Skip to comments.Itís Not Consumption that Drives the Economy
Posted on 10/04/2013 3:21:34 PM PDT by BfloGuy
Good news from Mark Skousen:
Important Announcement and some good news: It looks like government may be starting to adopt my new macro model, based on my concept of Gross Domestic Expenditures (GDE), rather than the old GDP, which is what gives the false impression that consumption, rather than production and investing, is what makes the difference in the economy.
Skousen has long argued that standards measures in the income and product account provide a very misleading picture of actual economic activity a picture not consistent with a structure of production understanding of the economy.
In Skousen words:
Heres why GDP is proving to be insufficient as the national income statistic: By focusing exclusively on final output, GDP measures only finished goods and services, what economists call the use economy. In limiting itself to final output only, GDP largely ignores or downplays the make economy, that is, the supply chain and intermediate stages of production required to produce all the 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. They note that consumer spending is by far the biggest part of GDP, followed by government. Private investment is a distant third.
Skousen’s suggested measure, Gross Domestic Expenditur,e gives a more realistic picture and highlights the importance of investment properly measured in overall economic activity:
GDE is a real eye-opener. It turns out that the make economy (GDE) is more than twice the size of the use economy (GDP) and is 3-4 times more volatile over the business cycle. It demonstrates that business investment (the supply side of the economy) is much bigger than consumer spending (the demand side of the economy), thus dispelling the notion that consumer spending is the main driver of economic growth. Consumer spending turns out to represent only about 30% of total economic activity (GDE), not 70% as constantly reported.
Skousen reports that he recently received a letter from Steven Landefeld, the director of the Bureau of Economic Analysis (BEA), confirming ”that the BEA recognizes the need for a more comprehensive measure of economic activity and will be reporting this new aggregate (called Gross Output) in addition to the quarterly reports on GDP.”
This new measure should hopefull be extremely helpful for those pursing historical research in capital-structure based macroeconomics.
Thanks Mark for being a leader in an endeavor to get a data source that provides a better picture of how an economy actually works.
As it stands, business-to-business spending is not considered in GDP at all. The Keynesians [who designed the GDP equation] concern themselves only with consumer spending.
They have always claimed that to include B-to-B spending would be "double-counting". Nonsense. The result of this omission is that, when a recession hits, no one has any idea what caused it.
It must be consumer spending! Dumb.
Are they trying to count supplies sold to a company in addition to the sales by the companies to consumers? So will steel, glass and plastics sold to Ford count once when sold to Ford and once again when sold as part of the car to the final consumer? How will tightly vertically integrated companies (which own everything from the mines and oil wells to the final point of sales) compare to a chain of contractors and subcontractors producing the same final product. Ideally both would count the same, but I fear that the two production methods would result in different results if you try to count business-to-business sales.
See what they are trying to say but I have the same concerns as you:
If they sell a window to a business for a factory it doesn’t count in the GDP but if they sell it to a houseowner it does. Or at least it appears to be what they are stating.
So this new thing will count both windows. But how do they eliminate the double count of flow down the chain if it goes outside to the consumer instead of staying inside at the company as capital maintenance/expenditure? Maybe they don’t count the consumer at all in that case... no clue on my part.
One question...how can consumer spending be smaller than business spending? How can businesses invest more money than they get back in sales?
I think the best measure ought to measure all economic activity. If no one’s buying or selling, that’s a bad economy. But if everyone is buying and selling, that’s a good economy. So counting every time something is sold makes sense as a measure. Even if I buy a baseball card, resell it, then that guy sells it, and the next guy sells it. Why not count all of that? I’m not sure the concept of “gross domestic product” makes sense either in a service-oriented economy anyway. If we had a measure that just showed the volume of money that actually changed hands in all transactions, that would be a good measure. That ties into everything we want to know about jobs, confidence, opportunity.
I can see why at first glance, you might think of it as “double-counting” to count both when a manufacturer sells a window to a store and when a store sells it to a consumer. But both transactions are important for similar reasons. Both of them are helping to keep a company in business. You can buy a bunch of windows and then go out of business before you sell them. But the manufacturer still made their money, so that should be counted.
As to how to count when a company does everything in-house, I’m not sure you’d want to count that anyway. Just because a company is confident they need to make 10,000 windows isn’t a good sign of economic growth because it’s just one entity’s opinion. An economy is about transactions taking place. And there’s no real sign there’s any demand for those windows until they’re sold to someone else.
Also, doing things in-house doesn’t represent the kind of economy that’s as useful to report on. I guess if everyone grew and ate their own vegetables that counts as economic output and wealth. But for the purposes of measuring, we just don’t know if there’s a true demand for a product until a second party buys it. So we can’t truly measure if it’s a valuable part of the economy until a transaction happens.
Very good question -- I hope I can answer it clearly.
The production of consumer goods takes place over an extended period of time. For example, the automobile driven out of the showroom today may well contain steel, the iron ore for which was mined a couple years ago. The wheat harvested by a farmer this Fall may not find itself in the loaf of bread you buy until next Spring.
By the same token, an airline which takes delivery of a new jumbo jet for $300 million this quarter will only expense a small portion of it against current revenues. This will be the case for any large capital expense: buildings, computer equipment, etc..
So, in any single quarter, business-to-business sales might far exceed sales to consumers. You are correct that over the long-term, sales must exceed expenses if profits are to be made, but I think it would be very useful to have this information made part of the GDP so we could watch the fluctuations as they occur.
The current equation has given almost everyone the mistaken notion that consumer sales "drive" the economy to the tune of 70%. They certainly do not. If everyone could see that, consumer spending is, perhaps, 35% of the economy, a much clearer picture would emerge.
And as recession approaches, business investment always drops long before consumer spending does. How nice it would be to see that in real-time. The government, the media, and Keynesian economists always seem to be blind-sided by these things.
They needn't be.