There are few of us out there who have not heard the term GDP. GDP stands for Gross Domestic Product, and is used as a measure to gauge the health of a country’s economy.
The release of GDP figures, usually on a quarterly basis, is a key directional indicator for equity, commodity and bond markets around the world. Generally, we have come to expect the GDP to rise every quarter. A recession is usually diagnosed if we have two consecutive quarters of a negative GDP, or, to put it simply, if a country’s economy shrinks rather than grows for six months in a row. In order to avoid a recession, governments around the world use all sorts of stimuli to effectively “trick” a country’s economy into growth. A government may use tax breaks to stimulate investment; it may print money to stimulate lending to the private sector, as has been the case with quantitative easing in the United States. Interest rates, of course, affect calculation of the GDP, and with the “Libor scandal,” when money was effectively miss-priced, can we trust GDP as an economic measure, or has GDP become a measure of Grossly Distorted Prosperity?
The concept of the GDP was first developed by Simon Kuznets for a U.S. Congress report in 1934, and Kuznets immediately noted that it should not be used as a measure of welfare. After the Bretton Woods conference in 1944, the GDP became the main tool for measuring the U.S. economy, and now the world economy. The GDP calculation is as follows: GDP = private consumption + gross investment + government spending + (exports − imports). Private consumption is by far the largest component, usually accounting for 65 to 70 percent of the total calculation. So if the private sector begins to save, or spends less, then the GDP falls.
Governments will try to encourage spending in the private sector to keep the GDP growing. Over the last decade, this has been achieved by flooding the market with cheap credit, encouraging the private sector to borrow and consume. However, as cheap credit dries up, governments resort to using their currency exchange rates to stimulate investment, which has brought on the currency wars. A lower exchange rate is better for exports. The United States has long accused China of keeping the value of its national currency, the Chinese Yuan, artificially low. Interest rates also effect GDP calculation. The lower your interest rates, the lower your borrowing costs, and for banks especially, lower interest rates mean fewer borrowing costs, which means higher profit, which equals a higher GDP!
The GDP does not account for wealth distribution, nor does GDP per capita. The GDP per capita is a country’s GDP divided by its population number. If ten percent of the population hold 90 percent of the wealth, the GDP figure does not reflect this. Similarly, if a country is a big natural resources exporter, like Russia or Australia, then the GDP figure can grossly distort the actual prosperity of that country. Oil and gas account for more than 40 percent of Russia’s GDP, and when oil prices dropped form $140 a barrel to $40 a barrel in 2009, Russia went into a recession, with its GDP shrinking by nine percent. Australia has one of the most modern economies in the world, with continued strong GDP growth, 68 percent of which comes from the service sector. Yet Australia has what is called a two-speed economy, split into “natural resources” and the rest. This basically means that economists acknowledge the fact that due to high commodity export prices, Australia has a distorted measure of the GDP because the natural resources sector is supplementing the country’s GDP as a whole, and does not proportionally benefit the rest of the economy. It is a case of quantity versus quality. Simply put, the GDP figure does not actually measure the population’s prosperity.
The GDP as a measure came into being at the same time as the Bretton Woods agreement. Back then the world operated on a gold standard, and money was not simply printed out of thin air, as it is today. The GDP is a measure of intrinsic value, but the irony is that the unit used to measure the intrinsic value, the U.S. dollar, has no intrinsic value. Price discovery in markets is not free, transparent, or liberal. It is managed, rigged and opaque. Speculation has long been rife about the level to which commodity market pricing is rigged, from gold to oil and base metals. When you consider that Libor prices more than $350 trillion worth of interest rate products and Libor is itself tweaked, while the GDP is priced against Libor and the related products, how can the GDP be considered a reliable measure?
It cannot. The GDP grossly distorts the prosperity of a county’s people and their individual economic health. In 20th century centralized markets, Gross Domestic Product was an acceptable measure. In the emerging 21st century networked, decentralized markets (www.wimpole-international.com ), the GDP is no longer acceptable as a reliable measure. At the very least, we should openly question the GDP as a starting point to find a more accurate measure, and stop Grossly Distorting our Prosperity.
The views expressed in this article are the author's and do not necessarily represent those of RIA Novosti.
Current markets are anything but global or integrated. What if we had a paradigm shift in the way we think and transact when doing business with each other? Balanced global trade can only occur if we have transparent, accessible and efficient markets. We are on the cusp of achieving this, although most people cannot see it. Sam’s Exchange aims to give its readers a clearer view and a platform for discussion. Markets, trade and economics are in fact nothing more than the result of our thoughts and actions expressed in numbers, not the reverse.
Sam Barden is founding Partner of SBI Markets DMCC, a Dubai-registered commodities trading and advisory company. Barden has worked in the global financial markets for more than 17 years in Europe, Russia and the Middle East. He has advised and executed strategic transactions for both the government and private sector, in particular in energy and commodity markets, advising various energy producing nations on their strategic market developments and interaction. He holds a degree in economics and finance from Victoria University, Melbourne, Australia.