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Socratic Economics I: Why GDP growth above all else?

by Colman Thu Jun 29th, 2006 at 06:12:02 AM EST

On Migeru's request -

Why do we privilege GDP growth over all other measures of an economy's performance? This is a topic we've touched on repeatedly before

Migeru proposed three questions:

  1. What does GDP measure?
  2. Why does it need to grow?
  3. Does the need for GDP growth outweigh any other policy goal?

The first is well answered by the link above and the comments and diaries linked to it. The others I don't quite understand. I doubt I'll like the answers.


Display:
Here's a little rant I wrote two years ago...
Then, in Adam Smith's Wealth of Nations I found an explanation of the relation between economic growth and general welfare (although not phrased in those terms). Smith starts with a bit on living wages:
But though in disputes with their workmen, masters must generally have the advantage, there is however a certain rate below which it seems impossible to reduce, for any considerable time, the ordinary wages even of the lowest species of labour.

A man must always live by his work, and his wages must at least be sufficient to maintain him. They must even upon most occasion be somewhat more; otherwise it would be impossible for him to bring up a family, and the race of such workmen could not last beyond the first generation.

Interestingly, Smith assumes that children will be employed in a similar occupation to their parents. His living wage, to use modern parlance, must be really modest, because today's "working poor" still manage to survive and produce families. Then, a little bit on labour relations...
When in any country the demand for those who live by wages, labourers, journeymen, servants of every kind, in continually increasing; when every year furnishes employment for a greater number than had been employed the year before, the workmen have no occasion to combine in order to raise their wages. The scarcity of labour occasions a competition among masters, who bid against one another, in order to get workmen, and thus voluntarily break through the natural combination of masters not to raise wages.
Now for the relation between minimum wages and economic growth:
The demand for those who live by wages, therefore, necessarily increases with the increase of the revenue and stock of every country, and cannot possibly increase without it. The increase of revenue and stocks is the increase of national wealth. The demand for those who live by wages, therefore, naturally increases with the increase of national wealth, and cannot possibly increase without it.

It is not the actual greatness of national wealth, but its continual increase, which occasions a rise in the wages of labour. It is not, accordingly, in the richest countries, but in the most thriving, or in those which are growing rich the fastest, that the wages of labour are highest. England is certainly, in the present times, a much richer country than any part of North America. The wages of labour, however, are much higher in North America than in any part of England.

[...]

But though North America is not yet as rich as England, it is much more thriving, and advancing with much greater rapidity to the further acquisition of riches.

[...]

Though the wealth of a country should be very great, yet it has been long stationary, we must not expect to find the wages of labour very high in it. The funds destined for the payment of wages, the revenue and stock of its inhabitants, may be of the greatest extent; but if they have continued for several centuries of the same, or very nearly of the same extent, the number of labourers employed every day could easily supply, and even more than supply, the number wanted the following year. There could seldom be any scarcity of hands, nor could the masters be obliged to bid against one another in order to get them. The hands, on the contrary, would, in this case, naturally multiply beyond their employment. There would be a constant scarcity of employment, and the labourers would be obliged to bid against one another in order to get it. If in such a country the wages of labour had ever been more than sufficient to maintain the labourer, and to enable him to bring up a family, the competition of the labourers and interest of the masters would soon reduce them to this lowest rate which is consistent with common humanity. China has been long one of the richest, that is, one of the most fertile, best cultivated, most industrious, and most populous countries in the world. It seems however, to have been long stationary. [...] The accounts of all travellers, inconsistent in many other respects, agree in the low wages of labour, and the difficulty which a labourer finds in bringing up a family in China.

[...]

China, however, though it may perhaps stand still, does not seem to go backwards.

[...]

But it would be otherwise in a country where the funds destined for the maintenance of labour were sensibly decaying. Every year the demand for servants and labourers would, in all the different classes of employments, be less than it had been the year before. Many who had been bred in the superior classes, not being able to find employment in their own business, would be glad to seek it in the lowest. The lowest class being not only overstocked with its own workmen, but with the overflowing of all the other classes, the competition for employment would be so great in it, as to reduce the wages of labour to the most miserable and scanty subsistence of the labourer. Many would not be able to find employment even upon these hard terms, but would either starve, or be driven to seek subsistence either by begging, or by the perpetrating perhaps of the greatest enormities. Want, famine and mortality would immediately prevail in that class, and from thence extend themselves to all the superior classes, till the number of inhabitants in the country was reduced to what could easily be maintained by the revenue and stock which remained in it, and which had escaped either the tyranny or calamity which had destroyed the rest. This perhaps is nearly the present state of Bengal, and of some of the other English settlements in the East Indies. In a fertile country which had before been much depopulated, where subsistence, consequently, should not be very difficult, and where, notwithstanding three or four hundred thousand people die of hunger in one year, we may be assured that the funds destined for the maintenance of the labouring poor are fast decaying.

Smith ends with the following indictment of the East India Company:
The difference between the genius of the British constitution which protects and governs North America, and that of the mercantile company which oppresses and domineers in the East Indies, cannot perhaps be better illustrated than by the different state of those countries.
Why is this important?

In modern language, I think that Adam Smith is simply saying that wages are in a direct correlation to GDP per capita, which should not be surprising. This explains the emphasis on growing the GDP. Still, what if GDP growth is not sustainable for one reason or another?

