Entrepreneurs Drive The Economy. We Know How, But We Don’t Measure It Very Well. Part 2.
Entrepreneurs are the drivers of the market economy. In the construct of Carl Menger, they transform higher order goods (such as raw materials, or raw computer code, or an understanding of consumer needs) into lower order or intermediate stage goods (further down the supply chain, closer the consumer) and final goods (those that are consumed). In doing so they accumulate investment capital (from their own and others’ savings), assemble and pay for human, digital and physical resources, both within and outside their firm, and apply their own time, imagination, judgment, decision making and supervision. There’s a lot of economic activity going on here – a lot of spending, a lot of buying, and a lot of value creation. It seems obvious that the decisions that entrepreneurs make and the way they allocate scarce resources and their success in innovating all the way along the supply chain must constitute the critical variables in whether an economy is successful or not, whether it is growing or stagnant. With many entrepreneurial successes, the economy will be vibrant. With a lot of failures – what the economists call entrepreneurial error – the economy will be weak.
We Are Taught That Consumer Spending Is The Driver.
But we don’t seem to fully recognize the role of entrepreneurs in driving growth. In fact, we can read in the New York Times that “consumer spending makes up more than 70% of the economy, and….drives growth during economic recoveries”. Or, in the Wall Street Journal that “slow growth …was due to sluggish consumer spending and an increase in imports….(and) dwindling government spending”.
Which is true? Do consumers and the government drive the economy by spending? Or do entrepreneurs drive the economy by energizing the supply chain with their productive activity?
The culprit: GDP.
The problem we face in answering this question is one of choosing which statistics to use. The favored statistic of the government is GDP – Gross Domestic Product. This measure focuses on what they call final output, and what Carl Menger called goods of the first order – i.e. that which is consumed. The measurement is dominated by consumer spending and government spending, since that’s how we can define the value of final output, i.e. the value that the buyers place on it. But to focus on this measure of economic activity also reinforces a bias of government and Keynesian economists: that spending more government money in slow periods is a way to drive economic activity. Hence, they derive their justification for stimulus, bailouts and subsidies from the way they measure economic activity.
Alternatives To GDP.
There are plenty of non-governmental economists who have suggested alternative ways to measure economic activity. Murray Rothbard, for example, put forward not one but two measurements to recognize the contribution of entrepreneurs. One was Gross Private Product (GPP) which, in contrast to GDP, excludes any income originating in government and government enterprises, maintaining focus on purely the private and productive part of the economy. A refinement of this is “private product remaining with producers” which deducts tax revenues (or government expenditures if they are higher from tax revenues) from GPP, to tighten the focus even more on private production.
Neither of these measures has caught on, but there is one that has. It’s called Gross Output or GO. It is a measure of total sales volume at all stages of production, through all the orders of goods and services from highest to lowest. So the economic activity of entrepreneurs, from raw material extraction to writing code to manufacturing and designing apps and giving rides and dispensing healthcare, is all recognized whenever a sale is made. This makes sense, since a sale is made when a customer recognizes value and decides to exchange money for that value.
Where GDP measures only final output, GO measures spending throughout the entire production process, at every entrepreneurial stage. This is consistent with economic growth theory – entrepreneurs drive growth. Professor Mark Skousen, one of the originators of GO, calls it a measure of the “make” economy rather than the consumption economy.
If GO were to be widely adopted, it would help to undermine one of the great fallacies of Keynesian economics and the intervention by government in the economy via stimulus measures and bailout measures. As measured by GDP, spending on final output by government and consumers makes up 85% or so of the economy, and so government can justify interventions in slow economic times via stimulus measures and bailouts and “shovel ready projects”. GDP is a justifier of big government.
GO Recognizes The Role Of The Entrepreneur.
In the GO measure, entrepreneurial spending by businesses represents over half the economy. It is businesses that drive growth, with investment in people, equipment, technology and productive capacity.
In fact, as Professor Skousen says, “Consumer spending is largely the effect, not the cause, of prosperity”. GO reverses the New York Times equation and flips our understanding. Entrepreneurial businesses should be turned loose, with less government regulation and less government intervention and spending.
As the Bureau Of Economic Analysis put it, “Gross Output (GO) is the natural measure of the production sector, while net output (GDP) is appropriate as a measure of welfare”.
What gets measured gets attention. GDP measures consumer and government spending and focuses our attention on those as drivers of economic activity. GO measures entrepreneurial production throughout the supply chain, and is a better focus for our attention.