Current academic research – into the impact of new technologies, the economics of innovation, and the quality of management, for example – may be providing ever more pieces of the puzzle. But many crucial questions about economic progress remain unanswered, and others have not yet even been properly posed.
Do we know how economies develop? Obviously not, it seems, or otherwise every country would be doing better than it currently is in these low-growth times. In fact, cases of sustained rapid growth, like Japan beginning in the 1960s, or other Southeast Asian countries a decade later, are so rare that they are often described as “economic miracles.”
Yet when Patrick Collison of software infrastructure company Stripe and Tyler Cowen of George Mason University recently wrote an article in The Atlantic calling for a bold new interdisciplinary “science of progress,” they stirred up a flurry of righteous indignation among academics.
Many pointed to the vast amount of academic and applied research that already addresses what Collison and Cowen propose to include in a new discipline of “Progress Studies.” Today, armies of economists are researching issues such as what explains the location of technology clusters like Silicon Valley, why the Industrial Revolution happened when it did, or why some organizations are much more productive and innovative than others. As the University of Oxford’s Gina Neff recently remarked on Twitter, the Industrial Revolution even gave birth to sociology, or what she called “Progress Studies 1.0.”
This is all true, and yet Collison and Cowen are on to something. Academic researchers clearly find it hard to work together across disciplinary boundaries, despite repeated calls for them to do so more often. This is largely the result of incentives that encourage academics to specialize in ever-narrower areas, so that they can produce the publications that will lead to promotion and professional esteem. The world has problems, as the old saying puts it, but universities have departments. Interdisciplinary research institutes like mine and Neff’s therefore have to consider carefully how best to advance the careers of younger colleagues. The same silo problem arises in government, which is likewise organized by departments.
Moreover, fashions in research can lead to hugely disproportionate intellectual efforts in specific areas. To take one example, the ethics of artificial intelligence is clearly an important subject, but is it really the dominant research challenge today, even in the fields of AI or ethics? The financial incentives embedded in technology companies’ business models seem to me at least as important as morality in explaining these firms’ behavior.
At the same time, some important economic questions are curiously underexplored. For example, in his recent book The Technology Trap, Carl Frey expands on his gloomy view of what automation will mean for the jobs of the future, pointing to the adverse effects that the original Industrial Revolution had on the typical worker. Yet Frey also notes that a later period of automation, the era of mass production in the mid-twentieth century, was one of high employment and increasingly broad-based prosperity. What explains the great difference between those two eras?
Today, the role of research in changing behavior – whether that of government officials or of businesses and citizens – is part of the broader crisis of legitimacy in Western democracies. By the early 2000s, technocrats – and economists in particular – ruled the roost, and governments delegated large swaths of policy to independent expert bodies such as central banks and utility regulators. But then came the 2008 global financial crisis. With real incomes stagnating for many, and “deaths of despair” increasing, it is not surprising that expertise has lost its luster for much of the public.
This leads to a final point about the need for a science of progress: what do we actually mean by “progress”? How should it be measured and monitored, and who experiences it? For many reasons, the standard indicator of real GDP growth, which leaves out much of what people value, will no longer do.
The debate about progress therefore raises profound political and philosophical questions about the kind of societies we want. If the global economy falls into recession, as now seems likely, then social divisions and political polarization will intensify further. And the clear message since the turn of the millennium is that if most people do not experience progress, then society isn’t really progressing at all.
Current academic research – into the impact of new technologies, the economics of innovation, and the quality of management, for example – may be providing ever more pieces of the puzzle. But many crucial questions about economic progress remain unanswered, and others have not yet even been properly posed.
In a recent podcast conversation with Dr. Per Bylund, who teaches graduate economics and entrepreneurship at Oklahoma State, we discussed the differences between GDP and GO as measures of the health of the economy.
GDP (Gross Domestic Product) is the measurement the government prefers. It emphasizes consumption as the measure of scale and growth. Politicians love it, because, if their GDP metric demonstrates some slowing down, they can prescribe Keynesian “stimulus” measures to boost it – usually more government transfers – that they claim will turn into consumer income to be spent on more consumption.
GO (Gross Output) is the alternative measure that focuses not on consumption but production. It measures the value created at every step in the supply chain, when entrepreneurial businesses sell inputs to other businesses, and so on down the chain until final goods and services are supplied to consumers.
By the GDP measure, 75% of the scale of the economy is accounted for by consumption. By the GO measure, 75% is accounted for by production.
An economy with rising GO is a healthy economy. Companies are thriving and growing, selling more inputs to other companies, jobs are expanding, investment is being made in capital goods which increases productivity, innovation is being pursued in healthy rivalrous competition between firms.
An economy with rising GDP may or may not be healthy, because it’s impossible to see how the B2B companies are performing, whether or not they are growing and adding to employment rolls. Consumption may come from incomes, or savings, or credit, or from destruction of capital.
When economists and journalists look at the Trump trade war with China, they look through Keynesian, GDP-colored glasses. They see the cost of tariffs added to the prices at which China-made goods sell to consumers in the USA. Americans will pay more! They’ll be able to buy and consume less! It’s a tax on American consumers and on consumption!
When viewed through a GO-colored lens, it is possible to see Trump’s true intent. His end-goal is not to tax consumption. It is to shift the world’s supply chains so that they don’t run through China any more, but through the heartland of the USA. Under this scenario, more American firms would be selling inputs to more American firms, and so on until the final output is consumed. The US economy would be much healthier, as measured by GO. Perhaps our neighbors Canada and Mexico would be more involved too, via a new USMCA Treaty, so that the health of the entire North American economy would be improved.
