GDP

In the US, real gross domestic product per head has grown at a stable rate over the long-term, with glitches such as the one caused by the Depression being made up by subsequent recoveries.

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World growth over the past three years has fallen below its five-year rate and below its very long-term one, as chart one shows. It seems therefore reasonable to assume that we are experiencing what is at least a cyclical downturn. But the chart also shows that the trend since 1980 or 1990 seems to be a rising rather than a falling one. It doesn’t therefore seem to me reasonable to assume that the world is about to experience of the sort of longer -term slowdown that can reasonably be described as secular stagnation, though of course this may happen. Read more

Usually the Fed waits too long before raising interest rates. The pressure to delay is particularly strong today. One reason is the sharp decline in the trend growth rate of the US. As I have pointed out in these blogs, this is the result of a sharp fall in the growth of the population of working age and in productivity. In the decade prior to the financial crisis (1997 to 2007), the numbers in the US of those aged 15 to 64 grew at 1.38 per cent per annum and is now forecast to rise over the next decade at only 0.18 per cent per annum (chart one).

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Conventional wisdom, those wrongheaded comments that sound authoritative, is flourishing. Much comes from seeing gross domestic product as the measure of economic success. As Japan’s GDP has grown slowly this has led the unreflective to assume that the country’s performance has been poor. As readers of this blog will know, this seems to me to be nonsense. GDP is a fair measure of a country’s economic power, but changes in GDP per head provide a better guide to the progress of a country’s welfare and GDP per person of working age is a better guide to the success of economic policy. The number of Japanese aged 15 to 64 has been falling and this has limited the country’s ability to expand its GDP. If the changes in GDP per person in major developed countries are compared, Japan stands out for its success rather than its failure.

I am by no means alone in pointing this out; the former Bank of Japan governor, Masaaki Shirakawa has also regularly done so. Judging, however, by comments in the financial press we seem to have been talking to brick walls. The damage done from seeing GDP as a valid measure of economic success has been magnified by an association that is commonly made between low growth and deflation. It is widely believed that Japan’s economy has performed poorly and that this has been caused by deflation. It would be more reasonable, though not much more, to praise deflation for the relative success of Japan’s economy. Read more

In my last blog, I showed that the trend growth rate of the US indicated by its Incremental Capital/Output Ratio (“ICOR”) was only 1.6 per cent per annum. As the US population is likely to grow at 0.8 per cent per annum over the next ten to twenty years, this would allow gross domestic product per head to rise at 0.8 per cent per annum. As chart one shows, this is well below the post-war average and is almost identical to the growth achieved over the past ten years. Continuation of recent growth would probably disappoint most expectations.

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Bad policies breed even worse ones. The disillusionment of voters provides the link. Disappointment with the economy is reinforced by the conviction that “‘They’ don’t know what they are doing.” Voters want new policies and new people. Sadly, this does not usually produce sound policies advocated by those who have correctly analysed the faults of the past. Realism seldom offers the instant gratification sought by the disgruntled, and populist policies thus usually represent a retreat from reason rather than a rise in analytical rigour. When countries have embraced populism, the resulting policies have habitually made matters worse.

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Since the financial crisis, growth has slowed in the developed world. It is often assumed that this is an example of cause and effect. I showed in my previous post that this assumption is improbable, as much of the slowdown is the result of changes in demography — changes which are themselves largely the result of birth rates, which predate the crisis by many years. The other major cause of the slowdown has been a decline in productivity. Taken together, demography and productivity appear responsible for a minimum of 79 per cent of the decline in growth among the five developed economies I focused on — the US, UK, France, Germany and Japan.

Increases in productivity usually require investment in new equipment, but the extent of any productivity improvement will depend not only on the amount of the investment, but also its effectiveness. Where investment declines, a fall in productivity is likely unless the change is offset by a rise in the efficiency of new capitalRead more

Japan’s gross domestic product shrank in the third quarter of 2014 at 1.6 per cent per annum over the quarter and 1 per cent over the previous 12 months. This disappointed the stock market, which fell by more than 2 per cent. It then recovered almost fully the next day on the news that Prime Minister Shinzo Abe had called a snap election, designed to give him a mandate to postpone the increase in consumption tax otherwise due in October 2015.

Governments can boost demand by increasing expenditure or by cutting taxes. Disappointing GDP data do not therefore provide much reason for gloom unless the government appears unwilling to boost demand or the data reflect a problem of supply rather than demand. Read more

The gross domestic product data for the second quarter of 2014 showed that the US economy bounced back strongly, and with enough vim to justify the view that its first quarter weakness was largely due to bad weather.

