Photo: A Walk in the Woods © Andrew Clifton 2018

Part 1: Kuznets' Monster Runs Amok

THE ECONOMY, we are led to believe, is a basic feature of collective human activity upon which our individual welfare critically depends – and which is only healthy and good for us when it is constantly getting bigger. When its size remains static, for any longer than a few months, the experts call its condition “stagnant” – a word that evokes a host of unpleasant connotations, like foul-smelling ditches and blocked drains. When things get even worse and it actually shrinks in size, this is called a recession or depression – two words that we have learned to associate with exceptionally hard times, characterised by rising unemployment, savage cuts to public services and many other things that make life miserable. Anything other than positive growth is really bad news.

The foregoing is just about all that members of the public can reasonably infer from what politicians, journalists and media pundits typically have to say about the notion of “economic growth.” As the distinguished Financial Times journalist David Pilling puts it:

…for such a fundamental concept, surprisingly few know precisely what the economy is, or how we gauge its progress. All we know is that it must constantly be moving forward, like a shark.

The basic message that has been hammered home to us, over many decades, is that Economic Growth is a Good Thing; a clear indication of progress, increasing prosperity and hope for the future. When the economy grows, the assumption is that so will we; indeed, we can only expect our own fortunes to prosper if the size of “the economy”, as a whole, continues to inflate, like a giant balloon. Some economists like to employ another metaphor, quoting one of John F Kennedy’s favourite sayings: “a rising tide lifts all boats.” [1]

Everything that I’ve just described is the principle content of a widespread, highly influential, but grievously misguided think bubble – which Pilling, in The Growth Delusion, sets out to burst. He manages to do so, with devastating effect and in a witty, engaging and highly readable style – and yet, with a magisterial attention to detail and an even-handed balance between scepticism and open-mindedness towards conflicting ideas.

In his introduction, Pilling sets the scene with an account of the notion of “Gross Domestic Product” or GDP – the total estimated financial value of all economic transactions occurring within a given country or region, over a given period of time. The idea of measuring such an aggregate quantity, and assigning it a currency value, as Pilling tells us, was invented in America in the 1930s, “as a tool to counter the Great Depression and then reworked as a means to prepare for the Second World War.” These two circumstances engendered a pressing demand to increase the production of all kinds of physical commodities, from food and clothing to munitions and warplanes – and GDP was, to be fair, very well-suited to measuring this kind of economic activity and tracking its progress.

After WWII, however, GDP was enthusiastically adopted by the world’s elites – at almost every point on the political spectrum – as a general measure of human welfare and prosperity. As Pilling points out, there is something very strange about this new idea:

If GDP were a person, it would be indifferent, blind even, to morality. It measures production of whatever kind, good or bad. GDP likes pollution, particularly if you have to spend money clearing it up. It likes crime because it is fond of large police forces and repairing broken windows. GDP likes Hurricane Katrina and is quite OK with wars. It likes to measure the buildup to conflict in guns, planes, and warheads, then it likes to count all the effort in reconstructing shattered cities from the smouldering ruins. GDP is good at counting, but a pretty poor judge of quality.

All of this would be bad enough, were the fruits of economic growth shared equitably across society, but this is seldom, if ever, the case. GDP, moreover, is completely blind to inequality – which makes the popular metric of “GDP per capita” grossly inadequate as an indicator of general welfare. It brings to mind the traditional, humorous definition of a statistician as a person who lays with his head in an oven and his feet in a freezer and states, “On average, I feel comfortable.” [2] As Pilling explains:

Our standard gauge of average income – or well-being – is calculated by taking the size of a country’s economy and dividing it by the number of people living there. Averages are a trap. They are deeply misleading. If your country’s economy is growing solely because the rich are getting richer and if you are working harder and harder just to maintain your living standard, then you are entitled to ask what, precisely, is all this growth for?

Perhaps the most worrying feature, however, of our leaders’ obsession with the pursuit of economic growth is the fact that it requires unlimited demand for more and more stuff:

One problem with growth is that it requires endless production and its close cousin, endless consumption. Unless we want more and more things and more and more paid experiences, growth will eventually stall. For our economies to keep moving forward, we must be insatiable. The basis of modern economics is that our desire for stuff is limitless. But in our heart of hearts, we know that way lies madness.