Trump talks “GO-talk” when he makes speeches about the jobs that have been lost to globalist trade policies, and when he talks about bringing manufacturing back to the USA. The globalists did great harm to the US economy by assuming that production could be shifted to low-cost labor countries while the American consumer took care of global consumption. It was a hollowing out of American gross output.
Production is the health of the economy. People produce so that they can then exchange with others. It’s an economic law: Say’s Law or The Law Of Markets. We produce in order to sell, with the intention to then use the proceeds to buy what we really want. We produce to satisfy other people’s wants, and can then satisfy our own by purchasing what others produce. We can each specialize in producing something we are comparatively good at instead of producing only what we want to consume.
If we let that production take place overseas, we lose the opportunity to sell what we produce, and the subsequent opportunity to buy what we want. The interdependence of producers within a supply chain, and of producers and consumers in the domestic economy, erodes and softens and weakens. The social fabric can weaken and even tear if those who consume prefer to buy from overseas and do not reward domestic producers with their purchases.
This does not mean that we shouldn’t trade with anyone. There’s an international distribution of comparative advantage (another law of economics!) that can provide a guide to those goods that are actually better produced overseas, freeing up domestic production to focus on its most advantaged uses. But the law of comparative advantage is rendered inoperative, or at least badly flawed, when a country with which America is trading alters the exchange with distorting subsidies to more greatly favor their domestic producers. That’ not a natural advantage; it’s a government-created advantage.
When the globalists enthusiastically divert production into these artificially low-cost overseas manufacturers, they are often indiscriminately diverting capital and skills and labor that can be better utilized serving American-based production. We should be applying our own technology and our own efficiency-enhancing expertise to our domestic supply chains, aiming at higher quality, speedier and better innovation, and agile recombination of capital and resources.
Trump may not articulate this very well, and he may leave himself and his trade negotiators open to the accusations of waging a trade war that’s bad for consumption. He is not a theoretician, and can often leave himself open to theoretical second-guessing.
But a simple examination of the language of the theoreticians is enough to reveal that they don’t have much of an argument for the realities of the present day. For example, they like to talk about trade “headwinds” caused by the Trump tariff, revealing that their thinking is stuck in the days of sailing ships and the clipper trade. And they use these “headwinds” to justify interventions like Fed rate cuts, which simply parrots the kinds of policies that China is implementing.
Taking the long view, Trump’s ends are meritorious: make the economic adjustments that will result in more US production and a healthier economy based on a GO metric. We can’t know if the tactics he is pursuing will get us there, but he seems to be able to adjust on the fly and we should cheer him for his goal.
Hunter Hastings hosts the podcast Economics For Entrepreneurs.
An Earth scientist’s recent article making the rounds on social media highlights a terrifying conversation he had with “a very senior member” of the IPCC, which is the UN’s body devoted to studying climate science. The upshot of their conversation was that millions of people will die from climate change, a conclusion that leads the author to lament that humans have created a consumption-driven civilization that is “hell-bent on destroying itself.”
As with most such alarmist rhetoric, there is little to document these sweeping claims—even if we restrict ourselves to “official” sources of information, including the IPCC reports themselves. The historical record does not justify panic, but instead should lead us to expect continued progress for humanity, so long as the normal operation of voluntary market interactions continues without significant political interference to sabotage it.
Here is the opening hook from James Dyke’s article, in which he grabs the reader with an apocalyptic conversation:
It was the spring of 2011, and I had managed to corner a very senior member of the Intergovernmental Panel on Climate Change (IPCC) during a coffee break at a workshop…
The IPCC reviews the vast amounts of science being generated around climate change and produces assessment reports every four years. Given the impact the IPPC’s findings can have on policy and industry, great care is made to carefully present and communicate its scientific findings. So I wasn’t expecting much when I straight out asked him how much warming he thought we were going to achieve before we manage to make the required cuts to greenhouse gas emissions.
“Oh, I think we’re heading towards 3°C at least,” he said.
“But what about the many millions of people directly threatened,” I went on. “Those living in low-lying nations, the farmers affected by abrupt changes in weather, kids exposed to new diseases?”
He gave a sigh, paused for a few seconds, and a sad, resigned smile crept over his face. He then simply said: “They will die.”
Putting aside the creepiness of someone smiling as he predicts millions of deaths—sort of like a James Bond villain—we must inquire: How plausible are these warnings? Does the climate change literature actually support such bold projections?
As it turns out, the answer is “no.” It is certainly true that there are many particular dangers regarding climate change, which could have deleterious consequences on human welfare (broadly defined). But in order to conclude that millions—or even billions, as the author of the article states in his concluding remarks—of deaths hang in the balance, we have to grossly exaggerate all of the various mechanisms and scenarios, and we have to assume that humans do nothing to adapt to the changing circumstances over the course of decades.
In reality, it is much more likely that humans will adapt to whatever changes the climate brings them in the coming decades, and that various measures of human well-being—including not just GDP but also life expectancy and declining mortality rates from various ailments—will continue to improve. The voluntary market economy is an excellent general-purpose solution to the challenges facing humanity, including the handling of whatever curveballs climate change might throw.
IPCC’s Summary of Climate Change Damages
Unfortunately, it is difficult to come up with a statistic such as, “How many excess deaths does the IPCC predict from climate change by the year 2100, if governments don’t take further action?” If you consult the AR5, which is the latest IPCC report, and look at chapter 11 (Working Group II) on the impacts of climate change on human health, you will see various trouble areas and figures concerning at-risk populations, but nothing so crisp as to allow us to evaluate the casual claims of millions of deaths.