There is, in fact, every indication that our current economic model is unsustainable. Resource depletion and environmental damage are almost irrepairable. Exponential GDP growth can only go on forever if the "Production Possibility Frontier" expands exponentially. The problem is that the expansion of our economy is fuelled by nonrenewable resources, and so at some point the PPF might stop growing fast enough. Considering also that a substantial fraction of the world's population survives on less than $2 a day, and that even in the "first world" long-term unemployment is rampant and only getting worse due to outsourcing, it might be that any GDP growth is only benefitting the moneyed elite, and not the generality of the working poor.

Assume for a moment that there are limits for growth of the world's GDP. Then the only way to prevent a general decay of living conditions, even for us in the first world, will be to substantially reduce population, but this is not about to happen.

So, the question is, is there a way for "steady state economics" to escape the very unattractive depiction that Adam Smith makes of it? As the efficiency of labour increases with time even with a constant GDP, are the only alternatives either a decrease in population or in living standards, or both?

To end on a grim note, it is clear that war is a way to keep the GDP growing. You spend money on making weapons, then spend money paying people to use up those weapons destroying resource, capital, and killing people, and then use even more money in reconstruction. However, if the world reaches a point where the only way to increse the GDP is war, the relative size of the "war industry" in the world economy will increase until the whole economy is in war mode, and we end up living in a world not unlike Orwell's distopia. Is this what Eisenhower was warning about when he spoke of the dangers of the military-Industrial complex?



A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman
by Migeru (migeru at eurotrib dot com) on Thu Jun 29th, 2006 at 06:20:39 AM EST
I think that Adam Smith is simply saying that wages are in a direct correlation to GDP per capita

To GDP or the rate of GDP growth?
by Colman (colman at eurotrib.com) on Thu Jun 29th, 2006 at 06:28:03 AM EST
[ Parent ]
I think he probably means GDP growth as a proxy for aggregate wealth growth (assuming the ratio of GDP to aggregate wealth is roughly constant in time).

What he really is concerned with is the amount of productive capital and the value of infrastructure and land.

Part of the point is that productivity increases lead to a decrease in the demand for labour unless the amount of capital chasing after labour increases at least at the same rate.

A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman

by Migeru (migeru at eurotrib dot com) on Thu Jun 29th, 2006 at 06:31:49 AM EST
[ Parent ]
Yes, but 'productive capital' is a complete fiction. Capital doesn't exist as a physical thing. It only exists if people choose to believe in it.

Natural resources certainly exist, and the destruction of natural resources has an obvious real-world effect.

So why do economists apparently prefer to deal with fictions than realities? I suppose one reason is that once upon a time capital would have been based on some notional and desirable physical incarnation of value such as gold. Or cowrie shells. Or wives. But today the notion that capital has a physical basis is obsolete. It's purely a social tradition. You can still buy things with capital, but that's only because everyone agrees to play the game and not ask questions about how it's played.

That's why you won't find a rational underpinning to economics and to ideas like GDP. It's like trying to find a rational reason for the pyramids.

To me the constant quest for 'growth' looks like any other irrational ritualistic anthroplogical activity. Humans seem to get stuck into these collective belief systems based on simple primate desires for more status and more resources - like pyramid building or 'growth' - and continue until the local ecosystem falls apart or some other drastic change happens. Otherwise there's no one outside of the system to point out that in most ways the beliefs and actions are really rather silly, if not actively destructive and pointless in a monkey-trap stupid kind of a way.

It's true there's a rather vague and inconsistent conflation of 'growth' with personal freedom that's often used a justification it. But we're on much shakier ground there, because it's hard to prove that this personal freedom is universal - for most of the world it hasn't been - or that it's not a kind of semi-voluntary ritualistic slavery, even among those it's supposedly benefiting.

by ThatBritGuy (thatbritguy (at) googlemail.com) on Thu Jun 29th, 2006 at 01:04:03 PM EST
[ Parent ]
Capital doesn't only mean money, it means capital goods: tools, machinery, your computer.

A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman
by Migeru (migeru at eurotrib dot com) on Thu Jun 29th, 2006 at 01:10:44 PM EST
[ Parent ]
Though Drew told me recently that in his opinion the distiction between money and capital goods is irrelevant.

A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman
by Migeru (migeru at eurotrib dot com) on Thu Jun 29th, 2006 at 01:11:47 PM EST
[ Parent ]
Why would you draw a distinction between the two?

Be nice to America. Or we'll bring democracy to your country.
by Drew J Jones (pedobear@pennstatefootball.com) on Thu Jun 29th, 2006 at 02:41:53 PM EST
[ Parent ]
Because it's questionable whether they're equivalent? It's not immediately obvious to me that they are, in the short- to medium- run (the real world) at least.
by Colman (colman at eurotrib.com) on Thu Jun 29th, 2006 at 02:43:57 PM EST
[ Parent ]
The point, if I remember correctly (which is, granted, always a big "if"), I was making was that sending machinery to a new plant in China was no different from sending money to finance a new plant in China.  One way or another, the capital needed to begin production is moving to the new production site -- hence, in this sort of example, my contention that there is no point in drawing a distinction.

