It is not just that the government of the day is tweaking GDP figures, GDP does not reflect the real progress of a welfare economy like India
By Alam Srinivas
PRIME MINISTER Narendra Modi in his second inning has successfully sold several new grandiose ideas to the public. Last month, he pulled a new rabbit out of his economic hat – the desire to become a five trillion-dollar economy by 2024, i.e. a jump of more than 70 per cent from its existing size.
While economists debate about whether this is feasible, and whether the prerequisite conditions exist for it to happen, there is a crucial aspect that is being shunned. Is the size of the economy, or its GDP and its growth, reflective of a country’s wellbeing – the “health, happiness, security, and material comfort” of a nation and its people?
Recent research by several institutions such as World Economic Forum (WEF), Brookings Institution, and McKinsey, among others, concludes that the answer is a huge NO. According to an article by Robert Constanza (2014) on the WEF website, “The real economy – including all things that support human wellbeing – is much larger than the market economy estimated by GDP. GDP was never designed as a measure of overall societal wellbeing and its continued misuse for that purpose needs to stop.”
According to a recent study by McKinsey, the global think tank, “Perhaps most important, GDP was not meant to be an anchor metric for targeting national economic performance or a measure of national wellbeing. For the latter, there are many alternative measures, including the Human Development Index (HDI), introduced by the United Nations in 1990, and the OECD’s Better Life Index.”
The desire to become a five trillion-dollar economy by 2024, i.e. a jump of more than 70 per cent from its existing size
A piece on www.khanacademy.org mentions two other such indicators – Genuine Progress Indicator, and Happy Planet Index.
Before we get into the reasons why these indices are better than GDP, let’s look at what’s wrong with the manner in which we calculate economics and, by default, social, progress.
As is now clear, policy makers can manipulate – or tweak the GDP figures. Leading economists, including Gita Gopinath, Chief Economist, IMF, have questioned India’s formula to calculate the size of her economy, and its growth. Earlier, 108 economists, including former RBI Governor, Raghuram Rajan, wrote a letter to express doubts about India’s GDP.
A few months ago, Gopinath said, “There were important revisions that were made in 2015 as a part of modernising India’s national accounts statistics, so this is certainly welcome.
That said, there are still some issues that need to be fixed… and this is something we have flagged in the past.” Another economist pointed out that there was a contradiction between different figures – growth is up, but so is unemployment (at a 45-year high). This cannot happen unless productivity levels have shot up, for which there is no evidence.
In the case of India, like other nations with huge informal sector and cash economy, there is a major flaw in GDP’s calculations. In a chapter on demonetisation, the Economic Survey (2017) categorically stated, “It is clear that recorded GDP growth… will understate the overall impact (of demonetisation) because the most affected parts of the economy – informal and cash-based – are either not captured in the national income accounts or to the extent they are, their measurement is based on formal sector indicators.”
Imagine what will happen to the economic growth of nations like India that are endowed with huge amounts of natural resources and assets. Sadly, we have overlooked the benefits and depleted these assets
For economists and laymen, this statement is explosive. The official statistics either do not capture, or only roughly do so in some segments, the output in the unorganised sector.
This is mindboggling because it employs, according to ILO, close to 81 per cent of the employed people in the country. Speculating on such data, based as it is on what happens in the organised sector, is naïve.
The reason: while in normal times, the growth in both these sectors may approximate or be similar, in times when one is hit more than the other, the overall figures will be grossly over or under inflated.
Obviously, there is no consistency in, and sanctity of, such calculations. Thus, India’s annual GDP, and its growth rate, are mere numbers that can be quoted often by economists, media, policy makers, and other experts. In effect, they can be completely delinked from reality.
If the GDP cannot even capture the economic truth of a country, how can it be looked upon as an indicator for a nation’s wellbeing, prosperity, and development? Hence, the McKinsey observation: “There is almost universal agreement that GDP alone is an imperfect metric for growth and prosperity.”
Even if there is a mechanism to track the output in the informal sector, the GDP figures will still be inadequate. This is because they will always exclude a number of non-market activities.
Consider the example of your mother, who converts fruits and vegetables into squashes and juices on a regular basis. Or consider the outputs from services such as baby-sitting and lawn mowing. These are never reflected in official data, nor can there be a reasonable way to calculate them.
This is why the Brookings paper stated that the “exclusion of non-market activities that bear on economic wellbeing merit more attention, particularly given the potential for changes in the importance of such activities over time…”One must also remember another huge gap in the GDP data. This is the total exclusion of the black, or gray, markets.
