In April 2014, the Bureau of Economic
Analysis began releasing a new measure of the economy – gross output – each
quarter. It is the first significant macroeconomic tool to come into regular
use since gross domestic product was developed in the 1940s.
Steven Landefeld, director of the BEA, says
that it offers a "unique perspective" and a "powerful new set of
tools of analysis." The purpose of the gross output measurement is to
gauge what the BEA calls the "make" economy, or the total sales from
the production of raw materials through intermediate producers to final
wholesale and retail trade. Valued at more than $30 trillion for 2013, it's
almost twice the size of GDP, and much more volatile.
Gross output is more of a supply-side
statistic – i.e. a measure of the production side of the economy – as opposed
to GDP, which measures the "use" economy – i.e. the value of all
"final" or finished goods and services used by consumers, business
and government. GDP reached $17 trillion last year.
Strictly speaking, gross output
is not wholly novel. It has actually been around since the 1930s, when it was
developed by economist Wassily Leontieff. However, he focused on individual
industries and not the aggregate data as a measure of total economic activity. Since
then, gross output has largely been ignored by the media and Wall Street
because the government only issued the number annually, and by that time the
numbers were two or three years out of date. That should change now that it
will be released along with GDP every quarter, as the simultaneous release will
invite side-by-side comparison of the two by analysts and the media.
But
what is the real significance of gross output? For one, research has shown that
it is a more complete and accurate measure of total economic activity. GDP works
well as a measure of a country's standard of living and economic growth, but
its focus on final output ignores intermediate production and hence tends to
mislead observers as to how the economy actually functions.
Above all, it has helped to
foster the faulty notion that consumer spending drives the economy rather than
saving, business investment, technology and entrepreneurship. GDP data at the
end of 2013 showed consumer spending as by far the largest bloc of economic activity
(68% of GDP), followed by government expenditures (18%), and business
investment third (16%). Net exports (-2%) makes up the difference.
Thus journalists and many economic analysts are led to report
that "consumer spending drives the economy," and the numbers behind
that assertion seem incontrovertible. They then focus on retail spending or
consumer confidence as the critical factors in driving the economy and stock
market, with an underlying anti-saving ethos as the subtext of such analysis. This
mentality is often made explicit in debates on tax cuts or tax rebates by
statements to the effect that if consumers save their tax refund instead of
spending it, it will do no good for the economy. Presidents, including the last two, have echoed this
sentiment when they encouraged taxpayers to spend, rather than save – and invest
– their refunds.
But
while consumer spending admittedly accounts for about 70% of GDP, if you use
gross output as a broader measure of total sales or spending, it represents less
than 40% of the economy. In fact business outlays – including capital investment
and spending in the intermediate stages of the supply chain – are, at over 50%,
substantially larger than consumer spending as a portion of total economic
activity. The 2012 data are gross output $28,693 billion, and GDP $16,420 billion.
The significance
of business activity is clear when you look at employment statistics and
leading economic indicators. Employees in the consumer side of the economy
(retail outlets and leisure businesses) make up about 20% of the active labor
force, and another 15% work for some level of the government. The vast majority
of employees – 65% – work in mineral extraction and production of raw materials,
manufacturing and the service industries.
As for leading
economic indicators, most of the ones published monthly by the Conference Board
track the earlier stages of production and business activity. These include
manufacturers' new orders, non-defense capital goods, building permits,
unemployment claims, and the stock market. Retail sales aren't listed among the
top ten leading indicators in either the U.S. or any other member of the G-20.
Even the Conference Board’s "consumer confidence index" was changed
in January 2012 to the "average consumer expectations for business
conditions."
Gross
output also does a better job of gauging the business cycle’s fluctuations. For
instance, in 2008-09, nominal GDP declined only 2% while nominal gross output
fell sharply by 8%, far more descriptive of the severity of the recession.
Interestingly, since the 2009 trough, gross output has been rising faster than
GDP, perhaps suggesting a more robust recovery (although to some extent
probably a side-effect of the sharper initial drop.)
Finally,
as a broader measure of economic activity, gross output is more consistent with
economic-growth theory. Studies by Robert Solow at MIT and Robert Barro at
Harvard have shown that economic growth comes largely from the supply side –increased
technology, entrepreneurship, capital formation and productive savings and
investment. Higher consumption is the result, not the source, of prosperity.
But
rather than replacing GDP, gross output complements it, and can easily be
incorporated in standard national-income accounting and macroeconomic analysis.
As Steve Landefeld, Dale Jorgenson and William Nordhaus conclude in their work,
"A New Architecture for the U.S. National Accounts" (2006),
"Gross output is the natural measure of the production sector, while net
output [GDP] is appropriate as a measure of welfare. Both are required in a
complete system of accounts."
Gross
output measures spending in the "make" economy (intermediate
production), as well as the "use" economy (final output) though,
which makes it a superior measure of the nation's economic activity, and
indicator of the economy’s growth prospects, versus GDP.
This article is based on information from the Wall
Street Journal.