Be nice to America. Or we'll bring democracy to your country.
by Drew J Jones (pedobear@pennstatefootball.com) on Thu Jun 29th, 2006 at 02:54:20 PM EST
[ Parent ]
The point I was trying to make was that TBG is arguing that "productive capital" is a figment of our imagination, but was (IMHO) confusing capital with fiat money. I find the distinction between financial assets and capital goods useful at least for that reason. Also, there is more than one kind of "capital good" (if you insist, you can include various financial assets in that category) and the relative exchange values are meaningful whether or not one of them is a recognizable form of "money".

A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman
by Migeru (migeru at eurotrib dot com) on Thu Jun 29th, 2006 at 03:02:14 PM EST
[ Parent ]
Okay.  Fair enough.

Be nice to America. Or we'll bring democracy to your country.
by Drew J Jones (pedobear@pennstatefootball.com) on Thu Jun 29th, 2006 at 03:20:16 PM EST
[ Parent ]
I don't think it's that simple. Most accounting systems seem to be based on an indirect assessment of the perceived value of tangibles.

My point is really that the bottom line - as its known - refers to perceived value in terms of this famous fiat money. In this world view the productive value of any asset - including money itself - can only be assessed in fiat money terms.

The fact that it's mythical fiat money that's being accumulated is very much the problem. By using only this one dimension of value the real social, personal and ecological costs of 'growth' can be kept hidden. And the benefits of social developments that can't easily be assessed in fiat money terms can (literally) be discounted.

So a factory or a computer can only be considered 'capital' in reference to this one dimensional value yardstick. These items may, or may not, have real-world productive value in the sense of personal empowerment and social development. But that productive value is always assessed indirectly in terms of a fictional fiat-money based number that hides information about how this kind of 'capital' is created and used.

It's not so much that I'm confusing the two - more that economic accounting is based on keeping the two confused.

by ThatBritGuy (thatbritguy (at) googlemail.com) on Thu Jun 29th, 2006 at 03:25:59 PM EST
[ Parent ]
The relative fiat-money-value of two tangible goods is independent of the value of the fiat money and is a meaningful quantity. But you are right that converting everything to its fiat-money value can lead to counterintuitive conclusions. I am thinking that changing the numeraire (see my comment to DoDo in a parallel thread) would be a useful exercise to determine whether a value is real or an artifact of fiat money.

A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman
by Migeru (migeru at eurotrib dot com) on Thu Jun 29th, 2006 at 03:31:26 PM EST
[ Parent ]
In that sort of example, you're right.
by Colman (colman at eurotrib.com) on Thu Jun 29th, 2006 at 03:20:55 PM EST
[ Parent ]
Miguel is, of course, right in saying that that money and capital goods are not absolute equivalents.  Obviously I can't walk into Wal-Mart with a piece of heavy machinery from a GM plant and exchange it for an iPod.

Be nice to America. Or we'll bring democracy to your country.
by Drew J Jones (pedobear@pennstatefootball.com) on Thu Jun 29th, 2006 at 03:52:56 PM EST
[ Parent ]
Might be fun to try though.
by Colman (colman at eurotrib.com) on Thu Jun 29th, 2006 at 03:55:47 PM EST
[ Parent ]
The look on the cashier's face, alone, would be worth it.

Be nice to America. Or we'll bring democracy to your country.
by Drew J Jones (pedobear@pennstatefootball.com) on Thu Jun 29th, 2006 at 03:58:31 PM EST
[ Parent ]
Money is fungible, capital goods are not.

A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman
by Migeru (migeru at eurotrib dot com) on Thu Jun 29th, 2006 at 02:47:22 PM EST
[ Parent ]
There is a lot of confusion in Adam Smith's use of the term wealth (or at least in my understanding of it, not to speak of my understanding of economics, let alone 2 years ago).

Basically, wealth is the total value of assets. It is not GDP, which he calls revenue. But the critical quantity in this analysis is that part of the wealth which is allocated as productive capital (maybe that's why we should pay attention not to stock market capitalization) and, more importantly for the purposes of living standards, that part of capital which is "destined for the maintenance of labour".

It is the ratio of that quantity to the productivity of labour that gives a measure of the wages of labour.

Smith assumes constant, incremental productivity growth, implying wages will fall unless the "funds destined for the maintenance of labour" increase apace with the productivity.

A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman

by Migeru (migeru at eurotrib dot com) on Thu Jun 29th, 2006 at 06:43:08 AM EST
[ Parent ]
(maybe that's why we should pay attention not to stock market capitalization)

I mean we should pay attention to market capitalization, not to price indices (though they are correlated).

A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman

by Migeru (migeru at eurotrib dot com) on Thu Jun 29th, 2006 at 06:46:10 AM EST
[ Parent ]
Basically, wealth is the total value of assets.

No.  Wealth is the value of assets minus liabilities.  (Or is that what you meant by "total assets"?)  GDP is not wealth.  It is, roughly, the aggregate annual income of the nation being dicussed.  ("Roughly" because that doesn't take into account earnings from goods and services produced overseas.)  The US figure for GDP is somewhere in the neighbourhood of $13-14 trillion, I believe, but total wealth in the US is somewhere in the neighbourhood of $60 trillion.