In developed economies, where their sizes are smaller, they can be reasonably neglected. But not so in India, where the illegal economy is estimated at between 14-62 per cent of the official GDP. The lower estimate may distort the overall figures a bit, but if the higher one is true, it has tremendous implications. This may entail a dramatic change in the way we think about the Indian economy.
Consider how Arun Kumar, an economist and a leading expert on black economy, views it: “It (India’s unofficial economy) is larger than the income generated by agriculture and industry…. It is larger than the size of the Government (Centre plus states) spending…. Because of its existence, the country’s economy has been losing on an average 5 per cent growth (compared to official figures) since the 1970s…. If we add 5 per cent to the rate of growth over the past four decades, the size of our economy would be Rs 1,050 lakh crore (or about $15 trillion)….” In effect, we would be thrice the $5 trillion dream today.
We tend to think of the real economy in terms of the market economy – the goods and services that are deliberately produced every year. But let’s take a few steps back, and look around us. As the article on WEF website stated, “The real economy includes our natural capital assets – all of the gifts from nature
We tend to think of the real economy in terms of the market economy – the goods and services that are deliberately produced every year. But let’s take a few steps back, and look around us. As the article on WEF website stated, “The real economy includes our natural capital assets – all of the gifts from nature that we do not have to produce – and the immensely valuable, but non-marketed, ecosystem services those assets provide.
These services include climate control, water supply, storm protection, pollination, and recreation.”Economists feel that such natural assets “contribute significantly more to human wellbeing than all of the world’s GDP combined”. In essence, the overall global GDP is more than double of our calculations.
Imagine what will happen to the economic growths of nations like India that are endowed with huge amounts of natural resources and assets. Sadly, we have overlooked the benefits, and depleted these assets.
Since 1997, the world has possibly lost $20 trillion a year in non-marketed ecosystem services, i.e. an amount that is larger than the GDP of the United States.
Given such resource degradation, coupled with the negative impact on climate change and greenhouse effect, we have destroyed the ecosystem’s abilities to endure in the future. Hence, GDP and sustainability have to be thought of as interlinked and enmeshed.
If the former negatively affects the latter, it “diminishes the quality of life of the nation’s households over time”. It reduces the overall prosperity. The same will be true of activities that create negative values for a society – think of air and other forms of pollution.
Another aspect that is grossly overlooked when we look at a nation, purely through a restricted economic (market-related) lens, is social capital. Built over centuries, even thousands of years for certain communities, this includes the formal and informal networks between individuals and societies; the democratic, liberal, and other institutions that serve the various needs of the society; and cultural traits that are both specific and widespread.
Obviously, these cannot be quantified, but they form an integral and inherent part of a nation, household, and individual’s wellbeing and happiness.
This is why multilateral institutions now think in terms of indicators that can capture the state of the nation and globe in a better manner, with all the nuances. The UN HDI, for instance, “includes measures of health, wealth, and education”.
Hence, it is more broadly based than the GDP, which covers only economic activities, and that too partly. The Happy Planet Index captures a nation’s quality of life with measures of “happiness, life expectancy at birth, the degree of inequality across society, and the ecological footprint”.
Even the GDP formula was tweaked into Genuine Progress Indicator (GPI). Although this too focuses on output, it includes both the additions and subtractions. Hence, the “cost of negative effects related to… crime, environmental degradation, resource depletion, and the costs of climate change” are subtracted from the overall value addition to the economy.
Thus, it provides a more accurate and realistic measure of a nation’s quality of life. As a website claimed, “The relationship between GDP and GPI mimics the relationship between the gross profit and net profit of a company.”
A website explains how the GPI formula works. “GDP increases twice when pollution is created – once upon creation (as a side-effect of some valuable process) and again when the pollution is cleaned up. By contrast, GPI counts the initial pollution, as a loss rather than a gain, generally equal to the amount it will cost to clean up later plus cost of any negative impact the pollution will have in the meantime.
Quantifying costs and benefits of these environmental and social externalities is indeed a difficult task.” One of the biggest impacts of economic growth, if it is positive, is lower inequality, both economic and social, within a nation or society.
However, GDP fails to capture the effects of growing, and yawning, gaps between the rich and poor in practically every country. In the last several decades, even in rich and developed nations, most of the GDP gains went to the top 1 per cent earners, as the incomes of the remaining 99 per cent stagnated. In such a scenario, a high GDP, or double-digit GDP growth rate, is irrelevant.