The Unassuming Economist

From Noah Smith:

“A lot of people like to criticize GDP as a measure of living standards. Among many intellectuals, particularly in the UK and some parts of North Europe, talking about the limitations of GDP and trying to think of better measures is something of a cottage industry:

Now, there are important senses in which these critics are right. GDP leaves out some things that are very important to human well-being — for example, leisure time, baseline health, inequality, natural habitats, and the value of unpaid housework and child care. And there are things it includes that some people might not want to include — the amount that government spends on tanks and bombs, for instance, or the fees people pay to lose their money in DeFi scams. There are even a few economists who say we shouldn’t even pay attention to GDP and that we should only care about consumption.

For this reason and others, it’s important not to get too obsessed with one single measure of the economy — GDP or anything else. You have to look at a bunch of measures to get a clear picture of what’s happening (in a 2018 Bloomberg post, I suggested also looking at real median personal income, prime-age employment rate, median real weekly earnings, and the Supplemental Poverty Measure). And in fact, I think policymakers and media figures all over the world already look at lots of different numbers.

But today I just want to focus on GDP, because the critics have sorely overstated their case. In fact, GDP is an incredibly useful and important number, for a variety of reasons.

GDP is actually just a measure of income

First, I think that understanding what GDP actually is helps us understand why it’s important. Critics of the concept sometimes seem to lack a basic understanding of what the number even means.

GDP is a measure of the total amount of economic value produced in a country. We measure economic value by how much people pay for stuff. If you pay $100 for a new toaster, GDP goes up by $100. If the government pays $1M for a tank, GDP goes up by $1M.

Now, it can be hard to understand why we’d care about measuring things this way. Just because people pay $100 for something, does that mean it was really worth $100? And on top of that, it can get a little complicated, because there are some things we buy that aren’t included in GDP — intermediate goods (like parts to make a car), used goods, financial assets like stocks and bonds, etc. Explaining these things would take a whole economics lesson.

But instead, there’s an easier way to think about GDP and what it means. Really, it’s just a measure of people’s incomes.”

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