However, the IPCC chapter does tell us upfront:
The Fourth Assessment Report (AR4) pointed to dramatic improvement in life expectancy in most parts of the world in the 20th century, and this trend has continued through the first decade of the 21st century (Wang et al., 2012). Rapid progress in a few countries (especially China) has dominated global averages, but most countries have benefited from substantial reductions in mortality. There remain sizable and avoidable inequalities in life expectancy within and between nations in terms of education, income, and ethnicity (Beaglehole and Bonita, 2008) and in some countries, official statistics are so patchy in quality and coverage that it is difficult to draw firm conclusions about health trends (Byass, 2010). Years lived with disability have tended to increase in most countries (Salomon et al., 2012).
If economic development continues as forecast, it is expected that mortality rates will continue to fall in most countries; the World Health Organization (WHO) estimates the global burden of disease (measured in disability-adjusted life years per capita) will decrease by 30% by 2030, compared with 2004 (WHO, 2008a). The underlying causes of global poor health are expected to change substantially, with much greater prominence of chronic diseases and injury; nevertheless, the major infectious diseases of adults and children will remain important in some regions, particularly sub-Saharan Africa and South Asia (Hughes et al., 2011). [IPCC Fifth Assessment Report, Working Group II, Chapter 11, bold added.]
Later in that same chapter, we see the following table, which is illustrative of the general pattern when it comes to long-term projections about climate change harms to humanity:
As the table indicates, the absolute number (let alone the percentage of the population) of undernourished children in all developing countries, even with climate change, is projected (with certain assumptions) to drop by 9.4 million from the year 2000 to 2050. It’s true that the number increases in sub-Saharan African, but it falls in every other region. (It also rises in sub-Saharan Africa even without climate change.) We should also keep in mind that UN projections assume the populations in 26 African countries will at least double by 2050, meaning that the percentage of children who are malnourished still drops even in sub-Saharan Africa and even with climate change, according to the UN’s estimates.
As I have explained—most recently in this article—when it comes to climate change, the big projected damages don’t occur until many decades into the future. But for those people, standard economic growth will have raised their baseline standard of living by so much, that even if the UN-endorsed best-guess projections of climate change are accurate, those humans will still be much better off than we are today.
“It’s Getting So Much Better All the Time”
To see more evidence of this pattern, consider the following chart depicting mortality from various causes, created by Our World in Data using data from the Institute for Health Metrics and Evaluation (IHME), 2018:
As the chart indicates, the death rates from various types of causes have fallen sharply around the world, particularly those from communicable diseases, and all within the last 20 years—when climate change was ostensibly becoming a deadly problem for humanity that only “deniers” could ignore.
For another line of evidence, let me show you a table where the UN did give us some measures of “aggregate” damages from climate change. Specifically, in chapter 10 of the AR5 we see the following table summarizing the climate change economics literature on the subject:
Source: Table 10.B.1, IPCC AR5, Working Group II, p. 82.
As the table summarizes, even for warming of three degrees Celsius, all but one of the studies predicted non-alarming amounts of damage. (I discuss the table more in this article.) Now I should emphasize that although the impacts are measured in GDP terms, these damage estimates include things like impacts on human health and mortality. It isn’t simply a measured reduction in the flow of TV output because some of the factories are under the sea.
In any event, it should be clear from the table that—contrary to James Dyke—we should not expect millions, let alone billions (!), of people to die from climate change. Even if climate change proceeds as the peer-reviewed literature assumes in the most pessimistic emissions scenarios, it will probably merely mean that people in the year 2100 will only be a lot richer than we are, as opposed to a whole lot richer.
What About the Catastrophic Scenarios?
Now it’s true, nobody can guarantee that there won’t be a climate change catastrophe. But we must realize that at least several of the featured studies warning of huge negative impacts are based on obviously flawed assumptions.
Oren Cass provides us with some examples. One study looked at the increase in mortality in a cold, northern US city during a particularly brutal summer, and then extrapolated to show a staggering number of excess heat deaths decades down the road, when such “bad summers” were more common. Yet in the projections, the northern cities were no hotter than southern US cities are right now, and yes these southern cities don’t have nearly the same heat death rate as is projected for the northern cities decades down the road.
What is happening here should be obvious after a moment’s reflection: A northern city like Philadelphia is not adapted to hot summer the way Houston or Las Vegas is. But if climate change did indeed make such temperatures the norm—over the course of several decades —then the residents of the northern cities would adapt. The most alarming of the projections of climate change damages rely on naïve assumptions about human adaptability.
They would install more air conditioning, and the people born in the year (say) 2080 would be much better able physically to cope with higher temperatures in 2100 than the people alive today.This is also the general response I would give the issue of sea-level rise. I think that much of the rhetoric here is overblown, but even to the extent that it is true, we don’t need to worry about millions of people literally dying. Even if true, this is a problem that will manifest itself over several generations. If certain coastal regions are truly threatened, then in the worst case humans will stop building (and eventually even repairing) the houses and businesses near the rising seas. Humans can gradually move out of these (sinking) neighborhoods and go further inland, through a process of attrition rather than mass migration in the face of a tidal wave.
The climate change alarmists are given a free pass to throw out the most absurd rhetoric, such as a recent author’s warning that potentially billions of people could die because of human-caused climate change. Yet despite their claimed fidelity to the “consensus science,” such claims are not supported by the UN’s own climate change reports.
The most alarming of the projections of climate change damages rely on naïve assumptions about human adaptability. Even if we stipulate the basic projections made in the most recent IPCC assessment, what “unchecked” climate change will probably mean is that our great-grandkids will see a smaller increase in their standard of living than they otherwise would have, if some of the carbon dioxide in the atmosphere could have been costlessly removed. Such a possible outcome is no reason to panic, and it doesn’t justify massive government intervention in the energy or transportation sectors.
