Monday, January 11, 2010

There is No Merit to GDP Unto Itself

In the video I posted below about China essentially building a city that nobody is living in, the reporter kept emphasizing the importance of GDP. That the government wanted to boost "GDP." However, given this "stimulus" plan of Ordos as well as the "stimulus plan" here in the US to boost GDP, I think it's high time we have a simple economics lesson in GDP.

Understand the goal of economics is NOT to increase GDP, but rather to increase standards of living. We simply USE GDP as a measure of all the goods and services produced within an economy, ASSUMING those goods and services when consumed help increase our standard of living. That by eating the grapes we produce and watching the movies we produce, we get utility from that, enjoyment from it, and therefore we enjoy our lives more, thus increased standards of living.

This is a logical assumption in that typically, TYPICALLY, we produce what we want to consume. We produce things that are only going to benefit us. Nobody produces ebola for consumption on account that why would we? Nobody produces styrafoam dogs. Nor do we make our roads out of cake. It not only would not benefit us, it just plain doesn't make sense.

However, this assumes an INCREDIBLY important assumption about how we go and produce things. We ASSUME that the free market is going to be in charge of what is produced. We assume that a free people, in control of their own money, is going to decide how many Big Macs we should make, how many I-Pods we should produce and how much sushi we should make. But what if this assumption is faulty?

The reason why it is faulty is the progressively less and less money is being spent by the people. A higher and higher percentage of our economy is being spent by the government. Going from essentially 3% of GDP in 1900 to 46% today.

Now the reason I bring this up is because our stimulus here in the US is much like it is in Ordos. The government is spending money to help boost the economy. And sure, yes, because of the formula;

GDP = Private Consumption + Government SPending + Investment +/-Trade Balance

it is a mathematical fact that these government spending plans will increase GDP, however they won't increase standards of living simply because NO UTILITY IS BEING DERIVED FROM IT.

For example, enroute to one of my many dance classes, I drive through a small town that had its entire main street redone with Obama's stimulus plan. Before the stimulus plan I drove through the town just fine. The street lights worked just fine. The parking was just fine. People were talking on the sidewalks just fine and the road was in fine shape.

However AFTER IT WAS REDONE WITH YOUR TAX MONEY, GUESS WHAT!!!

NO

DIFFERENCE

IN

MY

DRIVING

EXPERIENCE

WHATSOEVER

NOTHING HAD CHANGED. The ONLY thing that changed was the type of concrete used (oh, and there was a daily traffic jam for 4 months in this small town)

In otherwords the American tax payer paid millions of dollars for the "honor" of boosting GDP.

Standards of living did not go up.

The utility derived from driving on this road did not go up.

We just inconvenienced everybody who drove through this town for 4 months AND indebted the American people several million dollars more.

This is the lesson that must be learned about economics. Economics has NOTHING to do with GDP. Sure, great, wonderful, GDP is positive according to the BEA. "Hurray, the recession is over!!! Warm fuzzies for everyone!!! Hurray!"

But your lives have not improved simply because the money was wasted.

This then behooves a very important question;

WHO SHOULD BE IN CHARGE OF SPENDING THE MONEY?

a. A government bureaucracy headed up by one president and 535 congressional members, the VAST majority of which have never had to work a day in their lives and have nothing in common with the average American

or

b. 300 million individuals who are acutely aware of their own personal financial situation

This is such a simple question, I'm actually pissed off I have to write about this, because apparently a majority of people in America can't answer this question correctly.

Obviously the individual, who is more in tuned with their own personal finances, is going to make better use of that money than a centralized government. This not only stands to reason, but history, with the collapse of the Soviety Union, the eastern bloc, Cuba and now Venezuela, provides us the emprical evidence as well.

Heck, I would even be willing to meet leftists half way on this one. Fine, go ahead and indebt the nation. Fine, go ahead and do this wealth transfer from future generations to today's generations. Just don't put the government in charge of spending the money. Instead, just take the $2 trillion in stimulus money an cut every worker in America a roughly $15,000 check. That money would then not just show up in GDP (thereby satiating bureaucrats' idiotic and pointless goal of boosting a now-meaningless number), but the money in each individual's hand would be better spent, thereby ALSO BOOSTING UTILITY AND STANDARDS OF LIVING!

