Russ Roberts

Diane Coyle on GDP

EconTalk Episode with Diane Coyle
Hosted by Russ Roberts
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Continuing Conversation... McA... Continuing Conversation... Dia...

Diane Coyle, author of GDP: A Brief but Affectionate History, talks with EconTalk host Russ Roberts about the history of GDP, its uses, and its abuses. Topics discussed include the origins of GDP in the developed countries, the challenges of measuring the service sector, the challenges of dealing with innovation and product diversity, whether GDP should be supplemented with other measures of human well-being, and the challenges of dealing with internet-based goods that produce a great deal of satisfaction but make a much smaller impact on measured economic activity.

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0:33Intro. [Recording date: April 24, 2014.] Russ: I want to remind listeners that we have expanded the content at EconTalk.org. In addition to the regular episodes with links and additional readings, Amy Willis of Liberty Fund and I have been adding discussion questions to check your knowledge and deepen it, along with some postmortems on some of the episodes. So, please check those out and write us at mail@econtalk.org with any reaction to this new material.
0:57Russ: My guest today is Diane Coyle. Her latest book is GDP: A Brief but Affectionate History.... Our topic for today is your book, GDP, which is a lovely introduction to what might be a tedious topic; but your book is anything but tedious. Let's start with the basics, though. What is GDP? Guest: GDP (Gross Domestic Product) is a measure of an amount of economic activity, measured at market prices. It's the number that allows policy makers setting the level of tax and spend or setting interest rates to get their arms around how quickly or otherwise the economy is expanding. And it's been around in its present form for just a bit over 60 years. Russ: Yeah. And it stands for 'Gross Domestic Product.' When I was in graduate school we talked about GNP--Gross National Product. What's the difference between the two? Guest: The difference is income received from overseas or income sent overseas. So, Gross Domestic Product measures activity within the national boundary, and Gross National Product measures all the additional income or activity that is due to people who live in a country but are earning the money overseas. And the reason that GNP became GDP was because the focus switched to what it was that policy makers felt they could steer using macroeconomic policy. And also because so many countries, in a number of decades, the gap wasn't very big. More recently it's grown again. There are some countries that get a lot of interest earnings from overseas and others who get a lot of remittances then from migrants overseas. But we are still using Gross Domestic Product. Russ: Who invented the idea? Guest: The origins go back as far as [?] is back to the dawn of capitalist. The [?] history is that in the late 17th century, a person called William Petty started to try to count up national income, the purpose being to help the monarch understand what the tax base, how much taxes he was able to raise despite foreign wars. And it actually proved a great advantage to Britain in its almost constant wars with France in that period to have that information, because they were much more able to raise the funds and raise the troops than their opponents were. The concept changed a lot over time. The interest base[?] became what overseas earnings could a country bring in and how much gold could that bring in. But it wasn't until the 1930s in the Great Depression that anything resembling modern GDP came into existence. And there are two people usually named as being at the forefront of that effort--Simon Kuznets in the United States, and Colin Clark in Great Britain. What they were trying to do was give their respective governments an idea of how badly the economy was doing during the Great Depression. There had been ups and down in trade, of course. The Victorian Era was a very unstable era in the economy. But nobody expected the government to do anything about it in 19th century. It wasn't until the 1930s and the scale of the economic hardships in the Great Depression that anybody thought the government should do anything. And that's when the government thought it better get a handle on what was happening. There were lots of industrial statistics; there were even the beginning of unemployment statistics; but not any modern economic [?]. So that's when the effort started. What became Gross Domestic Product actually then had fruition in the second World War, led by John Maynard Keynes in the British Treasury. And it had a very specific aim, which was to work out what was available for the war effort. And what sacrifice civilians were going to have to make in their consumption in order to divert enough resources and material into producing for the war effort. It had that very specific military purpose. But then subsequently co-evolved with Keynes's macroeconomics and national accounts developed in the same categories that he was using in his thinking about the macroeconomy. So, modern GDP as we use it now dates from 1941. That's a long way of answering a short question. Russ: Well, we can spend the rest of the time actually just trying to answer the question of what it actually is. One of the things I found very stimulating about the book is that on the surface, it's a very straightforward idea. If you asked me to describe what's GDP to a non-economist, I'd say, Well, it's kind of simple. You just pile up all the goods and services and you count what their value is. But it doesn't quite work out as simply as that, especially if you want to make comparisons over time, which is what we are often interested in. We don't really understand what it means to put a dollar value on GDP today. What we're really interested in, often, is whether it's growing and by how much. But the stuff in that pile is different every year. So, how do you make that comparison and how do the statisticians try to deal with that? Guest: There's a great example recently of how much difference that can make, with the announcement by the Nigerian government that its GDP was 89% higher than they had thought the day before. And what they were doing is called 're-basing' GDP statistics. And in countries like the United States and the United Kingdom, what happens is every 5 years the statisticians will calculate how much of the economy is contributed by [?] industries. And they grow and decline over time. So, in 1900 there would have been quite a large weight on the horse-drawn-carriage-making industry and it would have a 0 weight now. And obviously you need to change those weights to reflect the way the economy changes. In Nigeria, that hadn't happened for a very long time; and it certainly hadn't happened since before the Nollywood film industry grew up, and before mobile phones became such an important sector of the economy. This is true of a lot of developed countries. Ghana made a similar move last year. Others are now lining up to [?] their GDP in the same way. And I think what this highlights is a misconception, really, that measuring the economy is like measuring the height of a mountain or length of a river. There is no natural object out there. This is a concept and it involves lots of judgment. And it changes a lot over time. And to get to your question specifically, there is a way in which you can never capture [?] innovation over time in any GDP statistics. Nathan Mayer Rothschild, richest man in the world at the time, died of an ulcer on his tooth because antibiotics hadn't been invented. What value could you possibly put on the invention of antibiotic that costs maybe $10 today? And that sort of innovation is simply not counted properly. Or can't possibly be counted in GDP statistics.