The recently-reported 3.2 percent growth of the nation’s economy for the first quarter of 2019 was met by a wide variety of interpretations by business analysts. Some said it soothes fears of a coming downturn, while others looked below the headline figure for symptoms of weakness.
One aspect of the economy, however, that continues to be near universally accepted as an article of faith is that consumer spending makes up the overwhelming bulk of economic activity.
“Growth in consumer spending — which accounts for nearly 70 percent of the US economy — stood at 1.2 percent,” declared the New York Post. Similarly, PBS reported“One of the main factors holding back expectations is consumer spending. It accounts for about 70 percent of the U.S. economy.”
This assertion, however, is highly misleading. Economist and former Columbia University professor Mark Skousen has for years explained that GDP numbers exclude “a big chunk of the economy – intermediate production or goods-in-process at the commodity, manufacturing, and wholesale stages – to avoid double counting.”
Total spending including all stages of production more accurately reflects an economy’s actual expenditures, according to Skousen. When measuring total spending using business receipts compiled by the IRS, Skousen found that “consumption represents only about 30 percent of the economy.”
One of the key insights of Austrian economists is the emphasis on the multi-stage production structure. They recognize that the production of new goods typically involves several stages, each temporally more or less remote from the final consumer.
To use the classic case of a pencil: first the lumber must be harvested by lumberjacks, and the wood transported to a sawmill where the wood is shaved down into slats and glued together. The wood is combined with the lead, paint and eraser – each of which went through many phases of production themselves to arrive at the pencil factory.
Once completed and packaged, the pencils are shipped to retail outlets throughout the land, ready for purchase.
At each stage of production for each of the inputs, countless capital goods and complimentary goods, along with labor, are employed.
The purchase by the final consumer of the finished pencils is but a small tip of the iceberg relative to all of the money invested in the materials, factories, labor and equipment in the many stages of the production process.
As Skousen further explained, “Business spending on capital goods, new technology, entrepreneurship, and productivity are more significant than consumer spending in sustaining the economy and a higher standard of living.”
Indeed, the truth about the economy is just the opposite to what the business reporters tell us: Consumer spending is the effect, not the cause, of a productive healthy economy.
This faulty and misleading emphasis on consumer spending has been the source of destructive public policy for generations. The emphasis on “getting consumers spending again” overlooks the true foundation for economic growth: investment spending on production, as fueled by real savings.
This is especially true in times of recession. Calls to boost consumer spending to right the economic ship are misguided and harmful.
The true factor that drags the economy into recession (and keeps it there) is the sharp drop in investment spending.
For instance, according to the 2010 report of the president’s Council of Economic Advisers, private consumption spending dropped by only 2 percent from its peak in the fourth quarter of 2007 to its low point in the second quarter of 2009 during the Great Recession. Total private investment spending, however, began its much more significant drop nearly two years earlier. Total private domestic investment reached its high point in the first quarter of 2006 and then fell by roughly 36 percent to its low point in mid-2009.
Therefore, attempting to boost consumer spending is clearly the wrong approach. Diverting investment capital toward consumption spending via government borrowing only worsens the lack of investment actually causing the recession. And without investment in new equipment, factories, technology, etc., what will spur the recovery?
As economist Robert Higgs noted, “Worn-out equipment, obsolete software, ill-maintained structures and depleted inventories are not the stuff of which rapid, sustained economic growth is made.”
Jean-Baptiste Say wrote in his 1803 book A Treatise on Political Economy: “it is the aim of good government to stimulate production, of bad government to encourage consumption.” Today’s politicians would be wise to heed Say’s words.
Bradley Thomas writes at erasethestate.com where this article foirst appeared.
“The correct answer, I am afraid, is that we have virtually no economic use for national accounts, partly because we cannot be in control of our economy and partly because our economy has a dynamism which outpaces such accounts.” Those were the words of Sir John James Cowperthwaite, Financial Secretary of Hong Kong from 1961 to 1971.
Cowperthwaite famously harbored a dislike for government statistics given an unrelenting aversion to government intervention in the economy. The production of economic statistics would perhaps cause politicians to “do something” in response to measures indicating economic trouble, so Cowperthwaite avoided them altogether. Considering how desperately poor Hong Kong once was, it’s not unreasonable to suggest that Cowperthwaite was on to something. An economy is not a blob, or an organism that can be massaged or nursed, rather it’s just people. People have needs and they produce in order to fulfill them by exchanging their production with others. Where people are broadly free economically, their production has a tendency to be substantial.
All of this came to mind while reading a recent column by the Washington Post’s Catherine Rampell. Smart and witty as she plainly is, there’s an odd reverence for experts, and in particular experts in government, that informs much of what Rampell writes. Because they’re at the Fed, central bankers are wise in eyes of Rampell despite their track record of being routinely incorrect about the economy. This isn’t a knock on Fed officials as much as it’s a statement of the obvious. Anyone with a really good feel for the economy’s direction wouldn’t toil at the Fed for well below 1 percenter wages. They’d earn millions and billions as investors, and would do this despite still being wrong much of the time. As top macro traders would surely relay to Rampell, they’re incorrect nearly as often as they’re correct. Often stupendously so.
Rampell’s reverence for government and its experts extends to the statistics they produce. As her April 16th column emphatically stated, “[O]ne basis of a democracy – not to mention a healthy economy – is good official statistics so that people can make informed decisions.” Except that what Rampell presumes about statistics isn’t true. And the previous statement has nothing to do with conspiracy theories about government officials having it in for Republicans, or affection for Democrats. Instead, it has everything to do with Rampell seemingly being unaware of what she doesn’t know.