Many examples of GDP madness are revealed in The Growth Delusion. In this, the first instalment of a two-part review, I shall attempt to highlight just a few of them – in the hope that I’ll encourage you to buy the book, and find out more.

The Invention of GDP

The foregoing considerations might lead one to assume that GDP was an ill-conceived idea to begin with – but as Pilling explains, this is not really fair. He describes its inventor, Simon Kuznets, as “a young man of great social conscience and ideals”, driven by a passionate commitment to the rigorous collection of empirical data as a basis of progressive public policy. In 1933, at the age of 32, he was hired by President Franklin D Roosevelt to create a system of national accounts. The data he and his team collected helped Roosevelt justify and enact an ambitious, second wave of radical, “New Deal” policies aimed at mitigating the effects of the Great Depression. These included unemployment relief, a ban on child labour, the right of unions to organise and massive spending on public works – and they quickly transformed the fortunes of millions of Americans, very much for the better.

However, like many inventors, Kuznets lived to see his ideas being co-opted, distorted, and used in ways that he had never intended. What he wanted was a measure of economic welfare, based on an “enlightened social policy” – and therefore, excluding illegal activities, advertising, speculation, socially harmful industries, and most government expenditure, particularly spending on defence, which he saw, at best, as a necessary evil.

Kuznets' most powerful opponent, on all of these matters, was another great innovator, the British economist John Maynard Keynes – who believed, above all, that government expenditure was a vital part of the economy, particularly during a recession when it could serve to stimulate demand, provide employment and support essential industries – thereby, revitalising capitalism and defending the established social order from the baleful threat of socialism.[3] With respect to GDP, Keynesian pragmatism won the day over Kusnets’ ideals, and the rest is history.

Profiteering versus Public Service

One of the biggest contributors to GDP in the United States is its huge and immensely profitable healthcare industry, comprising insurance companies, private hospitals and the manufacturers of pharmaceuticals. The sector has grown dramatically over the past sixty years, rising from just 5 per cent of GDP in 1960 to over 17 per cent today. And yet, as Pilling points out:

Health outcomes in the US are not better than in most developed countries, and in some cases, considerably worse. The US comes in at number 31 in the life-expectancy league tables, just below Costa Rica… In Infant mortality… the US doesn’t fare any better. In 2015 it came 57th in the world, just behind Bosnia and Herzegovina with 5.72 deaths per 1000 live births. Monaco was best at 1.82.

Of course, it is certainly not the case that other countries, with better outcomes, are simply spending more, per capita, on healthcare than the United States. Pilling lays out the facts for us:

Each year, the US spends around 17 per cent of GDP on healthcare. That is almost twice the amount spent in most advanced countries. The UK puts 9 per cent of GDP into healthcare, Japan 10.2 per cent and France, which has a world class system, 11.5 per cent. Singapore, which also has an exceptionally good health service, spends just 4.9 per cent.

The problem, of course, is that the US healthcare system is operated almost entirely for profit – not for efficiency, affordability, or optimal outcomes. Businesses that make a profit providing vital public services like healthcare, education and public transportation, all contribute significantly to GDP – whether or not they do so in a cost-effective way, compared to countries in which the same services are government funded. Indeed, the benefits of public sector healthcare, and public services generally, are largely invisible to GDP. As Pilling explains:

National accountants have never cracked the problem of how to value government services. It’s almost impossible to measure properly something that is provided for free.

Whereas J. M Keynes insisted that government expenditure be included in the reckoning of national income, this only tells part of the story. It doesn’t measure the value this delivers: the contribution such spending makes to public welfare. You can count up the cost of inputs to a service, for which the government pays, such as the wages of doctors, nurses and teachers; the construction and maintenance costs for schools and hospitals; supplies of drugs and medical equipment and so on: all these things count towards GDP – but not the value added by this recipe of ingredients; not the benefit you deliver to the public. Because those benefits are free, at the point of use.