But no, no. We have to send our money...well...not really "our" money...our children's money to the great Obama and Pelosi and Reid and have them fix roads that just don't need fixing. Repair bridges that don't need repairing. And buy art that doesn't need buying. Because, afterall, that will boost GDP!

17 comments:

Anonymous said...

This post is making me bawl so much.

Marty said...

Read some of the "news" stories about Chavez devaluing his country's currency, and one article quoted some macroeconomics charlatan saying how great this was going to be for Venezuela, now that they could pay off some debt and make their country more attractive in the international trade market.

Insanity.

Anonymous said...

The company for which I work has been offshoring to South America for years. We have large operations in Brazil and in Argentina, but only a small token sales staff in Venezuela.

Now why do you suppose that is?

Back to the Captain's essay, I never thought to apply the Ordos story the way he did, but he's precisely right.

I definitely can spend my money on more useful items than the government.

Oddly enough, somebody buying a yardful of plastic pink flamingos as a prank is probably contributing more utility than the government wasting money digging holes and filling them back in.

Here's an interest thought though: which is a better use of taxpayer money?

a) welfare benefits which a poor person uses to buy a microwave or a big screen TV,

or

b) reconstructing a street that is perfectly fine as is.

between the two, a) would produce more utility.

Net - not that welfare spending is a good thing, but it appears it is possible for government to waste money on stuff that has even less value than welfare does.

Or am I not getting it?

Regardless, I'd still rather spend my own money than have government confiscate it and waste it.

Hot Sam said...

This is just like the new wheelchair ramps on the street corners in San Francisco I showed you. Blind people, as few as they are, are the only beneficiaries of this $600,000 project and they could probably get by without it.

Here's an example I like to use:

Suppose, one morning, every working mother in America decided to quit their jobs, fire their nannies, and home school their children.

GDP would plummet! All of the nannies would lose their income which is recorded in GDP. Schools would have to close and teachers would lose their jobs, reducing GDP. The womens' employers would lose (ostensibly) the best qualified workers and would have to "settle" for a replacement. It would cost money to hire and train the replacement. Employers would be worse off.

But is this massive decline in GDP a blow to social welfare? NO!

The women CHOSE to quit work and stay at home. Their economic decisions to increase their well-being are no less valuable than anyone else's. Their choice to raise their kids is revealed-preferred to earning a salary and is therefore WELFARE ENHANCING.

The nannies, teachers, and employers are worse off, but all their benefits were compensated THROUGH the price system. The nannies and teachers received competitive wages through the labor market. The employers received labor services through the labor market.

The negative effects are a false externality otherwise known as a pecuniary externality. People are worse off, but they are not third-parties to the transaction; they are principals in the labor transactions.

Firing the nannies and teachers releases their labor for other productive efforts. They won't like being "released", but tough titty, shitty kitty!

The replacements for the women benefit from their new jobs, but that is compensated through the price system too.

Employee turnover is an employer's cost of doing business. It doesn't matter if the employee quits, gets fired, takes a new job, moves, or dies. They take it in stride.

The value of mothers staying at home and raising their kids is NOT captured in GDP numbers. The external (social) benefits are also not counted. But the benefits are real nonetheless.

Yes, the workforce would lose lots of qualified labor, but there will be market incentives for people to acquire human capital and take their place. Nannies and teachers would have to learn new, higher valued skills to find employment in the "new" labor force. What's wrong with that?

GDP is probably the only good measure we have for social welfare, but it's important to understand its limitations.

Here's something I learned in my first economics class:

"If a baby cow is born, GDP per capita goes up. If a baby human is born, GDP per capita goes down."

What's up with that? The problem is that human beings are not counted in our measure of standard of living as PRODUCTIVE RESOURCES. They are treated as CONSUMPTION MACHINES.

Unfortunately, this misconception is becoming more true every day.

For the same reasons, I categorically deny the Paradox of Thrift. The idea that people saving more will HURT the economy is ludicrous. Certainly economic activity, as measured by GDP, will decline. But we will most certainly become better off by deleveraging and saving for our future consumption which would otherwise have to be supported by distortionary taxes.