8:14Russ: One of the themes of your book is the value of choice and the expansion of products and services that are available, the richness in the modern world that we take totally for granted, when we go to the grocery store, when we hire someone to do some kind of activity for us, some kind of service. We don't just buy a pair of sneakers or a pair of shoes, we don't just compare to, say, 100 years ago. We don't just go to a doctor--we go to a specialist. It's very narrowly defined. And as you point out, the GDP statistics have a tough time dealing with that. They do try to deal with a little bit of those when they measure pricing, because one of the challenges, of course, is you care about real GDP--you care about correcting for inflation. You want to know what your actual command over goods and services is relative to, say, 5 or 10 or 1 year ago. And so you've got a big challenge because the quality of the product and the diversity of the products are changing. So, talk about hedonics and how they try to control for quality changes as best they can in the statistical measures. Guest: That's exactly right. The point being that if you spend $2000 on a laptop today, it will much better characteristics than laptops that you might have bought 3 or 5 years ago. It will have a built-in camera and Wi-Fi, and a much better screen resolution and more memory and be faster and so on. So, when they are calculating price indices for goods like that, they will do a regression essentially of the price on different characteristics to try and work out how much of the change in price, or absence of change in price as it were, is due to the better characteristics and how much of it is normal inflation. And that goes part of the way to answering this question of how do you take account of innovation. But not the whole way. If you think about how much computer power has increased over the past half century, it's many, many more times than they have adjusted for in the prices. If you wanted to have the equivalent of a 1946 computer on your smart phone now, you'd have something that was the size of half a dozen aircraft carriers. And that account[?] of technical change isn't able to be captured in the statistics. So they do their best with electronic goods and also with housing, where the quality of the housing stock has improved a lot over time. But there's a limit to how far the statisticians can make adjustments for these incredible changes in quality and the pace of innovation. Russ: Well, you could spend a lifetime trying to accurately estimate the value of those changes. But as you point out in the book in a number of places, it's not just that a laptop today is 4.7 laptops of, say, 8-10 years ago. Which is essentially what they are doing when they try to make those price changes. They are crudely trying to estimate how much more a laptop you have. Which is inherently ambiguous. But your other point, which I found very provocative--I hadn't thought enough about it--is that, what is a laptop isn't well defined at all. I'm doing this episode with you on my 15-inch MacBook Pro, which I use for podcasting; it has a very good microphone that allows you to hear me. And I also use it for photos and other things, word processing, where I have a large screen. But other times I use my 11-inch MacBook Air, which is a smaller machine. But they are both called 'laptops.' Now, that fact, that I have two to choose from--and of course there are people who don't like either one of those and choose a different laptop. There are people want an iPad, which is really a laptop, but kind of a smaller one. Or a cellphone. They all start to merge together. We love, we value that diversity. And yet that kind of gets lost in the statistical shuffle. Guest: I think it's--it's [?] very striking when you think about these high technology goods or something like medical goods or pharmaceuticals where the changes are dramatic. But this is true even of apparently trivial changes, too. One of my favorite examples is a TV program called "The 1900 House," that went out in 1999. Russ: Love that show. Guest: The program makes [?] a normal family as they would have in 1900. So, the woman of the house had to do all the laundry--she had to get the water by hand, scrubbing the clothes by hand, prepare all the meals from scratch, and so on. Really hard work, because of all the innovations in domestic machinery. But the thing that really makes her give up the show was that she couldn't get her hair cleaned, because shampoo hadn't been invented. She wasn't allowed to use any shampoo. And even these seemingly trivial things brought great benefits to consumers. And that's the kind of benefit that isn't captured--isn't intended to be captured in the GDP statistics. Russ: The American version of that is called Frontier House, which I think is set in the 1870s, even more brutal. All the participants--these are both reality shows or Public Television, where you watch these people today play by the rules of the past--other than medicine. Because otherwise the shows would have problems with people dying. Medicine and dentistry I suppose are the two exceptions. Nobody really wants to have their tooth pulled with a pair of pliers and no anesthesia other than maybe a glass of whiskey. So, these shows--the people in the 1870, in the Frontier House, they would have died, all of them. They weren't prepared for the skills they needed and just survive a winter on the prairie of America in 1870. Guest: And this is very illuminating, isn't it? These shows, when you think about the criticisms of growth, what people are saying when they are saying, 'Let's have a limit to growth,' is 'let's stop this kind of innovation.' And actually, innovation is growth. That's what it's all about. And in GDP we have a set of measures that are really ideal for an economy that mass produces things and where variety doesn't matter. And we now have an economy where variety is everything and innovation is driving growth at a great pace these days. Russ: But as you point out in the book, there are a lot of critics of GDP, because, as you alluded to just now, it implies a sort of gross materialism--that the goal of life is to make the pile of stuff bigger and bigger. But that's in many ways misplaced criticism, you seem to be saying. Guest: I think it is. Not only because the great majority of the economic activity in leading countries like the United States these days is in services and intangible items. It also completely underestimates, I think, this value that people place on choice and variety. And the trivia[?] matter as well. Jerry Hausman at MIT famously looks at the consumer benefit of the introduction of the apple flavor of Cheerios. And it was--I think it was $2- or $300 million dollars a year. And for one cereal flavor, that's a big number. People really value the ability to shape their own lives through choice. Russ: Yeah. I'm not sure I really believe that number, for the Cheerios. We talk a lot about Apple on this program from time to time anyway, and apple-flavored stuff doesn't come up that often. But that's very nice. He's done a lot of other interesting work on the challenges of measuring the Consumer Price Index accurately--which again are related to these kind of questions.
15:54Russ: Given these concerns, what is your take on the stagnation argument that people say, that we are not making any progress: the average person is either stagnating or falling behind in many of the Western countries. Do these statistical challenges give you pause about those claims? Guest: I think what they are pointing to is a wider need to look at a range of different indicators. And, to a varying degree among the OECD (Organization of Economic Cooperation and Development) economies, the people at the lower end of the income distribution haven't been sharing in the gains of growth for some time. Most extreme in the United States, but it's true to some degree in all countries because there's been much faster growth in top incomes than at the bottom. And I think it's obviously true that for many people this concern has struck a real chord recently. There's all the attention being paid at the moment to Thomas Piketty's book, Capital in the Twenty-First Century. It's obviously attracting a lot of attention. When you have that kind of concern about distribution issues, then surprise, surprise--you need to look at the distributions of incomes and growth as well as the averages. And if you are looking just at headline GDP growth, you are looking at an average number. Russ: The problem though is when you look at a particular statistical quintile or quartile or even the median, and it's not the same people over a 30 or 40 or 20 year period, you are getting a very inaccurate picture. The question is how inaccurate? And for some reason the people who are most upset about the lack of progress about the average person don't seem to take that into account. I find that deeply disturbing. Part of the problem is simply that household structure has changed so much over the last 40 and 50 years in the West that that distorts measurements of median, because you are changing the size of how you line people up, essentially if you are suddenly having an increase in the divorce rate. One of the things I find interesting is that the trends in the top 1% and the bottom 99% are the same trends in the United States and the United Kingdom and Canada; in many, many countries. And to me that suggests that there's got to be something--not 'got to be'--but it encourages one to look for an underlying cause that might explain all those, not just in one country. And to me demographics is a possible candidate. I guess it needs to be examined, but I'd like to see other people out there examining it. Guest: I agree. I think that the fact that the patterns are so similar among all the OECD economies means that you do need to look at--it could be demography, it could be technology, it could be globalization, increase in the global length[?] of time with China and other countries entering into the market and the way that production has been shifted around the globe; it could be lots of factors. And I don't think we have a clear enough picture of what contributing to what extent the patterns that we see in income inequality. And I don't think we have good enough data, as you are saying, on individuals as opposed to cohorts whose membership is shifting over time. There's a lot more work to do on this. Having said that, I think it's true that since 2008 with the downturn in the economy, people on lower incomes have not lost their jobs to the degree one might have feared, at least here in the United Kingdom; but have seen their real incomes decline over the past few years. So it's not surprising that they are feeling [?]. Russ: Yeah, I agree with that. I also should add that it's possible that those trends are explained by the growing political power of, say, the financial sector. Which would be a deeply disturbing structural problem, as opposed to a demographic change. Which is possibly indicating that the data are misleading. Those are two very different things. I just think we need to be careful about how we think about them.