Be nice to America. Or we'll bring democracy to your country.

by Drew J Jones (pedobear@pennstatefootball.com) on Thu Jun 29th, 2006 at 02:47:28 PM EST
[ Parent ]
Lots of entertaining thoughts to pursue. I might get into assembling my own thoughts. Right now, I'll pick up one bit that particularly stuck out to me:

It is not the actual greatness of national wealth, but its continual increase, which occasions a rise in the wages of labour. It is not, accordingly, in the richest countries, but in the most thriving, or in those which are growing rich the fastest, that the wages of labour are highest.

How then can USA Congres still justify the continuous stagnation on labour wages? Didn't the USA GDP grow altogether? bonddad on DKos (one of the authors I still track) had a good post on that some two days ago, in which he also discussed the growing inequality within the States, another subject repeatedly flagged there and here.

I also read that union power in China has begun building, and unions are starting to clamour for higher wages and educate workers on their rights...

Now, show me that graph. And one... And two... And...

by Nomad on Thu Jun 29th, 2006 at 07:44:06 AM EST
[ Parent ]
Now, did the USA GDP grow below productivity?

Check out this graph from the SF Federal Reserve Bank

and the accompanying text:

What do the data show? For the period 2001 through 2004, we find no statistically significant relationship between productivity growth and employment growth across the U.S. states. To account for possible differences in underlying productivity, employment, and output growth, we also examined the relationships in the changes in these growth rates in recent years compared to previous periods. That analysis indicates positive but generally not statistically significant correlations between changes in employment and productivity growth. The absence of a negative relationship between productivity growth and employment growth is consistent with a wide range of firms working to make long-lasting improvements in efficiency.

Indeed, it appears that the states' employment growth rates in recent years have been related to output growth, rather than to productivity growth. This can be seen in Figure 3, which shows average productivity, employment, and output growth (GSP, or gross state product) for states that had not recovered jobs lost during the recession and those with employment levels at or above pre-recession levels. Average productivity growth across these groups is virtually the same (not different statistically). Employment and output growth, on the other hand, diverge, with fast growing states posting solid job growth, while the other states on balance have had jobless recoveries. For many firms, the gains in productivity have been sufficiently large to meet demand for their products, while firms facing stronger demand have been willing to hire new workers to meet it.



A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman
by Migeru (migeru at eurotrib dot com) on Thu Jun 29th, 2006 at 07:49:15 AM EST
[ Parent ]
It is not the actual greatness of national wealth, but its continual increase, which occasions a rise in the wages of labour. It is not, accordingly, in the richest countries, but in the most thriving, or in those which are growing rich the fastest, that the wages of labour are highest. England is certainly, in the present times, a much richer country than any part of North America. The wages of labour, however, are much higher in North America than in any part of England.

And this is the central idiocy of Smith-ite economics.

Firstly, this is a purely ad hoc example. It's not based on a general sampling of different economies. This is hand-waving and supposition, not evidence-based economics.

Secondly, what sets worker wages is business practice. In the real world this means the extent to which shareholders and investors are willing to, or sometimes forced to, share financial profits with the people who do the manual and/or intellectual labour that create those profits. That includes elements of regulation, supply and demand, and other factors. But GDP seems like a relatively small influence on that - as you can in individual companies which are booming but still pay their workers the minimum they can get away with.

Unless I'm missing some direct evidence for the divine intervention of the Invisible Hand, that's the only factor that I can see that sets worker wages.

GDP is irrelevant. Even in a steady state economy, as long as there's profit and profit distribution, investors will be compensated and workers won't starve.

So why growth? Here's a different questions:

Is it possible for an economy to be sustainable and also innovative with zero GDP growth?

Heretically, I suspect it is. It's never been done, but I don't see why it couldn't be possible. The key difference would be in the finer points of the trading relationships, and in what is being traded. If it's intellectual or artistic property, education, shared experience, or other items with little or no ecological overhead, then it should be very possible.

by ThatBritGuy (thatbritguy (at) googlemail.com) on Thu Jun 29th, 2006 at 08:56:56 AM EST
[ Parent ]
...salivating in a corner and observe quietly.

Although I fear I'll understand as much as I undsrtand theoretical physics.

by Nomad on Thu Jun 29th, 2006 at 06:56:42 AM EST
Quietly? You have to ask the Socratic questions.

A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman
by Migeru (migeru at eurotrib dot com) on Thu Jun 29th, 2006 at 07:02:19 AM EST
[ Parent ]
If we talk philosophy, this is the place to expose my not understanding of some basics of economy, and ask the question: where does (global) GDP growth come from?

I just can't figure it out.

Let's take a single company that produces with profit. Is profit wealth creation? It appears to me it isn't: profit is the difference of the company expenses and receipts, but those receipts had to be there in the pocket of someone in the first place. In an economy consisting of nothing but workers who spend wages they got from companies who invest all their profit, there would be money circulation permanent zero growth [or, more realistically, GDP reduction], with the profit of some companies balancing the loss of others.

So let's introduce capitalists into the economy. Does investing money holdings in hope of getting it back with profit constitute wealth creation? It appears to me the situation is the same as before: the capitalists' profit also comes from money received from others, be them workers spending their wages, companies buying means of production or capitalists spending or investing their money.

So let's introduce wealth and wealth pricing into the model economy. If the price of stocks or houses or land rises, it can be sold for more than bought, and used for higher investment or consumption. But I don't see how this shall lead to overall growth either: higher-priced wealth should first be made money before it enters production and thus GDP, but the purchaser's money again comes from the producing economy or another object of wealth that was made money. And price hikes are fuelled by demand.