However, the productivity figures provided another bad surprise. In the first quarter GDP per hour worked fell, and it would therefore have been reasonable to expect it to improve with the sharp recovery shown in the second quarter. In fact, there was another fall.

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US gross domestic product was increased last year by much more than the growth of the economy. This sleight of hand was achieved by changing the way GDP is measured. The UK is due for a similar make-over this year. Reality won’t change and we need to be alert to the comments of those who will think it has.

“Nearly all scientists believe that there is a clear-cut distinction between fact and theory…William Whewell (1794-1866) denied that any such sharp distinction existed.” Peter Medawar, the Nobel laureate, whom I am quoting, agreed with the denial; and, as GDP data are generally considered to be facts, the revisions show that Whewell was spot on. The calculation of GDP depends on the theoretical model on which it is based. The change in GDP involves a change in the model being used and, in my view, the new model is worse than the old one. Read more

It is widely, but by no means universally, accepted among economists that the “rate of interest” is closely related to growth. It is, however, also generally accepted that this applies to a closed economy, such as the world as a whole.

The growth rate of G5 countries has been declining steadily for years, and this trend has recently accelerated, as chart one shows. It seems likely that low growth has become endemic and this is being widely interpreted as implying that real interest rates will remain low. This view strikes me as being unjustified on theoretical grounds and is also a very dubious conclusion to draw from the past. Read more

Last year the UK ran a fiscal deficit of 6 per cent of gross domestic product. Its main counterpart, as chart one (below) shows, was the current account deficit – ie, 70 per cent of the deficit was financed by foreign savings (RoW). (Due to statistical discrepancies, which I have added to the rest of the world, the figures shown in the chart for foreign inflows are almost but not exactly equal to the current account deficit.) The data go back to 1987 and, as the chart shows, the UK has run a current account deficit in every year since then. If the fiscal deficit is to fall, so must the current account deficit.

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Fixed capital investment, which excludes changes in inventories, comprises business investment in equipment and intellectual property, such as research and development, government investment and housing. In total, as I show in chart one, there has been a slight pick up since the trough of 2010 but, as a percentage of gross domestic product, it is still lower than it has been in any year between 1948 and 2008. This is the case for business investment in plant and equipment as well as for investment in total.

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Before the recession of 2008/09, the US economy grew fairly consistently at about 3 per cent a year. This was, for example, the growth rate achieved up to the end of 2007 whether it is measured over the previous 20 or 30 years. In the four years since the economy hit its nadir at the end of 2009, it has grown at 2.6 per cent a year. It is widely assumed that the trend growth rate of the US economy, ie, the long-term potential growth rate of the US economy, is at least equal to this lower rate of 2.6 per cent a year. Read more

Japan increased its consumption tax from 5 per cent to 8 per cent on April fools’ day. It seems unlikely that the negative impact of this on demand will be totally offset by other changes in the budget. There is therefore a risk that Japan’s economic growth this year will fail to match its trend rate (ie, its economy will grow less than its potential). The most likely way that this will be avoided is for Japan’s exports to pick up.

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Japan has a national debt amounting to 250 per cent of its gross domestic product and, as its fiscal deficit is running at about 10 per cent of GDP, the ratio is rising rapidly. At some point this will cause a crisis. What cannot go on for ever will stop; when I do not know, but Japan does need to start bringing down its budget deficit and it will not be able to do this unless it reforms its corporate tax system and, in particular, brings down sharply the allowance allowed for depreciation. Read more

Deflation provides a good example of economists’ bad habits. They assume that people behave in the same way even if they live in different countries and that their behaviour does not change over time. They are sometimes right. But deflation and inflation show how misleading this tendency to generalise can be. Today deflation is a danger for the eurozone, but not for Japan.

Deflation can cause problems, but not always. As I pointed out in my previous blog, since its market crashed in 1990, Japan’s gross domestic product grew more when prices fell than when they rose. Read more

Abenomics – the policy endorsed by Shinzo Abe, the Japanese prime minister – aims to raise the country’s growth by getting rid of deflation. It is based on two myths. The first is that the economy has done badly and the second is that it has been hurt by deflation.

The first myth comes from judging a country’s economic success by its gross domestic product. Japan has a falling and ageing population. If allowance is made for this, Japan has been the most successful of all Group of Five leading economies. It is the country whose GDP at constant prices per person of working age has grown most rapidly, at least since 1999. Read more