19:55Russ: Let's turn to an issue that you talk about at some length in the book, which is government spending and the role of government in the calculation of GDP. I don't mean in the sense the government bureaucrats and economists do the calculating. I mean: How do we account for government activity in GDP? So, talk about what the challenges are there. Guest: The decision to include government spending in GDP is mostly recent. It dates back to 1941 and the modern national income accounts. And there was no way at the time that the governments of the United States and United Kingdom were going to produce statistics suggesting that government spending on the military effort was making the country worse off. It just wouldn't have been a good thing to do. And the rationale for it was that for the first time in the post-war era, government started spending, collectively, much more money on behalf of their population through education systems or here in the United Kingdom it was the health system. So, that was when it first got included. The trouble is, GDP is a measure of economic activity at market prices; and there is no market in government services. So, how to value that was the question. And for a long time it was done by counting up how many people worked for the government and how they got paid. And that gave you a figure in pounds or dollars, but it left you with, by definition, serial[?] productivity in government services. So, over time statisticians are trying to be more sophisticated in how they measure government contributing. So, for example, you might count [?] operations of certain types, and how much would it cost to do that in the private sector, or how much would a teacher in a private school get paid for doing the same as a teacher in a public school. And so on. And that gives you some handle on what were[?] their productivity gains in the government sector. But the very concept of productivity doesn't really work very well in lots of these services. And take a teacher. Is a teacher more productive if their people get higher exam results? Or if they, for the same money, teach more people than they did a year ago? And the whole concept of what is productivity suddenly looks a little tricky when you've got an economy that isn't producing products. And the same thing of course applies to a lot of services, too. It's just much harder to think about what productivity really means when the quality of the service is just so inherently part of what the economic impact of [?] is. Russ: Yeah. Reading your book, which forced me to think about this--I'd never really thought about it before, that services were such a problem--it really is the same problem as physical, tangible goods. It's just that we don't think of it that way. So, we think about physical goods, we think, well, if we make more airplanes than we made last year, more televisions than we made last year, more shoes than we made last year, and if we do it with say the same number of people and the same amount of capital, we are more productive and the economy has grown. You are right--you can't say, well, we taught the same number of students, therefore productivity is zero because maybe we teach them better. Of course, we might teach them worse. You don't know which direction it goes. But what the services example points out, which I found so fascinating, is that, well, it's really saying that because quality is so ambiguous with services, it's really difficult. We can pretend to control for it in the case of physical goods, but it's really the same problem. Guest: You are right. I think it's partly measurement and monitoring. We think[?] it's much easier, you know what your TV set works if you turn it on and you can see what quality the picture is. It's just much harder with many services. Many of them, the professional providing the service has an information advantage. Is my tax accountant doing a good job? Well, I have to rely on him to tell me, because I'm not a tax accountant myself. Is somebody building a new computer system that's going to work? I probably don't know until they get to the very end of their job and I turn it on and it does what I need it to or not. And even then I don't know how efficient it is in terms of the energy it's using or the processing power it's using. So it's just extremely hard to monitor quality in services. And to a much greater degree than in products. But I think you are right, the idea is the same. Russ: And going back to the government case, in theory--I think your idea is very stark and very clear that if you double, if you use salaries as your measure of output, and you double everybody's salary, obviously you don't get twice as much output, in and of itself. So you say, well, as you point out, you could look at private sector comparisons. But of course the private sector is distorted by the government payments. So private sector teachers, at least in the United States--I have no idea what they'd really make if there weren't, most of the teaching done through the government school system. So it's really a nasty [?] problem. And you just have to do the best you can. Guest: Yeah. And there are [?] judgments as well. There are all kinds of [?] at what's called the production boundary, what do you include and what do you exclude from GDP. And the famous example is housework, unpaid housework in the home. You'd pay a cleaner to do the work but you don't pay whoever is staying at home to do it and look after the kids. One is in GDP, and one isn't. That production boundary decision is just a judgment that statisticians have made. Russ: Mainly based on ease of measurement, as you point out. Guest: Ease of measurement. But also, some peculiar resolutions. I found out that if you volunteer to read at your local school, that doesn't count in GDP. But if volunteer to build a slide in the playground, that does count in GDP. Because there's a physical product at the end. So partly ease of measurement; or otherwise it's partly just you have to make some judgment calls.
26:04Russ: Let's go back to the wartime issue that you mentioned a minute ago, because it fascinates me. I'm entangled in the Keynes/Hayek rap videos, which of course deal with this issue; and it's an issue that economists talk about all the time. When they are looking at the multiplier and whether war is good for the economy or not. You are suggesting, from your earlier remark, at least, that people at one time actually did understand or at least believe that building tanks is not good for consumers. It might be good to save the country. But it doesn't make us richer. It actually makes us poorer. Talk about that and how that view has seemingly evolved, in some direction at least. I don't know if it's for the better. I think it's for the worse. Guest: Well, it was very clear that tradeoff in the workers as Keynes in the British Treasury--he was very clear that constrained[?] resources they could either be used to build tanks or they could be used for domestic consumption. And the tanks, in the situation, in the circumstances, are going to win that battle as it were. So, that became a problem of how much did you have to subdue consumer demand to make it possible to divert resources to the war effort? So, he was very clear about that, about that tradeoff. Russ: I suppose the alternative argument is that when resources aren't scarce, which is a strange phrase for an economist to utter but there were of course unemployed resources at all times, in varying sectors in vary amounts, varying sectors in varying amount. When they aren't scarce, then in theory, government spending is free. Which is a lot of