Attempts to systematically evaluate the benefit to society of public services are fairly new – and they’ve met with mixed results, at least, initially. In the early 2000s, the British government established a network of “Delivery Units”, which set about inventing a host of measurable targets and milestones to track the performance of public sector departments. However, as Pilling explains,

It was often too easy to game the system... Although the intention was good, it created perverse incentives. Hospitals would seek to meet targets for heart patients by treating easy cases and shunning the harder ones. Schools stopped admitting less gifted children. You could make the statistics look good without necessarily improving the quality of service.

The point here is not to suggest that we should abandon all efforts to measure the value of public services, but rather that we should learn from these mistakes and seek to improve the methodology accordingly.

Just as public services are effectively invisible to GDP so are all the contributions to our well-being that don’t involve monetary transactions, such as voluntary work, housework and unpaid childcare. As a striking example, Pilling cites evidence for the considerable health benefits of breastfeeding, during a baby’s first six months – a service for which few mothers charge a fee. He notes that lobbyists for baby-formula companies, when pitching their cause to policy makers, have the distinct advantage of appealing to their industry’s contribution to GDP. To counter this, he cites the work of an Australian academic, Julia Smith, who set out to calculate the annual value of human milk production, for various countries – based on the market price (at human milk banks) of $100 per litre.[4] She found that, on an annual basis:

Australian mothers produced 42 million litres of milk with a market price of $4.2 billion. Norwegian mothers produced $1.1 billion worth of milk, and American mothers $53 billion worth.

In a similar vein, researchers have estimated the economic value, in the United States, of all unpaid housework – cooking, cleaning, washing, driving etc. – at $3.8 trillion per year.[5] If this were added to GDP, as Pilling points out, it would make the US economy 26 per cent bigger. Meanwhile, in the UK, statisticians calculated that in the year 2000, “unpaid housework was worth £877 billion or about 45 per cent of all economic activity for that year.”[6] These findings have been replicated in many other countries, with unpaid housework typically comprising about 45 per cent of economic production.

In short: a focus on GDP growth tends to encourage predatory profiteering, whilst ignoring the value of taxpayer funded public services – and everything that we do to help one another, for free. The latter alone, if valued in financial terms, would represent a very large fraction of all economic activity.

When the FISIM Bubble Bursts…

In a chapter entitled Too Much of a Good Thing, Pilling explains how an obscure technical change in the standard procedure for measuring GDP contributed, significantly, to the runaway financialization of many advanced economies over recent years. He quotes a remarkably dry comment on this brave new world – expressed, he says, “with an understatement that only the British can muster”, by the Bank of England’s Chief Economist, Andy Haldane. At a conference speech in 2010, Haldane observed that this new methodology “can lead to surprising outcomes”.

Indeed, it already had: the financial crisis of 2008 being a prime example. And that’s quite a big deal. In another speech, Haldane estimated that the ultimate cost of the crisis would come to “anywhere between one and five times annual world GDP”. Let that sink in. That’s between $60 trillion and $200 trillion.

In 1996, the United Nations System of National Accounts – “the holy book of GDP”, as Pilling describes it – had introduced a new accounting principle called FISIM, or Financial Intermediary Services Indirectly Measured. It decreed that a bank’s contribution to GDP would henceforth be deemed proportional to what bankers call the “spread”: the difference between the interest rate the bank can obtain, and the rate it charges you – which depends, in turn, on how big a risk it thinks you are. Pilling can barely restrain his contempt for this idea:

So, from an accounting point of view, the riskier the portfolio of loans, the greater the contribution to growth. Put another way, the more catastrophically irresponsible the bankers are, the more we judge them to be helping the economy to grow. It is as if a driving instructor rated your proficiency solely on the basis of your maximum speed.

Alongside the neoliberal obsession with financial deregulation which rose to prominence in the 1980s, FISIM played a major role in stimulating the huge increase in the contribution to GDP attributed to banking and financial services, over the past 40 years. In the 1950s, the banking share of GDP stood at about 2 per cent in the USA but rose to 8 per cent in 2008. In the UK, this figure stood at 1.5 per cent in 1978, rising to 15 per cent in 2008.