So, thinking of foreign-credit-dependent US growth, or European colonists in prior centuries, or expanding empires, maybe growth comes from conquest and takeover of others' wealth? This is a tempting picture, but doesn't explain global GDP growth.

I have two remaining thoughts, thought through only half-way.

  1. Maybe economic growth comes not from production but from absorbing new natural resources? Maybe, as money is still needed to enter the economy, gold being the most important?
  2. As the gold standard was ditched long ago, another thought: maybe GDP growth is in truth differential inflation? Maybe it all boils down to the price of different things changing relative to each other, and the measurement of inflation being more bound to stuff with less change in value?


*Lunatic*, n.
One whose delusions are out of fashion.
by DoDo on Thu Jun 29th, 2006 at 08:33:19 AM EST
Dang, I got those two points at the end garbled. I originally wanted the first to be second, because it would be a fitting end point to connect back to Jérôme's original diary. But the finished version is the logical order.

*Lunatic*, n.
One whose delusions are out of fashion.
by DoDo on Thu Jun 29th, 2006 at 08:38:21 AM EST
[ Parent ]
Now that Migeru pointed out the loophole in my reasoning, please no more ratings & off the top spot with this...

*Lunatic*, n.
One whose delusions are out of fashion.
by DoDo on Thu Jun 29th, 2006 at 09:23:13 AM EST
[ Parent ]
Hey, I am not done commenting on it, and the questions are good.

In any casem now that you know better you can still ask the questions in the spirit of Socratic irony, pretending not to know to see if the neoclassical economist you're debating remembers his money equation.

A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman

by Migeru (migeru at eurotrib dot com) on Thu Jun 29th, 2006 at 09:27:50 AM EST
[ Parent ]
As the gold standard was ditched long ago, another thought: maybe GDP growth is in truth differential inflation? Maybe it all boils down to the price of different things changing relative to each other, and the measurement of inflation being more bound to stuff with less change in value?

Given a collection of goods you can choose any one you like as money, and use that as a token of exchange. This is useful because it allows people to trade unequal-value lumps of "stuff" by making up the difference with money. To be suitable as money, a good should be finely divisible, durable, relatively useless, but valuable. At various historical times and places different goods have been used as money. We are most familiar with precious metals, but a very important example is salt as money (whence comes the word salary). There is a technical term for a good used as money and that is Numeraire. Whether some qualitative relation is independent of an arbitrary change of numeraire is an importan sanity check.

In a way it doesn't matter whether you have the gold standard or fiat money: there is still "differential inflation". What happens with fiat money is that it can be created at will, so in a way there is no tradeoff between it and other goods, and so it cannot be used to price other things. The only way you can make fiat money useful is by controlling the creation of money, and that's what the [central] banking system is about.

You may remember that I once cooked an example called "gold for soybeans" where I showed that, if you are sitting at a point of the Production Possibility Frontier of Gold and Soybeans, the slope of the normal direction is the relative price of the two, and the intercepts of the tangent line with the axes are the GDP expressed in units of gold or of soybeans. Assuming that the PPF is convex (mild assumption) you get that moving along the PPF will increase one of the GDP values but decrease the other. This fails the change-of-numeraire sanity check. But if you can move the PPF outwards you can increase the GDP regardless of which numeraire you're using.

Arrgh! I'm rambling again.

A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman

by Migeru (migeru at eurotrib dot com) on Thu Jun 29th, 2006 at 03:27:29 PM EST
[ Parent ]
You may remember that I once cooked an example called "gold for soybeans" where I showed that, if you are sitting at a point of the Production Possibility Frontier of Gold and Soybeans, the slope of the normal direction is the relative price of the two, and the intercepts of the tangent line with the axes are the GDP expressed in units of gold or of soybeans. Assuming that the PPF is convex (mild assumption) you get that moving along the PPF will increase one of the GDP values but decrease the other. This fails the change-of-numeraire sanity check. But if you can move the PPF outwards you can increase the GDP regardless of which numeraire you're using.

If you keep making more stuff, GDP grows by any numeraire, but if you can not make more stuff some numeraires will show a growing GDP and some a shrinking? Would that be a fair summary?

The discussion of fiat money leads me a bit of topic: I have theory on the relatively succesful fiat moneys of today.

Sometimes you hear statements about todays fiat moneys not being based on anything tangible (at least since the Bretton-Woods collapsed), but only on how much you trust the government. I think this needs expanding upon.

Let me first start with some historical examples of fiat money. The american and french revolutions printed money to finans their wars. The trust was low and as soon as trust went away in an area, huge inflation kicked in as people started to use other numeraires.

Today you can not stop using the governments numeraire. Why? Because of taxation. Of course people payed taxes in the 18th century to, but often as work or in kind. Today you need to pay your taxes and the taxes are in the governments currency. So even if you switch to exchanging beans for gold with your neighbour, you still need some euros, dollars, renminbis to pay the government. Which means that at some point you need to accept fiat money for real products.

So the currencies of today rests on taxation and the governments ability to punish you if you do not pay your taxes.

Assuming I was right on the origins of GDP in my comment on Colmans diary the other day:

I have long suspected that GDP/capita becomes an important measure at about the same time as you can get that number from the tax offices.

