as anything other than an accountant's conceit becomes clear when, by way of illustration, one encounters a media release titled Nation's Economic Health Overstated by $7 trillion issued by Redefining Progress, an Oakland, California, non-profit organisation. According to the March 11 media release, a new analysis of US' economic activity by the organisation shows that the GDP has overestimated the health of the US economy by $7 trillion.

"Ironically, one of the key factors contributing to this over-counting is the expenditures that have resulted from the accounting scandals at Enron, WorldCom, Arthur Anderson and others. The wrongdoings at Enron alone will contribute up to $1 billion to the US economy, in the form of legal fees, jail time, media frenzy and associated payouts."

In the case of India, one may safely assert that the growth in the country's GDP during the National Democratic Alliance (NDA) years would not have been what it was if it were not for the Kargil war, the Gujarat riots and so on — and hope that the United Progressive Alliance (UPA) has some other, less disruptive, means of growing the GDP, such as it is.

It is utterly galling that successive governments in India, all of which have made ringing pronouncements about bringing the national economy into the 21st Century, continues to use an artifact of history as the touchstone of economic policy.

The origin of GDP can be traced to Tomas Petty who, in 1655, set out to render the national accounts of England in order to evaluate the taxable capacity of that country. Interestingly, at about the same time, the economic views of the physiocrats, who believed that agriculture was the only true source of wealth, prevailed in France as a result of which farm production constituted the single most important component in the measurement of an economy. England differed in this respect presumably because it was more industrialised than France and, therefore, thought it appropriate to adopt Adam Smith's more inclusive computation of national wealth. In this regard, it is worth noting his conviction that services should not be taken into consideration in the calculation of national wealth as they, while being useful, are "unproductive of any value" in that they do not result in the creation of tangible goods. The jury is still out on that one, whatever the advocates of IT-enabled services, votaries of accounting for intangibles and others of their ilk may have to say.

However, by the end of the 19th century, England's economy had moved from manufacturing to trade and finance and Adam Smith's views on national wealth were perceived to have become invalid. Alfred Marshall, who first propounded the principles of neoclassical economics, came along and put forward the theory that utility, and not tangibility, was the true standard of production and wealth. He said that economic significance resided not in the nature of a thing but in its market price. Marshall's view had implications which, strangely enough, persist to this day. For one thing, it meant that every item of commerce enhanced national well-being merely by being produced and bought. It also implied that only transactions involving money would be included in the calculation of a country's economic development, leaving out the functions of family/community and the environment, both of which are now known to be crucial for human well-being.

And so things went on till 1931 when, in the US, a group of government and private experts was summoned by Congress to a hearing to give it the benefit of their opinions on certain basic economic issues. The experts found that they could not help the Congress in any significant way because the data at their disposal was not current — and was, where available, so rudimentary as to be useless. In 1932, the Senate decided to correct these lacunae and instructed the Commerce Department to draw up comprehensive estimates of the national income. The department, in turn, gave the task of developing a uniform set of national accounts to a young economist called Simon Kuznets. This set was — and is — the prototype for GDP.

Kuznets, who went on to win the Nobel Prize, held out warnings in 1934 and 1962 about the inadequacies of GDP as an indicator of a country's economic welfare. Nobody listened.

When the Union Finance Minister, Mr P. Chidambaram, presents the Budget in a few days time, he will be using a metric evolved in 1932 — and described as inadequate by its very creator. In this, he will be following tradition: After all, virtually every institution and procedure in Independent India is based on models devised abroad and, for the most part, subsequently abandoned. If India insists upon not breaking with tradition, we might as well consider adopting the perspective of the physiocrats whose characterisation of agriculture as the primary source national wealth has some local relevance.