On Eating Our Seed Corn; Or, Why Gross Domestic Product Measures May be Deceiving

Those raised around farms will probably know what eating one's seed corn means, but what does that have to do with Gross Domestic Product? Read on, and I will try to make the point.

Back in the 1970s on the campaign trail with my good friend Bob Krueger (former Democratic Congressman and US Senator) Bob would often use the term "we are eating our seed corn" in discussing government budgets and deficits. (Yes, Democrats, or some of them, were concerned about that in those days.) Bob was one of those rare politicians who would tell the truth, even when many people didn't want to hear it.

Of course we know that if you eat your seed corn, you have no seed to plant to get next year's crop. You would then be broke, or would starve to death. Not a good outcome.

This brings us to the current debate over the huge and growing deficits and national debt. Borrowing against the future to pay for the present is just like eating your seed corn. Our people, many businesses, and almost all of our governments have been doing this for years. The party is just about over. The train that is our economy is about to come to the abyss.

So what does this have to do with Gross Domestic Product, and how it is measured. Read on.

GDP is measured by adding Consumption (both private and business) plus Investment plus Government Spending plus Net Exports (exports - imports).

Those are the constituent parts of GDP. Note that the only net figure is the import/export number, and for over 40 years that has been a negative number.

Right now, GDP as thus measured is positive, and we are in a "recovery." Does it feel like a recovery to you? Ask the record number of long term unemployed.

Why do not we measure the net domestic product, whereby all of the spending would be reduced by the amount of borrowing that supports it? NDP has a good ring.

I am not an economist, so I cannot give any expert opinion on why the gross figure is considered better than a net figure, but I do know that relying on the gross figure has to distort the view of what is really happening in the economy.

Consider that government spending is all included although at least 44% of it is borrowed money. Is that why politicians always want to do a big stimulous when we hit a recession? It certainly makes it statistically look like a recovery. That is why we had a "recovery" this past year, and now that the stimulous is running out the "recovery" is faltering.

Back out the deficit spending and a clearer  image of the real economy emerges.

Also consider that private (consumer) spending is also a gross figure, when by all reports, much of it is again being done on credit cards. This, of course, is one reason why the Federal Reserve always wants to force interest rates down during a recession. They want to encourage the consumer to borrow and spend.(Another is to allow the banks to borrow at low rates and lend at higher rates, helping their profits.) That is a lot of what got us into this problem.

The last decades were spent on a big joyride, with consumers being encouraged to buy things (houses among them) that they could not afford. A lot of people maxed out their credit, then borrowed their home equities to buy the tickets for that ride.

The fact that the measured GDP was good enabled the politicians---of all stripes--- to get elected and reelected because times appeared to be better than they were. And they sold it as such.

Here is where the measure of GDP deceives us: the last forty years we have been eating our seed corn, and the economic measure the government statisticians, the economic statitisticians, and the politicians have been using to tell us where we are has hidden the facts. Of course, we all know about liars, damned liars, statisticians, and politicians.

What is all this about? It is very simple. Over 30 years ago, Bob was right. We were eating our seed corn then, and that has continued to this day. And many want to continue.

That train I wrote about six months ago when I last posted speeds on nearer the abyss. At some point it will get too late to stop it in time.

Somebody needs to get serious about this, or we need to throw them out.

Good News?

The headline story on Drudge this morning was about the reported 5.7% increase in GDP this morning. If it were real, that would be very good, and an important improvement in the economy.

Unfortunately, its a statistical gimmick more than anything else.

All but 2.2% of the improvement was because inventories have stopped declining so fast.

"About 60 percent of the fourth quarter's growth resulted from a sharp slowdown in the reduction of inventories as firms began to rebuild stockpiles depleted by the recession."

The best of it was a large increase (from a very low level) in exports, but that was tempered by a decrease in the growth of consumer spending.

The elephant in the room, of course, is employment and wages. My view has always been that there is no real economic recovery without employment improving. So far that is not on the horizon.

Megan McArdle, over at The Atlantic, says it pretty well:

"But man cannot live by GDP alone. I'd argue that the better measure of whether the economy has returned to health is employement--at least, that's when the improvement starts to translate into improvements in peoples' real lives. Prolonged unemployment is one of the most crippling things that can afflict people in the modern world."

Ed Yardeni in an article at the Washington Post, commented before the numbers came out:

"A lot of it is the arithmetic of inventories," said Yardeni, who is expecting a 6.5 percent jump in the GDP number. "Even if there is a very strong number for the fourth quarter, if it's [all because of] inventories, it will raise real questions about the strength of the economy in 2010."

There will be more reaction to the GDP release. I will try to keep updating this post as more comes out.

UPDATE:

The Wall Street Journal has reported on wages for 2009:

"Wage and benefit costs, both before and after adjusting for inflation, grew more slowly 2009 than any year since the U.S. government began tracking data in 1982 as double-digit unemployment weakened workers’ ability to command higher pay.

"Over the past 12 months, the cost of wages and benefits for workers other than those employed by the federal government rose 1.5%, according to the Labor Department’s employment cost index. Over the same period, consumer prices rose 2.7%."

There can be no recovery in the economy until good paying jobs come back.

UPDATE 2:

The Economic Policy Institute points out that the measure of demand from US households and businesses is still decelerating:

"A measure of the strength of demand coming from U.S.-based households and businesses (final sales to domestic purchasers, a measure that excludes export growth and includes import growth) grew at only a 1.7% rate in the quarter, actually decelerating from the third quarter growth rate of 2.3%. In fact, this quarter saw the largest divergence since 1987 between the overall GDP growth figure and the growth rate of domestic demand. In short, nothing about today’s report should lead to upward revisions in forecasts for economic growth over the next year, which generally hover around the 3% mark. This projected pace of growth would likely not even drive the unemployment rate below 10% by the end of 2010."

It appears that some parts of the economy may have some improvement, but its not yet reaching Main Street.

UPDATE 3:

Mish Shedlock finishes off the day with:

"Digging beneath the surface there is nothing to cheer about in the GDP numbers. Moreover, this weakness is in the face of the largest stimulus measures the world has ever seen, not just in the US, but globally. Money supply in China is growing at 30% and housing bubbles are likely to pop in Australia, Canada, and the UK. Problems in Greece, Spain, and Iceland continue to mount."

And:

"GDP is a mirage of sand blowing in the wind. So is global growth. It is a mistake to believe government spending can possibly provide a solid foundation for a lasting recovery."

It should also be noted that the huge pop in the commercial real estate bubble that is impending cannot support a recovery absent another huge bailout of the banks by the taxpayers.

I will repeat my view: There will not be a real recovery without jobs. Anything else will be smoke and mirrors.