Then both fiat money and GDP stems from the same source: modern taxation.

A vote for PES is a vote for EPP! A vote for EPP is a vote for PES! Support the coalition, vote EPP-PES in 2009!

by A swedish kind of death on Fri Jun 30th, 2006 at 07:50:21 AM EST
[ Parent ]
I have also seen it claimed here on ET that the one thing for which GDP is useful is to extimate a country's tax base.

Taxation is also the reason why barter is discouraged.

A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman

by Migeru (migeru at eurotrib dot com) on Fri Jun 30th, 2006 at 07:54:16 AM EST
[ Parent ]
So, then:

1. What does GDP measure?
Tax base.

2. Why does it need to grow?
To enable politicians to keep their promises, wheter in expanding services but not increasing taxes or lowering tax percentages while keeping services constant. Or both. Few run on a platform of increased taxes and lowered services. Or on a reality-based platform where you need to pay for what you eat. Fiscal conservative is just a oppostion position, when in power you need to keep promises.

3. Does the need for GDP growth outweigh any other policy goal?
Policy is set by politicians right? Then - almost always - yes.

A vote for PES is a vote for EPP! A vote for EPP is a vote for PES! Support the coalition, vote EPP-PES in 2009!

by A swedish kind of death on Fri Jun 30th, 2006 at 08:47:56 AM EST
[ Parent ]
If you keep making more stuff, GDP grows by any numeraire, but if you can not make more stuff some numeraires will show a growing GDP and some a shrinking? Would that be a fair summary?
Yup, thanks for putting my unreadable stuff in understandable form. It is also possible for the PPF to expand in such a way that the GDP contracts by some numeraires but expands by others while the amounts of all products also increase, but I don't know how contrived that is. It doesn't require nonconvexity so it is not too contrived.

Here is my original gold-for-soybeans example, half-way down the diary.

A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman

by Migeru (migeru at eurotrib dot com) on Fri Jun 30th, 2006 at 08:00:40 AM EST
[ Parent ]
In English, that means I can think of a situation in which more is produced of everything but the GDP still would seem to increase or decrease depending on which good is used for money, and that the situation I am envisaging is not too much of a strain.

I think what this indicates is that there must be hidden inflation in the model. I have to think about how to quantify that.

A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman

by Migeru (migeru at eurotrib dot com) on Fri Jun 30th, 2006 at 08:17:59 AM EST
[ Parent ]
I must admit I've never bought the people saying that fiat money is bad and that they prefer gold or whatever but big government curb their liberties etc...

In the current system, including for paying taxes, you can right now be practically independant from fiat money value fluctuations.

You just have to have a bank account and minimal fiat money for the day, the trick is to log on internet each evening and use all or most of the positive balance to buy gold or whatever fund you want to keep the balance near zero. You need to buy something? Just sell your whatever fund and use the fiat money immeditely to make your purchase or pay your taxes.

So no issue here, the current system allows you the freedom not to depend on fiat money value at the cost of one click per day.

Of course if everyone does that, all the private banks of the world have to change their model since the government granted priviledge of creating money is of no use anymore since all customers accounts have zero balance...

by Laurent GUERBY on Fri Jun 30th, 2006 at 02:58:47 PM EST
[ Parent ]
You might have read something which was not there.

I have no problem with fiat money and I am happy not having to carry big pieces of metal around. But I find the construction interesting.

A vote for PES is a vote for EPP! A vote for EPP is a vote for PES! Support the coalition, vote EPP-PES in 2009!

by A swedish kind of death on Fri Jun 30th, 2006 at 11:05:10 PM EST
[ Parent ]
Indeed, my note was not directed at your comment, but just to inform ET'ers on my view on the "fiat money = evil mandated by the government" things that are sometimes said in libertarian circles :).
by Laurent GUERBY on Sat Jul 1st, 2006 at 07:09:36 PM EST
[ Parent ]
Welath, income, growth

This links to the dKos version, as I have been unable to find the ET link for the same piece.

In the long run, we're all dead. John Maynard Keynes

by Jerome a Paris (etg@eurotrib.com) on Thu Jun 29th, 2006 at 08:52:19 AM EST
That's a great post, thanks for bringing it up again.

I have two observations: one is that under exponential growth, wealth, GDP and GDP growth become interchangeable, as the rate of GDP growth squals the ratio of GDP to wealth.

The second observation is that DoDo above is forgetting that we're talking about rates so that if the same amount of money can be pushed around faster then GDP will increase.

(source) Appart form money supply and inflation, the velocity of money is the third factor in GDP.

So maybe all that's happening with global GDP growth is that the economy is accelerating. The problem is that thermodynamic cycles become more and more inefficient the faster they are operated, and that these inefficiencies are not properly accounted in economics.

A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman

by Migeru (migeru at eurotrib dot com) on Thu Jun 29th, 2006 at 09:04:00 AM EST
[ Parent ]
Good point, I knew it was something obvious I missed...

*Lunatic*, n.
One whose delusions are out of fashion.
by DoDo on Thu Jun 29th, 2006 at 09:20:29 AM EST
[ Parent ]
Well said.  The real question is whether that acceleration is the result of increased ability to buy -- from (say) higher productivity and the resulting lower (real) prices -- or simply shifting one's buying habits from one period to another, as in the case of higher borrowing due to low interest rates, which we, of course, talk about quite often here with regard to the current state of the US economy.  That's what I think we're really getting at, or at least what we should be getting at, in discussions on the health of the economy.