America economists--I don't know how many economists in the United Kingdom made this argument in the last 5 years, but many in the last 5 years in America have said: Well, it's all free because there are no opportunity costs; it's going to stimulate the economy and help things grow; so there's no tradeoff. Guest: It seems to me there are two tradeoffs that get submerged in the way we look at the figures. And one of them is about the time horizon, and whether or not--it doesn't enter GDP whether or not you are looking at something that is for consumption today or investment tomorrow. They count the same in GDP. And it doesn't allow us to think about the tradeoff to making--about using resources now or investing them for consumption in the future. And that's true of the government's side, and it's true also on the private sector's side. If you want to think about sustainability, whether that's an environmental sustainability or financial or some other kind of sustainability, those differences do matter because the consumption/investment different does actually matter. And that's something that seems to me to be very confused in the macroeconomic debate over the past few years. I'm not a macroeconomist; I'm not going to try and adjudicate over that. But I think it's important to understand that difference. The other distinction that gets muddied is between measuring economic activity currently at market prices, which is useful for macroeconomic policy, and measuring consumer wellbeing or consumer welfare in some sense. Simon Kuznets in the 1930s and into the early 1940s was [?] proposed what became our concept of GDP, which is kind of ironic because people think of him as the father of GDP. But he definitely wanted a measure of consumer welfare. He would have argued against including government spending on tanks, but also against all kinds of things. He thought advertising, paying for criminal lawyers and the police forces--they were not consumer goods. They were consumer bads. And so he wanted an aggregate measure that excluded those kinds of things. So that's the other distinction: the time horizon but also the activity-vs.-welfare distinction. We can't [?] all of those when we talk about GDP growth. Russ: Yeah. The part about that that's strange, is it points out, as you discuss it in a number of places in the book: we want to kind of conflate happiness or human welfare with the size of the economy. In a certain sense that's true; it's a good thing to bring those two ideas together. If you have 15 or 25% unemployment and the economy shrinks during the Great Depression, say, or the Great Recession, that's not good. That's clearly very bad. On the other hand, work is not an end in and of itself. If people decided to work shorter hours--which we have over the last 200 years, steadily, pretty much, that's good. Because work is only a means, it's not an end. Sometimes it's an end. But for many people it's just a means. And as a result the idea that somehow the economy--I mean, the economy, if we work the 60 hours a week that we worked 100 years ago, or the 70 hours that we worked a hundred years ago, the economy would be a lot bigger. We wouldn't want to say, that's terrible, we've lost all that output because the pile of goods and services could be bigger. It's in some essential sense a mismeasurement of what we'd like to measure, which is human flourishing. Guest: And I think what you are pointing to is that there are tradeoffs, and it's good to measure those tradeoffs. As you are saying, GDP growth is a good thing; we know that if we don't have 2% a year or so, unemployment is going to rise. That makes people unhappy. The evidence on that is really clear. So you need growth for that. You need growth for innovation and new production services that people value so much. So growth is obviously part of what makes people happy. But there are lots of other factors, too; and sometimes you want to trade them off against each other. It's not 'growth at any price' [?] what life balance, which you've been talking about. There are environment costs of rapid growth, which are very obvious in a country like China, where you can't see out of your window when you get up in the morning. And that says to me that it's important to measure growth as well as you can, but it's also important to measure the other things and start to have a public conversation about the tradeoffs between them and what do we want to choose. Russ: Yeah. It's fascinating to me how focused we are just on the GDP number. And I think your book really points out--it's almost a fetish. There's something--I love growth; I think growth is marvelous. But again, not for its own sake. Some would argue that the reason we need 2% of GDP growth a year to avoid unemployment is because we have population growth. We can fix that--we just need to stop growing, have a smaller population. There are a lot of people who want just everything to go some kind of steady state, without innovation, without growth, not just material goods but also in population; in fact would argue we should have a smaller population. Guest: They would. And good luck to them trying to impose that on all their fellow citizens, is my answer to that. And if they want to stop growth, then I want to know when the next smart phone that comes along that they want, what they are going to give up instead. Because if you want new products you've got to give up old ones, if you are not going to have any growth. And I think that people who say, 'Let's stop the world, I want to get off,' haven't thought through.
33:50Russ: Before we move on to some more philosophical issues, I want to talk about an issue just on this measurement side that you've alluded to, which is differences between rich and poor countries. You mention that a lot of, some of the poorer countries, the so-called developing countries--you mention Ghana and Nigeria--have rebalanced essentially their basket of goods and services that they use to calculate price indices and GDP growth, and as a result, they are much richer than they were thought to be. Morton Jerven, who was a guest on this program in the past has argued that it's not just that they don't rebalance very much. They also are just not very accurate. And they have an incentive sometimes to just lie to make sure they get access to loans and other goodies. What are your thoughts on those differences between the data in richer vs. poorer countries? Guest: Well, I think I would agree with him that there are incentives for poorer countries to stay poor in an official sense even if not in a real sense, because of the World Bank loans that they can get access to or not. They don't often have the capacity or the resources to put into collecting the statistics, and the actual process of collecting the data is much harder in countries where the infrastructure isn't the same as it is. For example, running a survey of how much [?] investing is relatively easy to do in the United States because you can mail or do online surveys now; and that capacity isn't available in African countries at the moment. I think the new technology has offered them a lot of hope of catching up, if they put resources into it. Being able to use smart phones, to have people send data, for example, or actually using the smart phone network data itself to track activity is a possibility. So it could improve, but so far I would agree that they've not had very accurate statistics.
35:55Russ: So, what do you think of this argument, which you discuss in the book, about happiness? In one sense I was alluding to it--I don't--I wasn't making the same point that the happiness advocates make. But they have a different critique of GDP, the people who want to focus on happiness. Talk about what their argument is and what you think of it. Guest: Well, the famous claim is the Easterlin Paradox claim that if you look at the level of GDP in any country, at any one point in time, richer people are happier than poorer people, according to the [?] reports. If you look at it over time, it looks like getting richer in terms of GDP per capita doesn't bring about a corresponding increase in happiness. Russ: After some minimum level. Guest: After some minimum level. So, it increases at first and then it tails off. And I've always found this a little bit bizarre. I've never understood why you'd expect something like happiness to increase in proportion to GDP per capita. In technology terms you are comparing a stationary time series and non-stationary time series, and over some time period the correlation is bound to look like zero. To me it's a bit like say, well, height and GDP aren't correlated because people aren't, height isn't increasing in proportion to GDP per capita. Well, you wouldn't expect it to increase in proportion. And there is some more recent empirical work showing that if you look at GDP growth to handle the statistical issue, then there looks to