Even in the short-run, the POT doesn't necessarily hold. Increased savings increases investment which increases GDP. It also increases our potential GDP through improved capital. Savings can also lower the cost of borrowing which allows others (who need or desire it) the ability to consume more at lower cost. More savings = more potential borrowing for consumption and/or investment.

Like Keynes' General Theory, the Paradox of Thrift is just another load of sophistry which gives politicians excuses to deprive us of more of our hard-earned money.

Macroeconomics is VOODOO.

CBMTTek said...

Ah yes, stimulus spending.

It is the equivalent of taking a bucket of water from the deep end of the pool, and pouring it into the shallow end. Then declaring the shallow end is now deeper.

Gotta love that logic.

Liberista said...

your posts are pure genius. btw, got your book and going to read it asap. keep up the good work.

Captain Capitalism said...

Thanks, I shall take the proceeds and spend it wisely on scotch.

Ryan Fuller said...

Plan to instantly raise GDP by 20%: make everybody work on Saturdays. Foolproof, but still a bad idea. Utility and GDP are different, and in the case of time spent not working they are directly opposed to one another.

Ryan said...

I just want to say something, the Soviet Union boosted GDP. They constantly wanted to boost GDP. They built giant dams and factories. Except it was expensive building these dams and factories. But these dams and factories didn't produce much electricity or goods of any value. Alot of input for very little output.

They only looked at output. Not output and input. Just like many failed banks, that only looked at how many loans they made.

Milton Hayek said...

You and I and everybody else knows this "stimulus" thing is a feint, it's just a rationale for leftists to spend money on leftist programs and causes (inflating government bureaucracies, filling union coffers, etc.). It's a political patronage system, it's Chicago politics.

"Stimulus" is just what they say so people don't wise up to it.

MTGirl said...

Hasn't it pretty much been proved that the stimulus was a giant con at this point? The hoax of all hoaxes? All this stimulus money got sent out to PAY certain people to do work, probably at a Davis-Bacon (spelling?) wages. I just wonder if the people who did that work might have known what was coming down the pipe and gotten in line a little quicker than most people.

Also, does all this stimulus bullshit reminded anyone else of the old company towns the coal barons used to run? You get a house from the company, but your wages are never quite enough to pay it off, and the food is expensive enough that you never quite manage to eat AND save up enough to send your kids to high school instead of the mine when they are 14?

The only problem is eventually the kids just don't give a crap and decide to run off and face the unknown instead of a life of known drudgery. Oh wait, that's all that going Gault stuff isn't it?

TheSwabbie said...

I concur with your completely. At first when I observed the Dems/Libs talking about how the Stimulus would fix everything and stop the ship from sinking I heard a strange sound.. it was the sound of my own voice screaming "YOU MORONS!". I am firmly convinced that the majority in power right now has absolutely ZERO knowledge of economics and is rude enough, stupid enough and lazy enough to think that firing up the Money presses they can fix what ONLY THE AMERICAN ENTREPRENEUR can fix!

Good quote!

Liberista said...

hey Capt.
read the book, actually swallowed it whole, took me less than 6 hours to read it. great book, im going to order a few extra copies and give them to some of my bosses. there should be more people like you.

Captain Capitalism said...

Thanks, there's unfortunately not going to be enough of me. Sure, let me know what your bosses think. What industry are they in?

Liberista said...

i work in a large telecommunication equipment manufacturer. is not a bad company, but management... well, is management ;-)
could be much worse though.

Anonymous said...

Great Article
I found your blog through Mark Perry's Carpe Diem blog and am learning a lot from posts...

Anonymous said...

The point of the stimulus packages used to 'bost GDP' is that they need to somehow distribute the said money into the economy to provide the utility to the populace. They can do that in a few ways. For example here in Aust, the government literally gave around $1000 per tax-paying person so spend on what they desired to keep the money flow moving through the economy (since as we know without a constant flow of money, with everyone saving, the economy stalls). OR as was in the case of your small town, the government can distribute the money THROUGH public works which go to individuals salaries and typically increase employment, thereby using these individuals as both a way to distribute the money, and to make both importaint AND superficial changes to public works.