These radical developments raise an obvious, fundamental question: what is it, exactly, that banks actually contribute to the economy? As Pilling explains, banks have two basic functions: storing and transferring money – and allocating capital, according to risk. He clarifies the latter as follows:

At its simplest, the bank chooses between two widget companies which both need working capital. The bank lends to the better widget company… Society benefits through better widgets.

In other words, it would appear that the greater part of the bank’s contribution to GDP is already counted, elsewhere in our GDP calculations, in the output of the widget company. For Pilling:

Measuring capital allocation as a separate activity smacks of double counting, like measuring the flour in bread… Accountants used to think so too. In the 1950s finance was treated as an unproductive activity, and banking made only a small positive, or even a negative, contribution to national income.

Today, however, FISIM is still widely used in national accounting as a major component of GDP. Who knows what further “surprising outcomes” may yet be in store for us.

In short: Overvaluing the economic contribution of financial services may serve to boost apparent GDP growth, but this dubious accounting trick can also encourage irresponsible behaviour – which, as we have learned to our cost, may ultimately put the entire global economy in jeopardy.

Quantity versus Quality

Will Page is Director of Economics at the Swedish music streaming service Spotify. In an interview with David Pilling, he offered the following explanation of the conflict between modern, internet-based digital services, like Spotify, and economic growth:

The goal of disruptive technology companies… is to reduce GDP. To wipe out transaction costs, which are being measured, and replace them with convenience, which is not being measured. So the economy is shrinking but everyone is getting a better deal. Lots of what tech is doing is destroying what wasn’t needed. The end result is that you’re going to have less of an economy, but higher welfare.

As an aside here, it’s worth raising an eyebrow about the “higher welfare” claim. When disruptive technology replaces traditional procedures with convenient algorithms, it often reduces GDP by eliminating someone’s paid employment, or removing the need for that role to be served by a human. A number of studies predict that smart technologies will replace up to 30 per cent of human labour, worldwide, by 2030.[7] Those who, consequently, find themselves jobless and unable to find work are not likely to agree that their welfare has greatly improved – at least, not unless radical solutions are rapidly adopted, to address this problem.

Another effect of new technologies on GDP is the tendency of prices, for many services, to drop considerably – or to be eliminated entirely. Rather than paying for expensive international telephone calls, we can talk to our friends, family and colleagues for hours online, for free – using services like Skype, WhatsApp and Zoom. We can peruse vast amounts of content online on sites like YouTube and Facebook, without paying a penny – although we pay in other ways, by exposing ourselves to a barrage of advertising and providing these companies with vast amounts of data which they use to more effectively deliver seductive commercial messages to us.

It is not clear, however, how we might measure the value, to humanity, of all the high-tech goods and services which GDP underestimates – or entirely fails to capture. Whilst some economists suggest putting a cash value on the time we all spend surfing the internet, Pilling asks:

Should we really put more of a value on watching a cat video than say – to pick an entirely random activity out of thin air – watching a real cat?

Just as GDP fails to adequately measure the contribution of low-cost, high-tech services to our collective well-being, it is also largely blind to variations in quality. To illustrate this point, Pilling compares the blissfully efficient, comfortable and safe experience of travelling on Japanese bullet trains with that of riding on British and American railways – and then draws attention to the findings of a study published by the consultancy firm McKinsey, entitled Why the Japanese Economy is Not Growing. This report berates the supposedly poor performance of the Japanese service sector (including transportation and communications) – finding that the very best Japanese companies are only 85 per cent as “efficient” as their American counterparts.

In McKinsey-speak, of course, “efficient” doesn’t means anything like delivering high quality, reliable, value-for-money services to the public. It simply means, maximising profits – which count towards GDP. The same report compared the Japanese retail sector unfavourably with that of the United States. However, its metric for retail “efficiency” is based on the amount of goods sold, per hour, per member of staff. Hence:

Japan does badly. That is partly because there are tiny shops on every street corner that sell the most dazzling array of products. Many are open twenty-four hours a day. They are cheap but of excellent quality and incredibly convenient, yet looked at in purely numerical terms, less efficient than cavernous US superstores on the outskirts of big cities… Nor, incidentally, is any allowance made for the fact that Japanese shops tend to be within walking, or at most, cycling distance.