be quite a tight correlation. So, I'm skeptical of the claim that people don't get any happier just because the economy is growing. I do think there's a lot of investing research on happiness, [?] in a much more microeconomic way. We know that unemployment makes people unhappy; we know that unhappiness is strongly correlated with mental ill health; we know that noise and commuting are definitely bound[?] in people's self-reported happiness. And these are useful because these are things that policymakers can have some hope of tackling. There's a sort of purpose to this kind of happiness research that I think there isn't to the macro stuff. Which people just like to lead from because they don't like the idea of economics and growth, really, so they've been on the happiness bandwagon. Russ: So, what is the implication of those kind of concerns about happiness? So, you and I agree that the goal isn't to get happiness up to 11 on a 1 to 10 scale. That's not really going to be feasible. What are the implications of that? Should we be looking at these other diverse measure of wellbeing and other activities, or should we try to live--some people would say we should live in a less materialistic world--because happiness can't go over 10 on the scale. Guest: It can't go over 10. And I think we know pretty well from the psychological literature that people adjust anyway. So their reference as to how happy they are will change if something changes in their life. So, it's useful to think about maximizing happiness. What a luxury to live in a country that's prosperous enough that we don't just care about having enough to eat or having warm homes. It's a great privilege to be able to think about these other issues and the kinds of tradeoffs that might come about. So I'm in favor of continuing this research, asking people what counts to them. There's a great model, I think, in Australia. It's very interesting. They had a consultation asking people what measures would they like to see in a dashboard that wasn't just GDP growth. And it didn't have any big surprises. But it was things like quality of the local environment, leisure time, convenience getting to work--all the obvious things that we know from econometric studies. And those data collected and published once a year on traffic light system--red is getting worse, green is getting better. And last year it was very clear that GDP growth is going great in Australia, and that was green. And resource depletion had worsened, so that was red. And actually, isn't that tradeoff really clear? Australians know that they are digging up the mineral resources of the country to have GDP growth now. They still would carry on doing it, but at least they know they did it. And I think that's a very constructive kind of debate to have in the policy arena. Russ: Well, the dashboard idea really points out the crudeness of GDP as a single measure. You don't have to be an environmentalist or a happiness advocate to observe that just this single number is not the be all and end all. The other problem, again from an Austrian perspective, is that the implication of the collecting of the numbers suggests that there is this monolithic, single aggregate that can tell us whether things are good or bad, whether they are getting better or worse, when in fact there are in America 330 million people, some doing better, some doing worse, for all kinds of reasons that have something to do with government, nothing to do with government. And the idea that we would just have this one barometer, just one single measure, and the idea that we could maybe control it, to me is a little bit pernicious. It's not really the healthiest perspective. I have to say that part of me says we shouldn't be collecting it. It's heresy for an economist to say that. But a part of me says it leads to a false sense of control. Guest: I take it the other way and say, we probably need to collect it, but we should collect other things too, and publish in the same way. And give them the same class status, so that when the numbers are published all the commentators and journalists will look at the other numbers as well as the GDP growth. And the resourcing of the statisticians and what they are directed to put their efforts to is overwhelmingly towards GDP. And I think [?], putting more effort, more resources into long-term debt statistics and natural resource statistics and other things that you might think are important indicator might be well worthwhile. Russ: The other thought, which is--I don't know if this is heresy or not--but if you look at one measure of human wellbeing, which is life expectancy, obviously we care about the quality of life, not just the quantity of life. But in general it seems to me the quality of life has improved tremendously for older people. I look at my 83-year-old father who complains because he is not as good a tennis player as he used to be. And he still has the knees that God gave him. But if he gets in trouble, a doctor can give him a new set. So, in many ways, quality of life is clearly much higher. And the quantity of life--life expectancy--certainly in the developing countries, certainly in both the developing and the developed countries, has improved dramatically over the last hundred years. And until the last few years it increased every single year in the United States. So, would you say that therefore we are doing fine? Would you argue it should get larger, it should be growing more than it is? It starts to force you to ask these questions about what kind of policy responses we'd have to any of these metrics. And my answer would be, well, I'm not so sure what the right policy responses are. Guest: I think it's very hard to pre-judge those policy responses. And part of the reason is that things look great--and I completely agree with you about the improvements in lifetime, in the quality of life. And more of that coming along, with new materials and medical innovations and so on. But I'm not sure whether we have a good handle on the risks and costs of what we've achieved. And so I would worry a little bit about global interconnectedness and global risks, for example, which we saw in a very alarming way in the financial crisis through the interconnectedness of the financial system. I think there's a lot of other measuring that would be good to do. And if I were in politics, I wouldn't want to hang everything on GDP myself because, as you are implying, governments can't control it, not in any direct or predictable way. And I don't really understand why politicians are so keen to claim that they can, because its size means nothing.
45:11Russ: It's a good question, actually. Why are they so keen? They can make it smaller. But that, they are pretty good at. I don't mean to suggest, therefore, that everything the government does is bad for the economy or bad for productivity. Obviously there are many, many things the government does well or better even than the private sector. I'm not an anarchist; some of my listeners are. They'll disagree with me. But I think there are some things that the government does that it does fine. Maybe it could be done better by the private sector, but at least it's close. But I think it's a natural human tendency to want to claim you can steer things, improve everybody's life, as if that was an actual reality. And clearly it isn't. Guest: I kind of understand wanting to claim that you can make things better in a general sense. Wanting to claim that you can make things better by GDP growth just seems to me a very silly way to do that. And, I'm a fan of statistics measuring things. I'd like to think that we are about to have the capacity to do a lot more really good measuring of things that we don't have a really good handle on at the moment. Is there something in the way that the regulatory authorities are starting to monitor data in the financial markets that will help us work out those kinds of interconnectedness dangers or long-term dangers that we know we didn't understand very well before, is one example. Understanding other specific natural resources where we are close to depleting them to a dangerous degree, whether that be water supply[?], trying to [?] the atmosphere, or something else. There's a lot of measuring to be done, and there are new tools coming along to do the measuring. So I think we could have a much more fruitful, interesting, and philosophical public debate about, what is the purpose of all these policymakers doing things and claiming to do things? Russ: I used to feel that way. I think that might be a little too romantic for me. I tend to side with Nassim Taleb, who--this is a paraphrase, I think, but it might be an actual quote--Big data means bigger mistakes. We look at the financial modeling; it's gotten so much more sophisticated compared to 50 or 30, even 20 years ago. And it's more dangerous. To me. I don't see any improvement to avoid crises. They seem to be coming more often, more frequently. Now it could be the world's gotten more complicated, and despite our better understanding it hasn't kept up with the complexity of reality. But I'm sympathetic to the idea that our hubris in claiming we can understand these things and control them might be the real source of the problem. Guest: Well, you might be right. But I'm going to stick to optimism and say that the sun is shining. Russ: That's fine.
