The two articles (Frank Shostak and Kel Kelly) and the video make a lot of sense to me. I really like the Frank Shostak article. They are giving me further foundation to believe that GDP and price indices which attempt to make measurements with accuracy to a decimal place are meaningless.
I particularly like when Shostak says:
"One is tempted to ask, why it is necessary to know the growth of the so-called ‘economy’? What purpose can this type of information serve? In a free unhampered economy, this type of information would be of little use to entrepreneurs. The only indicator that any entrepreneur relies upon is profit and loss. How can the information that the so-called ‘economy’ grew by 4 percent in a particular period help an entrepreneur make profit?
What an entrepreneur requires is not general information but rather specific information regarding the demand for his specific product, or products. The entrepreneur himself has to establish his own network of information concerning a particular venture.
Things are quite different, however, when the government and the central bank tamper with businesses. Under these conditions, no businessman can ignore the GDP statistic since the government and the central bank react to this statistic by means of fiscal and monetary policies. Likewise, participants in financial markets closely follow the GDP statistic in order to assess the likely responses of the central bank."
I think that all makes sense. But I know from first hand experience that participants in the financial markets follow the real GDP statistic for more than just an indication of central bank and federal government policy. As I read a few 2012 outlook pieces from large financial firms, they focus entirely on the real GDP statistic as a measure for how a particular country’s “economy” is growing. They use it as the primary indicator for how well-off the people in a particular country are.
My thinking is now as follows:
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The real measure of material wealth of a group of people is, by definition, a function of the amount of goods and services.
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Because adding quantities of different goods is not possible, the money value of GDP is used as a measure of material wealth. But the money value of GDP is not a measure of material wealth because nominal GDP could not increase unless there is an increase in the money supply. And real GDP cannot be calculated with any sense of accuracy because price deflators cannot be calculated with any sense of accuracy.
An example that helps me understand the inaccuracy in a price deflator is to look at one particular product, chainsaws, for example. Let’s say that 1 chainsaw costs $100 on day 1 and can cut down 1 tree per day. A year later, technological changes caused chainsaws to become smaller and allow for 1 chainsaw to cut down 0.5 trees per day and each costs $50. It is easily seen that the cost of cutting down one tree has not changed. It is still $100. The chainsaw itself is what changed. Would we now say that chainsaws are half as expensive? Of course we would not. The cost to someone who wants to cut down 1 trees is the same - $100. But the cost of 1 chainsaw is half of what it was previously. I admit I do not know how price deflators are currently calculated, but how could any group of people possibly investigate and account for every product change over time? Who is out there testing that one chainsaw has the same productive capacity between different periods of measurement. And further, this example only dealt with a change in the type of chainsaw with the same overall productivity per dollar spent. We didn’t even account for what would happen if the chainsaw became more productive. Let’s say that 1 chainsaw cost $100 and can cut down 1 tree per day. And a year later, 1 chainsaw still costs $100 but it can cut down 2 trees per day. In this example, chainsaws became half as costly. But unless someone is out there testing the productivity of chainsaws, it would appear that the price of chainsaws has remained the same. So again I would ask, who is out there testing the productivity of every product in a particular country? And further, this last example shows that technological advances over time should be the basis for HUGE decreases in the price of products. The fact that we constantly witness technological advances yet still see significant increases in prices the long term is absurd.
- If real GDP is not a measure of material wealth, its only use is to assess the likely responses of the central bank and federal government.
Unfortunately, all of that doesn’t change the fact that well-known financial firms will continue to reference real GDP as the be-all end-all statistic for measuring economic well-being, and my conversations with subscribers to this view will only be more difficult.