That's not to say that borrowing on low rates is necessarily bad.  Managed properly, it can be perfectly intelligent to take advantage of that situation.  It can also, of course, become a catastrophic mistake.  That's all according to how people behave.

Be nice to America. Or we'll bring democracy to your country.

by Drew J Jones (pedobear@pennstatefootball.com) on Thu Jun 29th, 2006 at 03:16:52 PM EST
[ Parent ]
You should've become a teacher, Jerome.  Great article.

Be nice to America. Or we'll bring democracy to your country.
by Drew J Jones (pedobear@pennstatefootball.com) on Thu Jun 29th, 2006 at 03:09:22 PM EST
[ Parent ]
My theory is that constant growth at least in corporate revenue is needed in order to keep the Ponzi scheme that is the stock market from collapsing.

Perhaps this slops over into public policy?

by NHlib on Thu Jun 29th, 2006 at 10:35:00 AM EST
I met up with this guy in Copenhagen at a Bankers conference. He heads Strategic Economic Decisions Inc  in Arizona, USA. He seems to have the ear of the politically powerful.

I quote from an article (circa 1997) that I wrote about the conference...

...The reason for this is Dr Woody and his magic number. 3.25 is the post-industrial Pi. Long-term sustainable growth of net wealth must be GNP x 3.25%: if net wealth exceeds this magic multiplier, there must be a corresponding correction later. We are now living in the House of Correction. Stock markets are not about P/E; they are about the perception of value, not real value. The market is all about `I-Love-you' numbers. Like recently jilted lovers, no investors are going to want to get into a new relationship with stocks, bonds or property any time soon. So we'll all have to make do with less. Smaller golden parachutes, lower CEO salaries, less wages, less jobs, less of everything. At that point, Dr Woody began to talk about Super-Modularity S-Curves, and my eyes glazed over.

Most of what he spoke about was pure mumbo-jumbo to me, but he kept on about his magic number 3.35 for hours, until he finally fell asleep in his soup at the speakers' dinner afterwards.

You can't be me, I'm taken

by Sven Triloqvist on Thu Jun 29th, 2006 at 10:45:01 AM EST
I've never heard of such a magic number.  Long-term sustainable growth depends on innovation.  If innovation raises productivity sufficiently, I see no reason for why economies cannot grow at annual rates above 3.25%, cet par..

Be nice to America. Or we'll bring democracy to your country.
by Drew J Jones (pedobear@pennstatefootball.com) on Thu Jun 29th, 2006 at 03:56:51 PM EST
[ Parent ]
I suppose long-term sustainable growth depends on continuous productivity growth over the long term?

A society committed to the notion that government is always bad will have bad government. And it doesn't have to be that way. — Paul Krugman
by Migeru (migeru at eurotrib dot com) on Thu Jun 29th, 2006 at 03:58:47 PM EST
[ Parent ]
That seems to be the dominant view, because it's typically understood that labour and capital are characterised by diminishing returns, so the only way to alter long-term growth trends is through innovation.  You can only add so many workers to the production line and so many computers to the office before reaching the optimal outcome.

Be nice to America. Or we'll bring democracy to your country.
by Drew J Jones (pedobear@pennstatefootball.com) on Thu Jun 29th, 2006 at 04:01:47 PM EST
[ Parent ]
You'll have to ask him where his magic pi comes from - I haven't the foggiest

but here's another clip from the article

But his main thesis of the lean years to come, if I can paraphrase it well, had a lot of insight. In the last 50 odd years there have been 3 main investment regimes. The first, 1949 - 1966, was the growth of US hegemony due mainly to that country being the only one with the infrastructure still up and running. But then America became lazy, leading to the second regime - the Rust Bowl, 1967 - 1981. This was the time of OPEC, political scandal and 350% cumulative inflation. It was the Age of the Wimps, according to Woody. He always added a rhetorical "Correct?" after startling us with his more outrageous opinions
1982 saw the beginning of the 3rd investment regime, which lasted until 1997. It was rebirth and transformation, with Fed chairman Paul Volker bringing inflation down to 1.5%. Net US household wealth went up 150%. The stock market shot up 700%, and the US creamed about 85% of the global profit from the post-industrial material science revolution.

Here's Woody's site:  http://www.sedinc.com/


You can't be me, I'm taken

by Sven Triloqvist on Thu Jun 29th, 2006 at 04:05:47 PM EST
[ Parent ]
Hmm.  Not terrible descriptions of the periods, I suppose, but why does he conclude that the third ended in '97?  The US economy continued to chug along until 2000 or 2001 (depending on which political party you ask).

Be nice to America. Or we'll bring democracy to your country.
by Drew J Jones (pedobear@pennstatefootball.com) on Thu Jun 29th, 2006 at 04:10:31 PM EST
[ Parent ]
Because that is when I met him and wrote the article

You can't be me, I'm taken
by Sven Triloqvist on Thu Jun 29th, 2006 at 04:12:59 PM EST
[ Parent ]
Oops.  I really should read more thoroughly.

