Monthly Archives: June 2014

Limits to Growth Part I: GDP


SONY DSCWith President Obama’s new green policy that seeks to limit carbon emissions there has been and will continue to be heated discussions about the impact this law will have one economic growth in the U.S.

Inspired by these debates the next several posts will discuss the limits of growth, steady state economics, and how we measure growth.

GDP (gross domestic product) is a measure of economic activity which is narrowly understood however this does not stop politicians and policy makers from making welfare decisions and comparisons based on this data.  The basic argument goes like this: GDP is a proxy measurement of how much people can consume and consumption is a proxy measurement of well-being.  We therefore use GDP per capita for comparing welfare between nations and an increase in GDP as an indicator of social progress within a society.  This is a compelling case and we are used to hearing this from figures in authority and the media but it is misleading to think that a higher GDP leads to better social welfare.

GDP is computed as the sum of all end-use goods and services made in an economy during a period of time weighted by their market prices.  Too illustrate if Pakistan began building war drones and hired many people for this skilled manufacturing their GDP would increase. However, would this necessarily make the people of Pakistan better off especially considering that many of those drones will be used on other Pakistanis in the northern region?  Simply put this proxy measure does not measure happiness or well-being it only measures what we can consume. From that definition its GDP is a pretty narrow measure of our daily lives and should be taken to be just that…limited. can-stock-photo_csp10758311

According to Richard Easterlin people do not become happier when they become richer and this has become known as the Easterlin Paradox.  There are many possibilities for why this is true including the idea that a threshold of affluence vs leisure time exists.  If you do not have time to enjoy the fruits of your labor will they truly make you happier? Has this new wealth increased your well-being? Or as Fred Hirsch suggests there could be a correlation between increasing affluence and increasing competition for “positional goods” that can be bought by anyone but not always everyone. This idea creates a consistent need to buy more and more.

Furthermore GDP does not take into account the limits of natural capital.  Since natural ecosystems provide resources like coal and oil and there are limits to them both in quantity and in negative impact these must be considered in the overall measurement.  This is called “greening GDP,” where we subtract the negative impacts from the total GDP. For instance the cost of the BP oil spill in man hours, clean up costs, oil revenues lost and negative effect on wildlife which in turn affects the lives of the locals would all be subtracted from the GDP of the U.S.

Even by measuring some negative outcomes of a consumer based economy as mentioned above GDP does not give us a clear look at well-being.  There have been several experiments that have attempted to tackle that issue such as the Gross National Happiness used in Bhutan. While this one is highly qualitative and has some issues it is a thoughtful approach by a government to measure their people’s well-being. Another is the Genuine Progress Indicator (GPI) which uses a long list of indicators to measure well-being ranging from air quality, crime, leisure time and personal wealth.  GPI also boils all those indicators into one neat number which economists love.

As an economist I’m not saying that we should abandon GDP altogether only that it should be taken as a small part of a larger picture.  A measure of a small piece in a large puzzle that is human well-being.  With that in mind, when politicians threaten to block legislation meant to protect the environment because it could hurt our GDP you should ask whether a high GDP is worth it.  In an economy where we have been taught to consume, GDP not only doesn’t reflect well-being…it could harm it.