To see why, consider Gross Domestic Product, a production of the Department of Commerce’s Bureau of Economic Analysis. Seen by some as worthy, it’s this very statistic that has a president whom she despises ranting about so-called “deficits” in trade. But we have these “deficits” precisely because the U.S. is a magnet for both investment and imports. The world’s greatest investors are more than eager to purchase American equities, debt and land, but “export” of those certificates of ownership doesn’t count in trade statistics, while our import of shoes, socks and t-shirts does. This accounting abstraction is the source of “trade deficits” that bring down GDP, and this same abstraction that is a happy sign of prosperity has our 45th president threatening trade wars. Yet Rampell wonders why some on the right look askance at government statistics?
Sometimes the dislike of government statistics is rooted in a simple aversion to waste. Consider the monthly unemployment report produced by the Bureau of Labor Statistics (BLS). Notable here is that the BLS employs 2,500 people at an annual cost of $640 million to produce its report. Meanwhile ADP, an S&P 500 payroll company, produces a monthly jobless analysis that nearly mimics that of the BLS, all at no cost to the taxpayer. Better yet, the ADP measure is released one or two days ahead of the BLS’s. And since Rampell is of the view that our economic health is at least somewhat an effect of quality information, does she really think the BLS’s much smaller sample size data is more thorough than ADP’s? Think about this for a second in consideration of how vast is ADP’s data; it once again being the most prominent payroll company in the U.S.
And if ADP doesn’t convince Rampell that private industry could and does more accurately and inexpensively produce economic statistics, consider the monthly retail sales report produced by the U.S. Bureau of the Census. While consumption is always and everywhere an effect of production that has taken place first, the economics profession broadly puts the cart before the horse. It focuses on consumption as an economic indicator, even though our wants are endless and can only be fulfilled through production first. But that’s a digression. Let’s consider the retail report.
It’s a creation of 5,000 surveys sent out to businesses each month, of which generally only 2,500 come back to the federal workers compiling the numbers. Comical here is that so dated is the survey that more than a few of them reach the Census Bureau by fax machine! Rampell might contrast this blast to the past with the monthly retail report produced by Visa. Figure that the credit card company is operating in the 21st century, and better yet its consumer data springs from 400 million accounts. Rampell rails against rejection of government data as the stuff of mouthbreathers, but isn’t her protest a wee bit overdone? For her to pretend that the Census Bureau’s retail stats are anywhere close to as accurate as those of Visa would bring new meaning to willful ignorance.
So while Rampell surely has a point when she critiques President Trump’s aversion to facts and numbers, along with those in his employ, she might take a step back herself. And examine her own biases. Smart as she is, there’s much she doesn’t know. Or hasn’t considered. The low quality of government statistics that she oddly venerates reveals the latter in spades.
John Tamny is editor of RealClearMarkets, and Director of the Center for Economic Freedom at FreedomWorks.
There is severe confusion about the meaning of economic growth. Many seem to mistakenly think that it has to do with GDP or producing stuff. It does not. Economic growth means that an economy’s ability to satisfy people’s wants, whatever they are–that is, to produce wellbeing — increases.
GDP is a rather terrible way of capturing this using [public] statistics, and is thus corrupted by those benefiting from corrupting such figures. GDP is not growth.
Likewise, having more stuff in stores isn’t growth. Producing increasing quantities of stuff that nobody is willing to buy is the very opposite of economic growth: it is wasting our limited productive capacity. But note the word ‘willing’. Wellbeing is not about [objective] needs, but about being able to escape felt uneasiness. It can turn out to be right or wrong, but that’s beside the point. Economic growth is the increased ability to satisfy whatever wants people have, for whatever reasons they have them.
Examples of economic growth aren’t the newest iPhone or plastic toy made in China as much as it is the availability of quality housing, food and nourishment, and the ability to treat disease.
One obvious example of economic growth since the days of Malthus is the enormous increase in our ability to produce food. The quantity and quality has increased immensely. We use less resources to satisfy more wants–that’s the meaning of economic growth. Economic means simply economizing, or finding the better use of scarce resources (not only natural such.) Economic growth is thus better economizing, meaning we have the ability, which means se can afford, to satisfy more wants than just the basic needs.
The beautiful thing with economic growth is that it applies to society overall as well as to all individuals: increased productive capacity means more ways of satisfying wants but also cheaper ways of doing so. But this does not, of course, imply that the distribution of access and ability to consume is equal and instantaneous. It spreads in stepwise fashion and will reach everyone.
Also, increased productivity really increases the purchasing power of all money, including (and most importantly) low wages, thus making it much more ‘affordable’ to satisfy one’s needs and wants. But note that the distribution of such prosperity cannot be equal or instantaneous: any new innovation, new good, new service, etc will be created somewhere, by someone–it cannot be created for seven billion plus people instantaneously. So anything new, including new jobs and new productive abilities, has to spread –as ripples– across the economy.
As new things are created all the time, it means we’ll never actually get to a point where everyone enjoys exactly the same standard of living. It cannot be any other way because economic growth, and the wellbeing it generates through the ability to satisfy wants, is a process. Perfect equality is possible only by not having growth: to pull the breaks, not increase wellbeing. In other words, not to increase convenience and living standards, not figure out how to treat diseases that we would otherwise soon be able to cure.
Those are our options, not the fairytale of “equal access to the outcome of growth.”
This doesn’t mean, of course, that we should be satisfied with inequalities. It only means we should recognize that some inequality is inescapable if we want everyone to enjoy higher living standards. But we should also recognize that much of the inequality we are seeing today is not of this ‘natural’ kind: it’s inequality of political rather than economic origin. This comes in two forms: inherited from privileges enjoyed by a few in the past, reinforced by contemporary political and social structures, and privileges created today through policies creating winners (cronyism, favoritism, rent-seeking, etc.)
