Why GDP?

BERLIN – Gross domestic product is the most powerful metric in history. The US Commerce Department calls it “one of the great inventions of the twentieth century.” But its utility and persistence reflect political realities, not economic considerations.

Most of us understand GDP as the measure of a country’s economic output, expressed as a single monetary value. But it’s more than that. GDP, and how fast it is growing, is the universal indicator of development, wellbeing, and geopolitical strength. Positive GDP growth is every government’s goal.

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But GDP has well-documented shortcomings. For example, short-term GDP grows as a result of productive activities that pollute or degrade the environment, but not as a result of unpaid housework, childcare, and other obviously valuable activities that it barely accounts for (if at all).

Fundamentally, GDP is a materialistic concept: higher production is the sole imperative; the more goods produced and services rendered, the better. Whether any of this actually makes people better off is a different matter entirely.

Dissatisfaction with the myopia of GDP has led policymakers in recent years to explore alternative, more people-oriented aggregate indicators. But moving beyond GDP has proved difficult, given its history. In fact, the metrics that predate GDP actually were people-oriented, and understanding why this changed may shed some light on GDP’s continuing dominance.

Given GDP’s seeming indispensability today, it may come as a surprise that until the 1930s national governments’ only aggregate statistical measurement of the economy was tax estimates. This all changed on October 29, 1929 – Black Tuesday.

As the Great Depression hit, governments realized that they simply had no information on what was happening to people. In 1931, when the US Congress held hearings on the state of the economy, the testimony it received from corporate and industry leaders was useless.

Congress recognized the need for an aggregate statistical picture of the economy, but it didn’t know how to produce one. It turned to Simon Kuznets, a Soviet émigré economist and future Nobel laureate, who was asked to define and calculate what was then called “national income.”

National income wasn’t a totally new idea – researchers in different countries had made various estimates independently – but it was the first time that policymakers saw fit to use it. As the term suggests, this metric emphasizes income: the money available to citizens at the end of the day. Kuznets’s findings were shocking: Americans had only half of what they had earned before the crisis. For President Franklin Delano Roosevelt’s administration, raising national income and ensuring that people earned more became the top priority.

But when the US entered World War II, the focus shifted. Next to the material production needs of the war effort, how much money people were taking home was no longer a pressing issue. Consequently, policymakers deliberately changed national income to gross national product, which merely showed the total dollar value of goods produced. National income and GNP were numerically identical – overall income generated is, by definition, equal to the value of goods produced. The crucial difference is that GNP doesn’t take into account how income is distributed.

Kuznets argued against making this fundamental change in perspective permanent, and he urged governments to return to focusing on income and its distribution. In wartime, it may be reasonable to concentrate on the production of goods needed to win. But in peacetime, he pointed out, production of goods was just a means to a higher end: the take-home income generated and available to the people.

Kuznets was ignored. Shortly after the war, the US government faced a new set of challenges – reintegrating returning service members, responding to the growing threat from the Soviet Union, and rebuilding a devastated Europe – that it prioritized over individual incomes.

Meanwhile, politicians saw how wartime production had driven massive GNP growth and decided to keep that economic metric growing at any cost. Since the end of WWII, growth in GNP (modified slightly in the 1990s to become GDP) has been seen as the solution to almost every problem.

This kind of growth became a universal goal for those in power because, by focusing on ever-expanding output, it avoids politics. As John Kenneth Galbraith pointed out in his 1958 book The Affluent Society, “… inequality has ceased to preoccupy men’s minds.” Enlarging the pie, the thinking went, meant everyone would get a bigger piece.

This history explains why GDP remains the dominant measure of any national economy, and it poses a challenge for those who believe that a viable alternative exists. Any alternative indicator, and any measurement strategy other than a rise in production, would require politicians to address difficult questions about the public good – and thus risk alienating one constituency or another.

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What kind of society do we want to live in? Should wages and incomes be more fairly distributed, especially in light of climate change, a problem that will affect everyone to which a small minority contributes disproportionately?

The political usefulness of GDP, and the narrative that more is better for everyone, will be hard to overcome – even if proven wrong. Until then, it will always be products over people.