The author has been described by News Ltd as an "iconoclast", "Svengali", a pollie's "economist muse", and "pungently accurate". Fairfax says he is a "Renaissance man" and "one of Australia’s most respected analysts." Stephen Koukoulas concludes that he is "85% right", and "would make a great Opposition leader." Terry McCrann claims the author thinks "‘nuance’ is a trendy village in the south of France", but can be "scintillating" when he thinks "clearly". The ACTU reckons he’s "an enigma wrapped in a Bloomberg terminal, wrapped in some apparently well-honed abs."

Sunday, March 20, 2011

Why our economic growth statistics are misleading

I have written about this at length before (search this blog for "GNI"). Most economists focus on real GDP as the core growth measure. But when there is a terms of trade boom with a huge positive price/income shock, there is a case for paying more attention to GNI (or GDI) and nominal GDP. HSBC's Bloxham provides one of the best explanations I have read:

“Real GDP probably understates the mining boom’s effect on the economy in a purely mechanical sense as well. As a starting point, real GDP directly measures only the volumes of resource exports. In a way, the price increases are treated like inflation, rather than boosted output. But whether this is the correct treatment is a valid question. It would be if Australia was a large consumer of these resources – but it is not. From Australia’s perspective, the rise in commodity prices is a net gain. One could think of it as a positive productivity shock. For producing the same amount of goods, we are now receiving substantially more income.

This measurement issue calls into question whether real GDP is the best measure for assessing economic conditions in Australia at the moment. Few other countries, especially developed countries, have to deal with a 100% rise in their terms of trade and the effects it might have on measures of economic activity.

Another (albeit crude) way to think about this is: Should we be thinking of a shipload of iron ore today as equivalent to a shipload 5 years ago? A shipload of iron ore is now significantly more valuable than it was 5 years ago. As the Governor of the Reserve Bank pointed out recently, a shipload of iron ore now buys 22,000 flat screen televisions, whereas 5 years ago it bought only about 2,200 (Stevens 2010). To believe real GDP is the right measure of Australia’s prosperity, you need to also believe that we should be fully discounting the measure of the economy for the effect of higher prices of our exports. Other measures may help in this regard.

Gross domestic income (GDI) is a measure that abstracts from the effect of the terms of trade on GDP. GDI has been growing significantly faster than GDP since 2004 and is running strongly at the moment (Chart 14). Nominal GDP is also growing very strongly, having risen around 9% over the past year – ‘Chinese’ rates of growth.”