This story appears in the
December 16, 2013 issue of Forbes.
“A balanced Input-Output framework…provides a more accurate and consistent picture of the U. S. economy
Survey of Current Business
Starting in spring 2014, the Bureau of Economic Analysis will release a breakthrough new economic statistic on a quarterly basis. It’s called Gross Output, a measure of total sales volume at all stages of production. GO is almost twice the size of GDP, the standard yardstick for measuring final goods and services produced in a year.
This is the first new
economic aggregate since Gross Domestic Product (GDP) was introduced over fifty
years ago.
It’s about time. Starting
with my work The Structure of Production in 1990 and Economics on
Trial in 1991, I have made the case that we needed a new statistic beyond
GDP that measures spending throughout the entire production process, not just
final output. GO is a move in that direction – a personal triumph 25
years in the making.
GO attempts to measure
total sales from the production of raw materials through intermediate producers
to final retail. Based on my research, GO is a better indicator of the
business cycle, and most consistent with economic growth theory.
GO is a measure of the
“make” economy, while GDP represents the “use” economy. Both are
essential to understanding how the economy works.
While GDP is a good
measure of national economic performance, it has a major flaw: In
limiting itself to final output, GDP largely ignores or downplays the “make”
economy, that is, the supply chain and intermediate stages of production needed
to produce all those finished goods and services. This narrow focus of
GDP has created much mischief in the media, government policy, and boardroom
decision-making. For example, journalists are constantly overemphasizing
consumer and government spending as the driving force behind the economy,
rather than saving, business investment, and technological advances.
Since consumer spending represents 70% or more of GDP, followed by 20% by
government, the media naively concludes that any slowdown in retail sales or
government stimulus is necessarily bad for the economy. (Private
investment comes in a poor third at 13%.)
For instance, the New
York Times recently reported, “Consumer spending makes up more than 70% of
the economy, and it usually drives growth during economic recoveries.”
(“Consumers Give Boost to Economy,” New York Times, May 1, 2010, p. B1)
Or as the Wall Street Journal stated a few years ago, “The housing
bust has chilled consumer spending — the largest single driver of the U. S.
economy…” (“Home Forecast Calls for Pain,” Wall Street Journal,
September 21, 2011, p. A1.)
Or take this report
during the economic recovery:
“Friday’s estimates of
second-quarter gross domestic product [1.3%, well below consensus forecasts]
provided a sobering look at how a decline in public spending and investment can
restrain growth….The astonishingly slow growth rate from April through June was
due in large part to sluggish consumer spending and an increase in imports,
which subtract from growth numbers. But dwindling government spending also held
back growth.” (“The Role of Government Spending,” New York Times,
July 29, 2011.)
In short, by focusing
only on final output, GDP underestimates the money spent and economic activity
generated at earlier stages in the production process. It’s as though the
manufacturers and shippers and designers aren’t fully acknowledged in their
contribution to overall growth or decline.
Gross Output exposes
these misconceptions. In my own research, I’ve discovered many benefits
of GO statistics. First, Gross Output provides a more accurate picture of
what drives the economy. Using GO as a more comprehensive measure of
economic activity, spending by consumers turns out to represent around 40% of
total yearly sales, not 70% as commonly reported. Spending by business (private
investment plus intermediate inputs) is substantially bigger, representing over
50% of economic activity. That’s more consistent with economic growth
theory, which emphasizes productive saving and investment in technology on the
producer side as the drivers of economic growth. Consumer spending is
largely the effect, not the cause, of prosperity
Second, GO is
significantly more sensitive to the business cycle. During the 2008-09
Great Recession, nominal GDP fell only 2% (due largely to countercyclical
increases in government), but GO collapsed by over 7%, and intermediate inputs
by 10%. Since 2009, nominal GDP has increased 3-4% a year, but GO has
climbed more than 5% a year. GO acts like the end of a waving
fan. (See chart below.)
I believe that Gross
Output fills in a big piece of the macroeconomic puzzle. It establishes
the proper balance between production and consumption, between the “make” and
the “use” economy, and it is more consistent with growth theory. As
Steve Landefeld, director of the BEA, and co-editors Dale Jorgenson and William
Nordhaus state in their work, A New Architecture for the U. S. National
Accounts (University of Chicago Press, 2006), “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.”
Historical
Background
The history of these two
economic statistics goes back to several pioneers. Two economists in
particular had much in common — they were both Russian Americans who taught at
Harvard University, and both won the Nobel Prize. Simon Kuznets did
breakthrough work on GDP statistics in the 1930s. Following the Bretton
Woods Agreement in 1946, GDP became the standard measure of economic growth.
A few years later, Wassily Leontief developed the first input-output
tables, which he regarded as a better measure of the whole economy. I-O
accounts require examining the “intervening steps” between inputs and outputs
in the production process, “a complex series of transactions…among real
people.”