From the point of view of economic growth as an economic phenomenon, policy-originated inequality has effects on both the creation and distribution of prosperity:
- Policy creates winners by (a) protecting some from the competition of new entrants and future winners and (b) restricting (monopolizing) the use of new technologies thereby propping up incumbents.
- Policy creates losers by redistributing value and economic capabilities to those favored politically.
This means policy has two primary effects on economic growth: it limits the creation of value and distorts its distribution. Needless to say, this inequality is not beneficial for society overall, but only for those favored. It is the creation of winners by creating losers.
This is not economic growth, which is accomplished by better economizing: increased ability to satisfy wants. In a sense, political favoritism and the inequality it causes is the opposite of economic growth, since it creates winners (rich) at the expense of others (generally spread out on a larger population). It’s just a redistribution of value already created by, at the same time, introducing inefficiencies in the system: allocation of productive capabilities that is not based on the creation of wellbeing but on political clout.
Over time, the economy is actually worse off because of this, and so the process of economic growth suffers. It is important to keep these two ‘sides’ of the inequality coin in mind when discussing the problem. Simply pushing the ‘stop’ button on economic growth will only accomplish increased influence by politics over economizing. That’s hardly beneficial, at least not for others than the political class and ‘insiders’ in the corporatist system.
Rather, a solution would be to get rid of politically created and reinforced privilege and allow economic processes to readjust to reality: to target production of wellbeing instead of favors and influence. This will not do away with inequality as such, but will significantly decrease it–and will do away with most of its harmful effects. It would mean an economy where entrepreneurs and workers alike would benefit from producing value for others. In other words, economic growth and higher living standards.
The alternatives are rather easy to understand, yet what’s commonly on the agenda of pundits and political commentators are made-up alternatives, often ignorant utopias, that distort the meanings of both privilege and economic growth. The alternatives we have are the ones stated above, nothing else. Make your pick. Striving to realize impossible fairy tales is a waste of time, effort, and resources. That’s not how we increase wellbeing and raise the standard of living.
To me, the solution is quite obvious. Most people seem to pick the fairy tale.
According to Mark Muro and Jacob Whiton of the Brookings Institution, the recent midterm elections “reaffirmed that America’s stark and massive economic divides—which align with and inform cultural fractures—are alive and well.” For evidence of this economic divide, they partnered with CNBC and used a study they conducted after the 2016 presidential election. The purpose was to survey the counties that Hillary Clinton won versus the counties that Donald Trump won. Obviously Clinton won very few counties, less than 500, but according to the research, those counties produced 64% of the total economic output. Trump won over 2600 counties which accounted for 34% of total economic output. The measure used for total output is Gross Domestic Product (GDP).
The GDP Fallacy
In the first place, Gross Domestic Product as a measure of total economic output is terribly flawed. The fact is that GDP only measures total consumption, meaning it ignores all of the economic activity that is necessary for consumption to occur in the first place. A good analogy would be that GDP is like the bottom line profit on a Statement of Income and Expense. The top line of the Income Statement, total revenue, is best represented by another measure of economic activity, Gross Output (GO). The gross output measure includes all of the supply chain economic activity that is necessary before finished product is available for final purchase.
Essentially, GO focuses on producers and GDP focuses on consumers. And it is consumers that government economic central planners, including Brookings, pander to. So it is no coincidence that they prefer GDP, which tells us that consumer spending is 70% of all economic activity. Conversely, GO tells us that consumer spending is 30% of economic activity, and for that reason it is ignored by the authoritarian intelligentsia.
Another fallacy about GDP is that it is the sum of three primary inputs – consumer, business, and government spending. So even though private sector economic activity always suffers when government spending increases, GDP can be used to mask the deleterious effects of government fiscal policy. But even more insidious is that GDP dismisses the foundational element of all economic structures, the role of the producer, the supply side. As Hunter Hastings has taught us, consumers are the demand side of economics, and government sponsored economic theory is strictly focused on goosing aggregate demand while denigrating the only side that matters, the supply side.
High Output America and Low Output America
According to the Brookings analysis, with the help of another reliable ally, the New York Times:
The sharp political divide that surfaced in 2016 between the densest, most productive and future-oriented portions of the economy and the rest of it—between what Jim Tankersley of the New York Times has called “high-output” and “low-output” America—remains a revealing, disconcerting fact of modern economic and political life.
Their point is that the Congressional districts won by Republicans in the 2018 midterms are low-output communities, and the districts won by Democrats are high-output. The data in the article says that Democratic districts (the elites) were 61% of national GDP, their GDP per worker was 25% higher, and they had a higher percentage of college degreed and technology workers. Republican districts (the deplorables) only had a higher percentage of non-advanced manufacturing jobs.
The implications of this are insidious, and the conclusions are insane: “as economic growth is concentrating in thriving urban and suburban communities, Republicans rooted in non-urban places remote from those future-leaning ecosystems continue to wield disproportionate power in Washington.” While it is true that population centers naturally enhance collaboration, and therefore innovation and wealth creation, the article totally ignores the obvious. Besides GDP being a horribly flawed yardstick, these so-called high output regions also have high budget deficits, massive debt, corrupt politics, and large populations living in despair.
False Premises and Their Contradictions
For example California, the poster child for innovation and wealth creation, is now the most heavily taxed, regulated, and poverty stricken state in America. It can be easily be compared to a feudal manor – gated communities surrounded by a much greater number of people engaged in subsistence living due to a very high cost of living. And those are the lucky ones; it’s much worse than that in certain parts of San Francisco and Los Angeles.
