Forget GDP – Tory in Fairyland

Lagavulin Distillery, Islay
A sucessful export industry

There’s a funny little Panglossian piece by Tory peer and former minister Michael Bates on ConservativeHome. If it’s any indication of the thinking going on among ministers at present, however, it’s deeply worrying. The ex-Paymaster General displays an extraordinary lack of understanding of basic economic accounting and logic.

His main idea is that despite the current GDP figures, ‘the economic recovery is underway’. Now, while it’s true that GDP is in many senses a flawed measure of annual additional national wealth since it ignores (and may count as positive) environmental and human costs, it is the best available measure of what’s really going on in the economy. Contrary to the Tory peer’s claim, use of this measure is not ‘a bit like judging the health of a private corporation by its turnover alone’. The calculation of GDP specifically cancels out all the in-between costs in exactly the same way as a business cancels out turnover and costs to arrive at a profit figure. As a result GDP measures only those payments that are made in exchange for ‘final goods and services’ that are actually used, whether by the purchases of ordinary citizens, in the provision of public services or the investment of companies.

Lord Bates’s next statement is rather an extraordinary one. He says that ‘GDP adds in government expenditure when most of us would regard it is a sign of health to reduce the cost of the state…’. His (probably correct) implication that part of the GDP reduction is due to falling government expenditure goes against the assumption of the Coalition’s current austerity policy. This assumption is that a reduction in government spending will not lower incomes, and therefore won’t lower GDP, because private sector activity and incomes will increase as a direct consequence.  So either Lord Bates is wrong or the austerity policy is wrong. Hint: GDP has fallen! His further implication that such a fall in GDP is a good thing is nonsense. All expenditure in Britain that does not go abroad is also income for somebody in Britain. Since the government spends most of its money in Britain, a reduction in government spending that reduces GDP must directly reduce incomes.

Lord Bates notes, as have many others, the discrepancy between the employment figures, which have been rising recently, and GDP which is falling. He correctly notes that employment rose by 201,000 from April to June, despite the 0.5% fall in GDP. Now there is some reason for thinking that the underlying trend may be slightly better than that figure suggests (time will tell) but it pays to look at these employment figures in more detail. Firstly, of that number only 128,000 have entered secure jobs – the rest becoming self-employed, working unpaid for family businesses or entering government programmes. Of these 128,000 new employees only 74,000 are working full-time. (See more about this particular issue here.) Two-thirds of the additional workers were born outside the UK – so here at least immigration is good news for a Tory! And the bottom line is that rising employment associated with reduced output means that productivity is lower – which may not be such good news.

In his valiant attempt to find a silver lining, Lord Bates has also ‘unearthed’ some extraordinary figures for new business creation. His number exceeds by a factor of five the official government estimate of 94,000 additional businesses created between the start of 2010 and the start of 2011. And all of that increase was accounted for by businesses too small to be registered for PAYE or VAT. The number of businesses that actually employ people fell by around 9,000. It is likely that the increase in unregistered businesses represents efforts to earn a living by self-employment of those otherwise unable to find jobs. All in all this really doesn’t look like good news, except for the power of Lord Bates’s imagination.

It is true that that UK exports are high by historic standards – so much for the damage caused to the UK economy by the Eurozone problems – although contrary to Lord Bates’s implication there has been no recent surge. It is also likely that poor demand at home has forced firms to look abroad for business, so some export income may simply be replacing domestic income. That higher imports mean we still have a significant trade deficit is apparently of little concern. ‘[T]he value of imports…can often reflect increases in economic activity in a trading nation’, Lord Bates tells us. This is a bit strange, really. Conservatives don’t accept that government investment can yield dividends greater than its expenditure, but apparently we can buy more than we sell abroad while magically preserving our national wealth!

Ignoring his own warning about the impact of the Diamond Jubilee Bank Holiday for the June GDP figures, Lord Bates quotes the 2.9% increase in industrial output from June to July. But comparing with the same month 1 year ago, output is actually down nearly 1%.

So given that everything is actually going so swimmingly, it is clear to Lord Bates that ‘we are not just in it together but the evidence clearly shows we are getting out of it together and emerging stronger and fitter than before.’ By carrying on as we are and avoiding ‘over-focussing on one measure of the economy’ (ie: the most accurate and reliable one) we will ‘free up business’ to spend the ‘£750 billion cash pile’ which it currently ‘lacks the confidence to invest’. Ah yes – the intervention of what Paul Krugman has called the ‘confidence fairy’.

So here we have it. A clear economic strategy based on self-deception and wishful thinking. Let’s see how that goes.

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