Be nice to America. Or we'll bring democracy to your country.
by Drew J Jones (pedobear@pennstatefootball.com) on Thu Jun 29th, 2006 at 04:26:46 PM EST
[ Parent ]
No problem - I'd be interested to know his views now.

BTW check out his website and you'll find some interesting articles under 'good reads'. Woody is clearly a nutter and constantly referred to himself as a genius in conversation. But he has some novel and often heretical insights.

You can't be me, I'm taken

by Sven Triloqvist on Thu Jun 29th, 2006 at 04:39:50 PM EST
[ Parent ]
Novel and heretical usually translate to interesting.  Thanks for the link.

Be nice to America. Or we'll bring democracy to your country.
by Drew J Jones (pedobear@pennstatefootball.com) on Thu Jun 29th, 2006 at 04:45:51 PM EST
[ Parent ]
It seems relevant to bring up the works of ecological economist Herman Daly again. His basic postulate is that the "growth" mantra of traditional economics is based upon the fallacy of ignoring the ecological costs of the use of natural resources.

Some links (from short to long documents):
http://dieoff.org/page88.htm

http://www.earthrights.net/docs/daly.html

http://www.feasta.org/documents/feastareview/daly.htm

Growth is promoted by economists because they are paid by the financial industry (some indirectly). In a capitalist system people expect to get back more money than they put in when they invest. In truth there are only three ways this can happen: population growth, productivity growth and inflation. So economists need to promote growth otherwise capitalism wouldn't work.

I've tried to explore what a steady state economy would look like here:
Planning for a Steady State Economy

As I stated above, without population growth traditional investment won't work properly and therefore things like saving for retirement will have to be redesigned. Many pre-industrial societies existed without growth, so this not a new idea. As resources become limited people will have to take steps to limit growth or face catastrophe.


Policies not Politics
---- Daily Landscape

by rdf (robert.feinman@gmail.com) on Thu Jun 29th, 2006 at 11:01:16 AM EST
you've finally provided the answer I've been looking for here at ET: Economic growth is needed because otherwise capitalism will fail as a construct.

In my role of providing Socratic questions: Is economic growth the petrol of the captialism machine? (And what is then the exhaust?)

Similarly, is the Steady State Economy as you describe automatically different from a capitalism economy?

by Nomad on Sat Jul 1st, 2006 at 09:10:49 AM EST
[ Parent ]
Growth is promoted by economists because they are paid by the financial industry (some indirectly). In a capitalist system people expect to get back more money than they put in when they invest. In truth there are only three ways this can happen: population growth, productivity growth and inflation. So economists need to promote growth otherwise capitalism wouldn't work.
Aren't we in a way putting the cart before the horses here?

Capitalism may require growth, but it doesn't cause it. Where does growth come from, and where does Capitalism come from?

I can't pretend to even begin to understand the political economy of Antiquity, but the conventional wisdom about the origins of capitalism seems to be that after the 14th Century plague in Europe, the European economy embarked on a bout of growth that is not yet over. That's over 6 centuries of growth. Wikipedia paints a slightly different picture with up to 70 years of collapse and stagnation up to 1500 followed by growth:

Europe had been overpopulated before the plague, and a reduction of 30% to 50% of the population could have resulted in higher wages and more available land and food for peasants because of less competition for resources. However, for reasons that are still debated, population levels in fact continued to decline until around 1420 and did not begin to rise again until 1470, so the initial Black Death event on its own does not entirely provide a satisfactory explanation to this extended period of decline in prosperity.
Capitalism is the economic system of the early modern bout of economic growth. It is this economic growth that allows the birth of the modern financial system [for instance, loans on interest became acceptable after having been condemned by the Church throughout the Middle Ages]. This economic growth is fuelled by cultural and technical innovation, but also by the exploitation of natural resources in the newly "discovered" America and by the opening of new trade routes to Africa and Asia.  Once the financial system gets going, and with a constant influx of gold and silver from South America, it becomes the driving force of political and economic change and the growth which originated the new system becomes a necessity to perpetuate it.

Nothing is 'mere'. — Richard P. Feynman
by Migeru (migeru at eurotrib dot com) on Sat Jul 1st, 2006 at 12:59:01 PM EST
[ Parent ]
I suppose I should take a stab at answering these questions.

(1) What does GDP measure?

It measures C+I+G+NX, collectively known as aggregate demand.  All goods produced within the national economy that are bought, either by domestic consumers or consumers abroad.

(2) Why does it need to grow?

Inevitably we develop ways to produce more with less through innovation.  If fewer employees are needed at a company because of a boost in productivity, then "spare capacity" results, and it follows that the economy must expand in order to absorb factors which are idle.  Or, in short: "There is more to be done."

(3) Does the need for GDP growth outweigh any other policy goal?

In my opinion, no.  The need to develop alternative energy sources, in order to avoid the effects of global warming, dependency on an increasingly-scarce source, and other related issues, says, to me, that it is worth sacrificing some GDP growth in order to place the economy on solid ground for the future.  But, with that in mind, it should also be apparent that it is only a temporary sacrifice and might well result in a stronger economy, with more consistent GDP growth, in the future.

Be nice to America. Or we'll bring democracy to your country.

by Drew J Jones (pedobear@pennstatefootball.com) on Thu Jun 29th, 2006 at 04:24:33 PM EST


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