48:09Russ: I want to now turn to some--I don't know if you want to call these philosophical or theoretical questions. You talk about this in the book, the challenge of what you wrote about before in your book The Weightless World, so many aspects of what our so-called economic life today are different than they were 20 and 30 and 50 years ago--the Internet. I want to use the example of Wikipedia. So, we create this thing--and I think, it's fascinating to me; I hadn't thought about it till I read your book--this really is the question you raise of the production frontier. And Wikipedia is like housework. So you've got all this unpaid labor producing this gloriously wonderful thing. I don't know whether it's better than cleaning clothes or not, or food on the table that's a well-cooked meal. But you have this glorious product that adds almost nothing to GDP. Guest: Yes. Russ: So, how does that affect our understanding of economic wellbeing? I think there's a difference between the economic wellbeing aspect of it and the productiveness of the economy part. Really, people are taking their time away from potentially paid activity, which is measured, to do unpaid stuff that's fabulous. Guest: And this goes to the difference between consumer surplus or welfare and what you can actually measure in GDP. There are lots of free digital goods, and if all the people producing them found a way of charging for them and making money, that would go straight into GDP. And some of it does already--take the electricity they use and the bills paid. Then that already makes a contribution to GDP. But there are quite large activities that are wonderful that are outside that production boundary. Skype, or-- Russ: EconTalk. Guest: Or EconTalk. Or these fantastic free podcasts. It's a great improvement in consumer wellbeing. And maybe some of that will move into GDP. And maybe some of it won't. And it's just like the housework boundary, where if you pay somebody to do your cleaning, it's in; and if you don't, but you do it yourself, it's out. And that's just--and I think that's just one of those things. Russ: The example I was thinking of--it's a really silly example but it's the kind of thing I would talk about in a class. Suppose I'm a fabulous whistler. And I like to whistle. So I go around and I whistle; and it's so beautiful that I'm the Pied Piper of whistling. People just--I'm not going to take people down to the river--I'm going to walk around whistling and people are going to follow me and enjoy whistling. That has nothing to do with GDP, but it makes life better. And it seems to me that it's so much--I want to say in the developed world--but maybe it's much more widespread than we might think: So much of the modern economy, or the way we spend our time would be a better way to say it, is about beauty. It was unimaginable 20 years ago because the technology didn't exist; but it was also unimaginable 50 and 100 years ago because we were too poor to follow somebody around whistling. We watch all this viral stuff on the net, or we listen to EconTalk or we take a course at Coursera or Udacity because we're just interested in it; and it's free. We don't pay for it. A lot of that stuff is really improving the quality of life. But it doesn't--it's disconnected from the productivity of the economy. And if I'm unemployed, the fact that I can listen to great whistling isn't much of a comfort. So, it seems to me there are sort of two things going on here, which we've been hinting at all through this conversation. Which is: we care about whether the economy's been working well, but we shouldn't fool ourselves into think that how well the economy works is the be all and end all of human meaningfulness and satisfaction and pleasure. Guest: I think it partly goes back to the concept of the gift economy, and there's just an important part of the way people transact with each other or relate to each other that is nonmonetary. And part of what's going on, particularly with the online goods, is definitely in that gift economy tradition. But then part of it is more the kind of thing that Adam Smith wrote about in The Theory of Moral Sentiments, about the importance of relations between people and the way that formed a bedrock for the world[?] of creating the economic activities. And that you should see the growth in the economy in the context of that wider set of human relationships.
53:20Russ: So, I want to close with a challenge for you, which we've mentioned a couple of times, but I want to expand on it a little bit. You've been in the government; you know some of the challenges that working in a government office--some of those challenges. I'm going to put you in charge. In America, you'd be the Secretary of Commerce--the Bureau of Economic Affairs [Bureau of Economic Analysis?--Econlib Ed.] is part of it, that collects the national income accounts and measures GDP. And we didn't get into the details, and mercifully you don't go into them in the book either, about the incredible amount of human effort that goes into actually counting these things. We made it sound like, you just go out and count and it isn't perfect. But of course, just the collecting of the data is a major human effort. I'm going to put you in charge. You can do whatever you want. You can keep it as it is; you can expand it; you can improve the hedonics. Or you can collect some other stuff. And you've got total authority to do that. What do you think the government should be measuring, and what would you do with it, as we go into the 21st century here? Guest: I would definitely move towards a dashboard of indicators. I think it helps to have agreement between countries that were collecting those, because being able to benchmark against other countries is really useful information for both policymakers and citizens. I'd want it to be an international effort. And I would take some of the effort away from making GDP statistics ever more complicated. Because I think there's real diminishing returns to what's happening with the GDP statistics. And I'd refocus effort on dashboards. And particularly on the tradeoffs that are much harder to notice. It's easy to know when you are working harder to make more money. It's much harder to get a handle on the time-horizon questions, the broad sustainability questions: how much are you putting on taxpayers tomorrow or how much are you using resources up that won't be available or won't be able to consume as you are today. So, that would be my decision. Russ: And let me give you a harder question. It's the summer of 2016, and the United States is in a political campaign for the Presidency. There won't be an incumbent running--there could be, but to some extent whoever runs on the Democratic ticket will have a measure of economic responsibility; as will the Republicans in some dimensions, because the economy is complex; you can throw blame around in lots of different ways. What advice would you give to a journalist--or a voter--about how to think about economic performance? We evaluate our presidential candidates in America a lot, in many ways in just two dimensions--economics and foreign policy. On the economic side, GDP plays a huge role. Did it go up? Did it go up enough? The other obvious variables are unemployment and inflation. People will look at those. But are you suggesting--do you think we should look at a richer menu, at least in terms of what presidential responsibilities should be? Or do you think it should be narrower? Guest: I think a diverse--well, let me talk for my own country; we'll have an election, too. My question is: What prospects have these guys given my children? What kind of leadership have they shown? Are they just responding to short-term pressure and headlines, or have they actually had some vision about what kind of country they wanted to be in, in 10 years time? My [?] be having to earn their job. And that's not just about GDP growth, is about are there, is there growth now that jobs are available; but it's also: What are they going to have to pay in taxes, what's going to happen to the environment, what kind of education have they been given to prepare them for whatever the world is going to look like. And those are hard questions. The chances of anybody getting the answers right are pretty low. But I would hope that that's the kind of thing that people go into politics for. Russ: We'll close on that optimistic note. Guest: It's my optimism, there. Russ: To match your earlier one.

