Financial Adviser: 5 Reasons Why GDP Is Not a Good Measure of Economic Progress and Well-Being
The Philippine Statistics Authority announced that the Gross Domestic Product in the second quarter of 2021 grew 11.8 percent year-on-year, the highest growth in 24 years.
The huge jump in GDP growth prompted many economists to declare that the economic recession that started last year during the outbreak of the coronavirus has finally ended.
Expectations of an economic recovery means more business opportunities, but with the threat of prolonged government mandated lockdowns, the reopening of the economy may be delayed once again.
A rising GDP coming from a low base does not mean anything in terms of growing consumption spending because disposable income remains limited.
While a double-digit GDP growth rate simply means sales this year are better than last year due to easing of lockdown restrictions, it does not necessarily measure the economic well-being of the country.
Rising job losses, higher inflation and more business closures still make the economy very much in recession despite growth in the GDP numbers.
Here are the five reasons why a GDP growth rate is a poor indicator of economic progress:
1| GDP does not measure financial well-being
Imagine yourself as the Philippine economy. Your GDP growth rate is measured by how much your spending has grown compared to the previous year. The more you spend, the better your GDP growth is. But does that measure how wealthy you are?
There is a saying that to become financially independent, it is not about how much money you make but how much money you save.
When you spend, it is either you use a portion of your income for consumption, or you borrow money from a credit card or take out a loan that you will eventually pay out of your income.
For all we know, you may already be deep in debt after you have maxed out all your credit cards last year.
While GDP growth rate is a good indicator for business decisions because it measures the potential increase in aggregate demand for goods and services as consumption spending rises, GDP growth rate does not capture the progress of financial well-being of the average person.
2| GDP does not measure living standards
If you have to work Monday to Saturday every week in order to earn the same income of someone who only works three times a week, then you may not be improving your lifestyle condition.
You may be working too hard that you neglect the time you need to spend with your family and children.
You may also need to work double time by getting an extra job on your free time to earn enough income to meet rising expenses at home.
GDP growth rate may be accounting the increase in your income because of the extra number of working hours that you spent but does not necessarily measure how your living standards have improved.
3| GDP does not measure quality of expenditures
Infrastructure spending is a big component to GDP growth. In the past, government consumption comprises about nine percent of total gross domestic product and grew by an average of seven to eight percent.
While government spending is good for the economy because it creates a multiplier effect that causes production from different industries to also increase, there is no way to measure if these expenditures will have lasting benefits.
For example, there may be government projects that may not last long because of overpriced construction materials used that may later prove to be of low quality.
In the same way, as a consumer, you may have also spent your money on things that do not give you lasting benefits. For example, instead of investing your money in financial education seminars, you spend it by buying expensive concert tickets.
Whatever you spend, no matter how superior or inferior it is, or whether it is beneficial or not, GDP will account it as positive to the economy because it is an increase in expenditures.
4| GDP does not measure social costs
There are economic activities that may threaten depletion of natural resources, damage the environment, and other long-term negative consequences.
For example, mining production, which grew by eight percent last year, may cause long-term damage to the environment that can lead to frequent floods or loss of livelihood of residents.
Another example is the pollution caused by the manufacturing sector.
Pollution can create health damage to nearby residents that can lower productivity and income. The actual costs, as well as the social costs that result from these losses and damages, are not accounted for by GDP.
5| GDP does not measure income distribution
GDP per capita is computed by dividing the total Gross Domestic Product by total population. The concept of per capita explains that the increase in GDP per capita must have the same increase as that of GDP growth rate.
However, when the population of the country increases, more people will be sharing the growth in the economy, thus diluting the increase.
For example, if GDP growth rate was 11.8 percent this second quarter, its corresponding GDP per capita fell by 10.3 percent because the total population this year is higher.
While this per capita metric looks like a fair indicator, it only accounts the economic status of the population by averaging. It does not address the inequality in wealth distribution.
GDP per capita does not measure how the increase in income is shared by the poor and rich.
How has the economic growth benefited the poor? It is possible that the economy is growing but only a few are benefiting from this growth.
The rich get richer while the poor get poorer.
If you think that just because the GDP grew 11.8 % year-on-year that we're out of a recession, think again.
Henry Ong, RFP, is an entrepreneur, financial planning advocate and business advisor. Email Henry for business advice [email protected] or follow him on Twitter @henryong888