What Brookings is telling us is that people with a Bachelors degree are naturally more well informed and productive. This is a false premise that is easily refuted. For example, most bachelors degrees are worthless, except for creating massive student debt and short-sighted, resentful social justice warriors. Yet they have the gall to tell us that the denizens of these urban areas are more future oriented. But what kind of future? One of unsustainable debt, authoritarian government, and a nihilistic postmodern philosophy of identity group victimhood?
Brookings is also telling us that the lower cost of living, lower wage economies are holding back their omniscient wealth producers because of an antiquated political structure known as American style federalism, especially the Electoral College and the distribution of US Senators.
The two parties even more this fall represent “what America has been and what it is becoming”—and they are at a standoff. Going forward, the question is whether a nation that fails to support the needs of its core, high-value economy can truly thrive.
This is akin to the language of the Bolshevik Revolution: the bourgeoisie was to be sacrificed for the visionaries of the new Communist party. But instead of violent revolution, their weapon is GDP backed by academic elitism and contradictions.
The Economic Way
In reality, there is a large swath of America that understands that the best government is local government. The larger the number of viable political entities there are, and the more they compete with each other to attract producers, the more peace and prosperity there will be for everyone to thrive. It doesn’t take a worthless bachelors degree to understand this. And while technological innovation is collaborative and wealth producing, how can it be life-fulfilling if your senior management team has sold out to authoritarianism?
What Brookings is advocating, under the guise of a statistical survey based on faulty assumptions, is that the US Constitution must be erased and replaced with an even stronger and more centralized system to give more political power to their cherished “high-output” population centers. The false premise is that political power, not economic freedom, is the source of wealth. To Brookings discredit, the wealth created over the last two years because of deregulation and tax cuts led to a larger percentage (34% in 2018 vs. 31% in 2016) of their “economic output” voting to continue on the Road to Liberty.
On September 26th, Federal Reserve Bank (Fed) Chairman Jay Powell announced that the Fed Funds target rate is being raised above 2% for the first time since the Great Recession of 2008. The Fed uses this rate to steer monetary policy toward their favorite inflation, employment, and economic growth targets. The consumer price index and the unemployment rate are published by the US Bureau of Labor Statistics, and Gross Domestic Product (GDP) is published by the US Bureau of Economic Analysis. You get the connection.
Besides the 2% Fed funds interest rate, there is the 2% GDP growth number that is interesting. On October 29, 2012, the chief economist at Wells Fargo Securities, John Silvia, told the Risk Management Association that “Banks need to adapt to an economy in which 2% annual GDP growth is the new standard.” Then on June 11, 2014, Treasury Secretary Jacob Lew told the Economic Club of New York “Many wonder whether something that has always been true in our past will be true in our future,” referring to the Congressional Budget Office’s 2% annual GDP growth forecast.
And here it is four years later, and the most recent GDP growth calculation came in above 4% annually. What has changed? How could these public and private bank economists be so wrong? And what are they going to do about it?
4% Is the New Optimal Rate of Inflation
According to the Wall Street Journal, the 2% inflation target, another interesting coincidence, has been “a Holy Grail for the world’s major central banks. That is no longer the case given deep changes that have since reshaped the global economy.” Are they saying that corporate income tax reform and the political rejection of heavy handed regulation in the US and Britain have reshaped the global economy? Is 4% GDP growth merely an example of the Keynesian “animal spirits” that must be corralled by cooler heads at the Fed and the European Central Bank (ECB)? And what does a change in the inflation target accomplish?
Olivier Blanchard of the Peterson Institute for International Economics in Washington is calling for a 4% inflation target because in the event of a recession, it would be easier to cut interest rates. With a 2% target, it’s more difficult to cut interest rates, especially below zero. And sub-zero interest rates would be silly, right? Second, it would reduce the need for wage cuts in the event of a recession, but not for government employees. But what causes these anticipated downturns? If it’s not the government policies themselves, it must be these pesky animal spirits that caused 4% GDP growth in the first place.
Regarding debt, a higher inflation target makes it easier for borrowers to pay it off with cheaper money than what they borrowed, especially the government and their debt. The heck with the lenders and savers. And lastly, it would reduce the government’s debt to GDP ratio. The thinking here is that higher inflation means higher GDP growth, and this is true, except when its not, like in the 1970s. More realistically, its just another way to hide massive government debt accumulation.
0% is the New Optimal Rate of Inflation
According to Federal Reserve economist Anthony Diercks, “a mildly negative inflation rate would also have benefits, such as eliminating the cost of holding cash.” This idea may be a little harder to grasp, but it goes like this – when there is inflation, the cost of holding cash is its decreased purchasing power. One way to relieve all of us poor dumb slobs of our purchasing power risk (because of our large cash hoards) is deflation, meaning falling prices.
An added benefit of deflation would be negative interest rates. Meaning that if f you keep your cash hoard in a bank for safekeeping, it will earn a negative rate of interest, and you’ll have the privilege of paying the government bank interest on your deposits. But it doesn’t end there, the next likely step in helping with your cost of holding cash problem is to outlaw cash. This way your financial assets are always on deposit at a government bank, and only bank secured electronic purchases and sales will be legal. Otherwise, the central bankers would lose the interest income they’re charging depositors and the income taxes on the greedy capitalists. After all, its for the common good.
According to former Fed Chairman Ben Bernanke, “negative rates would be temporary and deployed only during severely adverse economic conditions.” Caused by what? And Vitor Constancio, Vice President of the ECB (where inflation and short-term rates have been zero or negative for about 3 years) says he has “no theoretical objections to a mild upward revision of the inflation target, however moving to a new target could undermine central banks’ hard won credibility.” Yes, credibility.