COMMENTS (13 to date)
Greg G writes:

I have to admit that, when I saw the topic this week, I didn't believe that you could keep this one interesting. But you did. Nicely done.

I will adjust my priors. This is how an already high bar gets higher.

It seems that GDP, like the Dow is a heuristic that is remarkably easy to misuse and remarkably easy to use in a useful way as well.

Scott Campbell writes:

Kudos to Ms. Coyle. I liked what she had to say. I can only hope there are more people looking at the world with her perspective.

Ben writes:

The "dashboard" mentioned is called Measures of Australia's Progress.

Despite the guest's optimism, I don't see Australian journalists giving anywhere near enough attention to it, but regardless it's useful from an interested citizen point of view.

(I was tangentially involved with the project a few years back).

joshua writes:

Has there been any exploration by economists of the idea - hinted at in this discussion - that the usefulness of GDP as a measure of progress might have a declining marginal utility?

paul writes:

What's GDP worth? I suspect if "the market" really needed that information (which I don't think they do) it would find a cheap proxy. Stats like this only encourage economists and politicians.

Rick Groves writes:

Wonderful listen. A few thoughts:

1. I think we need to recognize that "economic health" is a fundamentally different type of thing than physical health, happiness, or what have you. As was discussed, GDP was not created to address the issue of well-being; it was about the economic capacity of the country, in aggregate, to fight a war. It so happens that economic capacity is strongly linked to well-being at the individual level and that we have an economic system that distributes wealth broadly, allowing a high proportion of society to recognize the benefits of the aggregate productive capacity. But it seems a bit silly to me that we would try to make GDP answer a question it was never intended to answer. To the extent that these discussions have begged the needed for new measures, we should first take a step back and agree on what the new question is. For me, the new questions are rather simple: How many people feel their lives have improved and by how much? Everything else is a component of this question. And the reason we need an aggregate measure is to facilitate conversations and decisions of trade-offs between the components.

2. Accordingly, Diane Coyle's suggestion that we should be measuring the other things in life people value strikes me as not only correct, but insufficient. Firstly, we should have some broad aggregate of well-being. It will not be perfect, but we will always want it and it would be much better to have a flawed measure of generic well-being than a flawed measure of economic activity as our north star. Secondly, Prof Roberts was right in being wary of merely substituting happiness for GDP. We should be publishing both an aggregate number (perhaps a few variants until one shows itself to be better) as well as data on a broad spectrum of things that people value, recognizing the diversity of individual preferences and priorities. Thirdly, those measures should not be published alongside GDP, but ahead of it. GDP should live in the background for explanatory context, if at all, should we find it actually useful.