Yet another problem for GDP lies in the growing dominance of multi-national companies, able to move the principle source of their profits wherever they please – which is typically, wherever taxes are lowest; and a great deal of production and trade crosses borders in complicated ways. Pilling offers, by way of example, the following account of the opal trade – centred on the Chungking Mansions trading hub in Hong Kong.

Australian opals are shipped, via Chunking Mansions, to southern China where they are polished, sent back to Australia and sold as souvenirs to Chinese tourists (who presumably take them back to China). In such a world the idea of domestic production – our very definition of the economy – becomes almost meaningless.

In short: In modern, globalised, cross-border, high-tech economies, dominated no longer by the manufacture and supply of material goods but rather by intangible products and services of variable quality, GDP is increasingly obsolete – both as a measure of the scale of economic activity and as an indication of its contribution to public welfare.

The Growth of Inequality... and Deaths of Despair

Between the turn of the millennium and 2015, America grew considerably richer, in terms of GDP. Pilling sets out the figures, as follows:

Notwithstanding the 2008 financial crisis, the size of America’s economy had ballooned from $10.3 trillion in 2000 to $18 trillion in 2015, a gain of 80 per cent. Even adjusting for inflation, it had grown 30 per cent.

Over the same period of time, however, there had been a marked increase in the death rate of white, middle-aged Americans, primarily due to ‘deaths of despair’ – including suicide, drugs and alcohol poisonings and chronic liver disease. In most other rich countries, mortality due to all these causes has declined over the same period – and had the same thing happened in America, it is estimated that some half a million lives would have been saved.[8] That figure is considerably higher, incidentally, than the current US death-toll due to Covid-19 (180,824, as of August 28 2020).

Much of this increasing mortality, it turns out, affected those whose education had ended at high school: roughly sixty per cent of the population, depending on age. As Pilling explains:

Failure to reach university was somehow becoming a death sentence. In 1970 low-income middle-aged men had an average life expectancy five years below that of high income men of the same generation. By 1990 that gap had widened to twelve years. Now it is more like fifteen.

It’s not difficult to diagnose the main causes of these trends. Whilst wealth and income at the top of the social scale has grown enormously since the 1970s, working class and middle class wages have remained stagnant, or even declined. This is not only the case in the USA, but in wealthier countries in general, with a widening gap not only between the richest and poorest but also between the rich and the middle class. This, in turn, has a significant effect on social mobility:

Contrary to what most Americans are brought up to believe, social mobility is hard in the US. In fact, it is easier in the socialist-leaning Nordic countries. Generally, the more unequal a society, the harder it is to move... The so-called Great Gatsby curve shows that as inequality increases, social mobility decreases.

So much, then, for the American Dream. So much, indeed, for the Great American Middle-Class. According to Gallup polls, Pilling points out, in 2000 some 33 per cent of Americans saw themselves as working class – but in 2015, that figure had risen to 48 per cent.

You may be inclined to acknowledge that this is all very worrying… But, as Pilling surmises, you may also be prompted to wonder:

What does this all have to do with economic growth? The answer is nothing at all. That’s the problem. The fact that an economy is growing tells you nothing at all about what is happening to the distribution of wealth.

In short: I really can’t sum it up any better than that.

TO BE CONTINUED…

In the second part of this two-part review, I shall discuss what Pilling has to say about a variety of alternative measures of economic activity and human welfare, which policy makers might do well to take into account.