The Age of Complexity Worship
In all seriousness, fixing the price of money, setting inflation targets, government monopoly currencies, and measuring the wealth of an economy with Gross Domestic Product serves only one purpose – to expand the power of the Fed. This is because central bank governors are central planners, meaning self-proclaimed experts who disavow the productivity of free people and free markets. They believe themselves to be indispensable. Their rationale is that life has become too complicated for us poor dumb slobs.
To the Trump administration, raising the Fed Funds rate stifles economic growth. All administrations think that way. To the banks, higher rates mean higher net interest margins. They always think that way. Pundits defending the Fed’s move claim it leads to more normalized bond markets after ten years of artificially low rates. And normalized markets would be a great thing if that meant markets were free to float without interference from government econometric models.
For example, a huge flaw in these models is that they can’t anticipate innovation and the connectivity it inspires. The most recent inflation numbers came in a little lower than expected at 2.3%. This is because innovation is fueling even greater productivity, and helps keep prices stable, even in a hot economy. In other words – more and better and cheaper. It always works that way, and that bodes very, very well.
We are all familiar with the government’s preferred measure of economic activity, which is GDP or Gross Domestic Product. It is a measure, primarily, of consumption. It’s preferred because it fits Keynesian theories about the role of government and the rationale for interventionist “stimulus” measures by central planners. The theory, in essence, goes like this: (1) consumption is the driver of economic activity; (2) when economic activity stalls or slows, it’s because there is a lack of consumer demand; (3) if the government puts more money in the hands of consumers, that will fix the problem; (4) government can do that by printing money, redistributing wealth and income from rich people who save to less rich people who spend, or taxing business to divert resources to consumers, or going into debt and diverting the debt proceeds to consumers, or creating government projects where workers can earn wages for doing government work. Of course, they do all these things.
The truth is the opposite. We must produce before we consume. In a healthy economy, business drives economic activity by building capital goods, making things, developing services, innovating and hiring. Consumer spending is a result of business activity, not a cause. Left to their own devices, without government intervention, businesses will generate a healthy growing economy.
What gets measured gets managed. Government measures GDP and then gears up its multi-pronged interventions when GDP growth lags.
But we can measure economic activity the right way, reflecting business activity not consumer spending. Professor Mark Skousen is the great proponent of the true measure of the health of the economy, Gross Output or GO. Here is aa recent article of his that appeared in the Wall Street Journal.
The Bureau of Economic Analysis will release its preliminary first-quarter growth figure on Friday. According to the Atlanta Fed consensus tracker, economists are predicting gross domestic product to have risen at a meager 2% annual rate. But a powerful behind-the-scenes indicator suggests the real rate may turn out to be significantly higher.
“Gross output,” or GO, reflects the full value of the supply chain—the business-to-business spending that moves all goods and services toward the final retail market. Based on my work and research by David Ranson, chief economist at HCWE & Co., changes in the supply chain are a strong leading indicator of the next quarter’s GDP.
The supply chain, which the BEA calls “intermediate inputs,” took off in the fourth quarter of 2017, growing at a 7.5% annualized rate. That’s more than double the rate of real GDP growth and the fastest pace since before the Great Recession. Real GO, which includes both GDP and the supply chain, rose at a 4.7% rate. The growth was broad-based, with strong numbers in mining, manufacturing, utilities and construction. The fourth quarter 2017 GDP growth rate of 2.9% did not reflect the dramatic increases in intermediate outputs because GDP by definition measures only spending at the end of the economic chain.
The GO model is more in keeping with the Conference Board’s list of 10 leading economic indicators, which are linked to manufacturing and capital markets. For three quarters in a row in 2017, GO accelerated, probably due to the anticipated tax breaks and deregulatory environment. The boom in intermediate business activity should translate into higher economic growth soon, barring international instability, trade wars, or tighter-than-expected monetary policy.
As I noted in these pagesin 2014, measuring gross output is a breakthrough in national income accounting. By reporting GO as well as GDP, the BEA has helped economists catch up with the accounting and finance professions. Public companies have long reported the top line (revenue) and the bottom line (profit) at the same time each quarter. For a national economy, GO corresponds to the top line (total activity) and GDP to the bottom line (final product). As the economists Dale Jorgenson, J. Steven Landefeld and William Nordhaus wrote in a 2006 book: “Gross output [GO] is the natural measure of the production sector, while net output [GDP] is appropriate as a measure of welfare. Both are required in a complete system of accounts.”
GO also dispels the popular Keynesian myth that consumer spending is the driver of economic growth. For example, the New York Times recently warned: “With personal consumption accounting for nearly 70 percent of all economic activity . . . the administration will be hard pressed to lift growth substantially if consumers remain cautious about opening their wallets.” But GDP is an incomplete measure of economic activity. It overlooks the value of all goods-in-process, which amounted to more than $14.7 trillion in 2017.
The broader-based GO highlights the reality that business spending is actually substantially larger than consumption. Consumption is 69% of GDP but just 39% of GO, while business spending is 17% of GDP but 52% of GO. This model therefore better recognizes the vital contributions of entrepreneurship, capital investment and innovative technology. As Larry Kudlow, the new director of the National Economic Council, wrote in 2006: “It is business, not consumers, that is the heart of the economy. When businesses produce profitably, they create income-producing jobs and thus consumers spend. Capital formation is the key to worker productivity and consumer prosperity.”
The first-quarter 2018 GO release won’t come until July 20, but BEA director Brian Moyer says the agency plans to release both GO and GDP at the same time within the next year or two. Hopefully by then the media will catch on to this advance in supply-side national accounting and leading indicator of robust economic performance.
Mr. Skousen is a presidential fellow at Chapman University. He introduced gross output as a macroeconomic tool in his book “The Structure Of Production” (New York University Press).
Appeared in the April 24, 2018, print edition of Wall Street Journal.
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