The Gross Domestic Product or GDP as we know it, is widely used to measure economic growth and prosperity across the globe. Very simply put, GDP is defined as the sum of the market values, or prices, of all final goods and services produced in an economy during a period of time. There are 3 important aspects of this definition:
1. GDP is a number that expresses the worth of the output of a country in local currency.
2. GDP tries to capture all final goods and services as long as they are produced within the country, thereby assuring that the final monetary value of everything that is created in a country is represented in the GDP.
3. GDP is calculated for a specific period of time, usually a year or a quarter of a year.
This value is computed using the following equation: Y = C + I + G + NX.
1. Consumer spending, C, is the sum of expenditures by households on durable goods, nondurable goods, and services.
2. Investment, I, is the sum of expenditures on capital equipment, inventories, and structures.
3. Government spending, G, is the sum of expenditures by all government bodies on goods and services.
4. Net exports, NX, is the difference between exports and imports.
From GDP’s perspective, bigger is always better.
So, why is this ‘figure’ of economic progress not enough in itself to measure a country’s progress?
From a GDP perspective, nuclear warheads do just as well as hospital beds or apple pie. -David Pilling, Author of the Growth Delusion
First and foremost, it is important to realise that there are several problems with the GDP being the measure of the average well-being of a country or a society. For instance, there are numerous aspects that are in fact, relevant to our economic well-being (which aren’t monetised) and the GDP fails to measure and incorporate in its calculation.
Aspects such as the value of having a stable climate, the quality of air, providing labour to care for people (children and elderly people) – are all ignored in the computation of the GDP. It only measures cash transactions. On the other hand, there are things that do get counted but do not really enhance our well-being / welfare. For example, in the oil spill event in the Gulf of Mexico (BP Oil Spill) – the damage was estimated at a whooping $90 billion. It added roughly $300 to an average American’s income according to their GDP calculation. This doesn’t mean that they were better off – it was a cost rather than a benefit. Let’s view another example: in the US, the government expenditure for the construction of more and more prisons in the states contributed to the GDP in the early 2010s. Now having more people in prisons doesn’t speak well in terms of a country’s welfare. However, it works as a boost in the GDP figures through the G variable mentioned earlier. A mere measure of the average income of a society doesn’t provide us with the correct scenario. It is of utmost importance to comprehend that the percentage changes to income matters; that the distribution of income within a society matters. Moreover, the dimension of economic performance- whether or not the economic performance of a country is sustainable in the long-run- matters, or rather, should matter. Gains in income that come at the expense of future income – shouldn’t be counted as a gain – but as borrowing against the future. Growth at the cost of depletion of resources and factors contributing to global climate change aren’t what nations should strive towards. Hence, by now, it should be clear to you that the GDP figure doesn’t give us a fair idea about what’s happening to the typical citizen of a nation. GDP tells us nothing about sustainability which is one of the most important factors that should be accounted for.
So what is the alternative method? How to measure well-being?
Before finding an answer to this question, we should ask ourselves this question: What matters to people, really?
In 2012, the Boston Consulting Group came up with the Sustainable Economic Development Assessment or SEDA. It takes into account the following factors:
1. Economics – income , economic , employment
2. Investments – health, education, infrastructure
3. Sustainability- income equality, governance, civil society, environment
The BCG proposed the SEDA as a new way to measure the well-being of a society. SEDA is primarily an objective measure (combining data on outcomes, such as in health and education, with quasi-objective data, such as governance assessments). It is also a relative measure that assesses how a country performs in comparison to either the entire universe of countries or to individual peers or groups. SEDA offers a current snapshot as well as a measure of progress over time, and it complements purely economic indicators like GDP. SEDA does not include purely subjective measures. Other metrics based on subjective measures—such as the ones used in the World Happiness Report—offer valuable complementary, but separate, insights. In fact, we have found a strong overall positive correlation between the scores from the World Happiness Report and SEDA scores. (BCG Report, 2012)
..So, should GDP computation come to an end?
No, definitely not. GDP gives us valuable insight about a particular section of the entire economy- as to how we’re doing in terms of numbers. But we need to pay heed to the other important and valuable aspects of an economy that equally matter (if not more) to people.
Srideep has worked with Dr. Duke Ghosh at Global Change Research, on various projects including the Smart Cities Mission India. He has also worked with Dr. Luisa Cortesi (Yale University) during her research in India. Currently, he’s an International Master in Business student at SDA Bocconi. He is an Economics enthusiast.
Nice Article.
Another issue with GDP is that it does not consider unequal distribution of wealth. For example India is 5th largest economy in the world in terms of GDP but as per per Capita GDP it is 142nd. TOp 10% eats up 70% of wealth.
Increase in GDP means increase in production which result into environmental issues.
I have written an article on similar topic. Please do visit.
https://www.linkedin.com/pulse/gdp-economic-growth-sandeep-jadhav/