I-O data created the
first estimates of Gross Output. However, GO was not emphasized as an
important macroeconomic tool until my own work, The Structure of Production,
was published in 1990 by New York University Press. In chapters 6 and
9, I created a universal four stage model of the economy (see the diagram
below) demonstrating the relationship between total spending in the economy and
final output.
In chapter 6, I made the
point that GDP was not a complete picture of economic activity, and compared it
to GO for the first time, contending that GO was more comprehensive and more
accurately revealed that business investment was far bigger than consumption in
the economy.
Since writing Structure,
I discovered that the BEA’s Gross Output does not include all sales at the
wholesale and retail level. The BEA only includes value-added data for
commodities after they become finished products. Gross sales are ignored
at the final two stages of production. David Wasshausen, a BEA staff
researcher, offers this rationale: since “there is no further
transformation of these goods…to the production process, they are excluded from
wholesale/retail trade output.”
Therefore, in the 2nd
edition of Structure, published in 2007, I created my own aggregate
statistic, Gross Domestic Expenditures (GDE), which includes gross sales at the
wholesale and retail level and is therefore significantly larger (more than
double GDP). For a comparison between GDE, GO and GDP, see my working paper.
The BEA has been
compiling GO statistics from input-output data for years, but the media have
largely ignored these figures because they came out only every five years
(known as benchmark I-O tables). Since the early 1990s, the BEA has been
estimating industry accounts annually. Even so, the data was never
up-to-date like GDP. (The latest input-output industry accounts are for
2011).
That has gradually
changed. Under the leadership of BEA director Steve Landefeld, the BEA now has
the budget to report the input-output data, including Gross Output, on a
quarterly basis, and has already begun publishing quarterly data prior to
2012. This is a major breakthrough involving the cooperation of the
Bureau of the Census, Bureau of Labor Statistics, the Federal Reserve Board,
and other government agencies.
Controversies
Over This New Statistic
Several objections have
been made over the years to the use of GO and GDE. Economists are especially
fixated over the perceived problem of “double counting” with GO and GDE.
I am the first to note that GO and GDE involve double counting. A
commodity is often sold repeatedly as it goes through the resource, production,
wholesale and retail stages. Why not just measure the value added at each
stage rather than double or triple count? they ask. GDP eliminates double
counting and measures only the value added at each stage.
There are several reasons
why double counting should not be ignored and is actually a necessary feature
to understanding the overall economy. As accountants and financiers know,
double counting is essential in business. No company can operate or
expand on the basis of value added or profits only. They must raise the capital
necessary to cover the gross expenses of the company — wages and salaries,
rents, interest, capital tools and equipment, supplies and goods-in-process.
GO and GDE reflect this vital business decision making at each stage of
production. Can publicly-traded firms ignore sales/revenues and only
focus on earnings when they release their quarterly reports? Wall Street
would object. Aggregate sales/revenues are important to measure on an
individual firm and national basis.
In my own research, I
find it interesting that GO and GDE are far more volatile than GDP during the
business cycle. As noted in the chart above, sales/revenues rise faster
than GDP during an expansion, and collapse during a contraction (wholesale
trade fell 20% in 2009; retail trade dropped over 7%).
Economists need to
explore the meaning of this cyclical behavior in order to make accurate
forecasts and policy recommendations. Double counting counts.
Another objection
involves outsourcing and merger/ acquisitions. Companies that start
outsourcing their products will cause an increase in GO or GDE, while companies
that merge with another company will show a sudden decrease, even though there
is essentially no change in final output (GDP).
That’s a legitimate
concern. Similar problems occur with GDP. When a homeowner marries
the maid, the maid may no longer be paid and therefore her services may no
longer be included in GDP. Black market activities often fail to show up
in GDP data as well. Certainly if a significant trend develops in
outsourcing or merger & acquisition activity, it will be reflected in GO or
GDE statistics, but not necessarily in GDP. It bears further
investigation to see how serious this issue is. No aggregate statistic is
perfect, but GO and GDE offer forecasters an improved macro picture of the
economy.
In conclusion, GO or GDE
should be the starting point for measuring aggregate spending in the economy,
as it measures both the “make” economy (intermediate production), and the “use”
economy (final output). It complements GDP and can easily be incorporated
in standard national income accounting and macroeconomic analysis. To see
how, take a look at the 4th edition of my textbook, Economic Logic (Capital
Press, 2014), available in paperback and Kindle.
Source: Forbes,11/29/2013 @
8:00AM by Mark Skousen
http://www.forbes.com/sites/realspin/2013/11/29/beyond-gdp-get-ready-for-a-new-way-to-measure-the-economy/3/ This
story appears in the December 16, 2013 issue of Forbes.
Mark Skousen is editor of Forecasts
& Strategies and a Presidential Fellow at Chapman University in 2014.
He is the author of The Structure of Production (New York University
Press, 1990, 2007), which introduced the concept of Gross Output as an
essential macroeconomic tool.
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