3. Given the diversity of values and preferences, we may find that economic activity (of some sort) is a useful measure. But if we do continue to publish it, we should absolutely look at it in tandem with measures of distribution. Distribution matters is because it touches on the translation of that aggregate sum to the realization of the meaningful ends by individuals. Production leads to wealth and wealth leads to freedom. Wealth can be converted to nearly anything of value, including time with family or to update wikipedia. Those who lack wealth, lack the freedom of choice to consume those things they deem will improve their well-being. As not all things are of equal value, it only stands to reason that there are diminishing returns on the well-being value of wealth for an individual.

Who cares if our GDP increases, but that our stores of wealth are tied up solely in the pockets of relatively few? I realize Prof. Roberts argues that the accrued value to the every-man is can be hidden in product quality or new forms of value. His wealth may be static but his well-being improves. I don't doubt this to be true, for some. Better measurement of value would help us better understand the degree to which the wealth is truly trickling down through the economy. However, I do wonder where choice goes in all of this. At what point does control over investment of wealth matter, rather than simply consumption of what is produced by the investment class? If I am lower-middle class, a higher resolution display available at the same price provides me much less well-being than a more reliable vehicle, less smoggy air, better quality food, or some other things I may choose to invest in given the ability to do so. Controlling the means of production means controlling the available goods for consumption. Diversifying control of production will result in more efficient distribution of well-being weighted investment.

Todd K writes:

I don't quite see the point in the well-being indices that are already out there since so subjective and more so when aggregated into a number. I'm not even sure that something as simple as the misery index is that meaningful since some benefit from inflation while others are hurt by it. Fortunately, it doesn't seem to be used much. Also, it isn't that rare to hear economists say things like "The GDP is up but job recovery is lagging."

By the way, consider what happens to GDP and well-being when the super pills come out in 3 to 5 years, as leading scientists studying on longevity predict. Several pharmaceuticals are working on these and while it isn't exactly known what their effects on health will be, the general idea is that they will keep a 50 year old in his 50s much longer than 10 years health wise and the risk of major diseases would be significantly reduced.

Say the first pill that costs $2.50 per day (an estimate I've read) is on the market in 2018. The pill's affect on the GDP would be the sales of the pills with an added effect of reducing GDP as previous pills may have greatly reduced sales. Medical bills might suddenly be cut, which would also lower GDP. At the individual level, if in 2017 someone made $50,000 a year, she would have a notably higher physical well-being a year later even though her income rose only to $51,500 in 2018, assuming keeping up with 3% inflation that year.

Economists may try to occasionally adjust for computer and car performance when estimating the CPI but a super health pill would be in a different league of adjustments. I guess that's why they call these pills a coming "revolution." Take note, Laurence Koltikoff...

Mariana writes:

There are several points to this podcast that caught my attention and made me reflect. First was the idea of "how much laptop you have", meaning that even goods that we used to have in the past have changed and have developed in ways we cannot count on GDP. This raises the question of whether our comparisons of GDP and even its growth over time should be taken so seriously. Second, I have heard before of the "benefits" of war to the economy and I strongly disagree with it because of the way resources are used during war times. Despite that, the labor force was more productive during the world war time and that can be proven empirically. Therefore, the effects of war in a country's economy are dubious. Lastly, to compare economies across the globe (develop and underdeveloped) using GDP growth is extremely dissuasive because growth in poor countries have different effects than for rich countries.

Paul G. Silva writes:

I wonder what online games like Eve online are able to measure that real world governments can not? Every transaction in an online game is tracked. This makes possible amazing forms of measure. Might one of these be a useful guide for the real world?

Might Bitcoin technology give real world economists abilities to measure activities never before possible? Would they be any good?

John F writes:

On limiting growth. "And good luck to them trying to impose that on all their fellow citizens, is my answer to that." Currently those without children are subsidizing those that have children through the tax code. I don't agree with imposing either philosophy on everyone. Remove the subsidy and let people choose based on the true cost.

Ron Crossland writes:

Lovely discussion about an important issue - namely the relationship between measuring and decision-making.

When GDP was first introduced in 1941, it enabled better decision-making simply because it provided a gauge on the dashboard that wasn't there before.

What we don't do well as humans, is continue to upgrade what and how we measure. What we are good at is defending measures we have created and arguing over how to measure the existing dashboard gauges. In the case of GDP I suggest economists are more a part of the problem than the solution. Too much defense of macroeconomic views developed 60 to 70 years ago and too little innovative thought into how macroeconomics is changing.

Kudos, Russ, for your willingness to challenge GDP enthusiasts both with your comments and showcasing Ms. Coyle's work and commentary.

This nearly free podcast has increased my knowledge and will not count in any GDP measure.

Bogwood writes:

You cast off, start a nice sail, have a beverage. Then you notice lengthening shadows and realize you have been sailing down wind the whole trip. How will you get back before dark?

Central Banks love to sail down wind, even if they never get back to port. Should debt be fully subtracted from GDP? Partially? Maybe ten percent of debt buys something of long term use.

The goal or the "port" would have some level of security,tranquility and a modicum of real savings. (Current real savings massively negative, drawing down natural resources)

Greg McIsaac writes:

During the interview, Russ Roberts said: "There are a lot of people who want just everything to go some kind of steady state, without innovation, without growth, not just material goods but also in population; in fact would argue we should have a smaller population."

I am not sure who Dr. Roberts was referring to here, but I wonder if he might be conflating several different strands of thinking. The most interesting strand that comes to my mind is based on Herman Daly's notion of steady state economics which most definitely allows for innovation and improvement of human welfare. Daly's work includes a critique of GDP and the development of alternative indices of "sustainable economic welfare" which attempt to account of losses of environmental services resulting from expansion of GDP. Daly currently is on the board of the Center for the Advancement of the Steady State Economy http://steadystate.org/

Perhaps Dr. Daly or one of his collaborators could also provide a valuable perspective on GDP measures and how they might be productively modified.

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