Publication details

David Pilling | The Growth Delusion: The Wealth and Well-being of Nations | Bloomsbury Publishing

Notes and References


  1. This saying has become popular amongst right-wing politicians and ideologues. President Reagan’s supply-side economics guru, Arthur Laffer, liked to use it to argue against progressive taxation and redistribution of wealth, citing his “favourite quote on this subject” from John F Kennedy: “No American is ever made better off by pulling a fellow American down, and every American is made better off whenever any one of us is made better off. A Rising tide lifts all boats.” But this quotation appears to be bogus. When historian Donald Lazere conducted a thorough search of the Kennedy literature, he found no trace of the first sentence, and Laffer proved unable to provide a source for it, on Lazere’s request. The famous “rising tide” saying, of course, is used many times in Kennedy’s speeches, but never in the context of taxation. Kennedy used it, on the contrary, with quite the opposite intentions of its latter-day conservative admirers – about conservation projects, large-scale infrastructure investment, and especially, federal spending on economically depressed regions of the United States, on the grounds that this benefits the nation as a whole. As Lazere puts it:
    'In a neatly Orwellian move, Laffer et al. have twisted Kennedy’s quasi-socialistic point, that helping poorer regions and people to prosper benefits those above them, into the opposite, that making the rich richer trickles down to all below in direct proportion… It is an even more Orwellian twist to suggest that the most modest curb on the growing rate of disparity… amounts to “pulling a fellow American down.”'
    See: Lazere, D - A Rising Tide Lifts All Boats: Has the Right Been Misusing JFK's Quote? https://historynewsnetwork.org/article/73227 (Retrieved August 28, 2020). ↩︎

  2. According to the etymologist Barry Popkik, this joke has appeared in print since 1958, and a reference in 1960 attributed it to one C. Bruce Grossman. I like to give credit, where its due.
    https://www.barrypopik.com/index.php/new_york_city/entry/head_in_the_oven_feet_in_the_freezer(Retrieved August 28, 2020). ↩︎

  3. Contrary to the prevailing view of present-day neoliberals and libertarians, Keynes, unlike the socially progressive Kuznets, was a deeply elitist reactionary – and quite willing to say so, too. In an essay published in 1925, he wrote that “the class war will find me on the side of the educated bourgeoisie.” In the same year, in the context of a diatribe against socialism in the Soviet Union, he vividly expressed his contempt and disdain for the working class: “How can I adopt a creed which, preferring the mud to the fish, exalts the boorish proletariat above bourgeois and the intelligentsia who, whatever their faults, are the quality in life and surely carry the seeds of all human advancement?”. His latter-day admirer, the corporate guru Peter Drucker said, of Keynes, that “He had two basic motivations. One was to destroy the labour unions and the other was to maintain the free market… His whole idea was to have an impotent government that would do nothing but, through tax and spending policies, maintain the equilibrium of the free market.” (Quoted in Bartlett, 2011).
    See: Keynes, J.M. (1925) Am I a liberal? – first published in The Nation & Athenaeum; Keynes, J.M. (1925) A Short View of Russia (Included in Essays in Persuasion, published 1931); Bartlett, B (2011) Keynes was really a conservative. https://www.writersreps.com/feature.aspx?FeatureID=179 (Retrieved August 28, 2020). ↩︎

  4. It is worth noting that the high market value of human breast milk is likely to be determined by its limited supply as a purchasable commodity. However, this research makes a valid point – breast milk makes a huge contribution to human well-being, which GDP doesn’t perceive, and in view of these benefits, public policy should prioritise support for breastfeeding over the interests of baby-formula companies.
    See: Smith, J (2013) “Lost Milk?”: Counting the Economic Value of Breast Milk in Gross Domestic Product. Journal of Human Lactation. ↩︎

  5. Bridgeman, B. et al. (2012) Accounting for household production in the national accounts, 1965-2010. Survey of Current Business. ↩︎

  6. UK Office of National Statistics (2004) Unpaid Household Production. ↩︎

  7. Manyika, J et. al (2017) Jobs lost, jobs gained: workforce transitions in a time of automation. McKinsey Global Institute. See also Keen, A (2015) The Internet is Not the Answer; Ford, M (2015) The Rise of the Robots: Technology and the Threat of Mass Unemployment. ↩︎

  8. Case, A and Deaton, A (2015) Rising morbidity and mortality in mid-life amongst white non-Hispanic Americans in the 21st century. PNAS. ↩︎