Gdp Is Not A Measure Of Either Wealth Or Welfare

The quantity known as Gross Domestic Product (GDP) is regarded by most economists, financial journalists and politicians as a legitimate measure of national economic status, and - in the minds of many - of national welfare. GDP is actually defined as the total value of all final goods and services produced within a country, regardless of ownership. The value of the outputs must be equal to the sum of all labor costs (wages and salaries) and capital costs (interest, dividends and royalties). These costs are also equal to the total of money incomes or payments received by individuals. GDP is therefore a measure of economic activity, nothing more. Today the 'rich' countries are popularly supposed to be those with the greatest GDP per capita. But such an assumption may be quite misleading.

The fact that GDP is not an adequate measure of wealth is obvious from the definition. In the first place, it counts income obtained by depleting natural assets such as forests, fisheries or mineral deposits, but makes no allowance for the loss of wealth resulting from the depletion. Yet the bookkeeping accounts of any private enterprise would have to balance expenditure (or income) against changes in the stock of money in the bank. The most obvious examples are oil-exporting countries, but the argument applies equally to other natural resources such as forests and fisheries (for example, Repetto 1985, 1988; Repetto et al. 1989). To be sure, as the resource is gradually used up, its market price will rise, generating an apparent increase in the value of what remains. However, this process is clearly not sustainable in the long run. Rising prices to the consumers of the resource will reduce demand and induce substitution. As mentioned in the previous section, expenditures to repair damage from natural disasters are similarly included in GDP, whereas the property losses resulting from the damage itself are not included.

That GDP is also not a measure of welfare has been recognized for many years, at least since pioneering work by Tobin and Nordhaus, under the provocative title 'Is Growth Obsolete?' (Tobin and Nordhaus 1972). Their rhetorical question referred to the use of GDP growth as a proxy for welfare growth. They attempted to identify and quantify the - mostly defensive - components of GDP that clearly do not contribute to social welfare, even in the relatively narrow sense in which we understand it. Defense expenditures, police, health insurance and fire insurance are examples. For instance, as often pointed out, expenditures on recovery from a disaster such as a flood or fire can generate more economic activity without increasing welfare. Military activities are more likely to destroy wealth and welfare than to enhance it. Nevertheless, based on evidence from prior decades, Tobin and Nordhaus concluded that the use of GDP as a proxy was not unreasonable.

This issue has been revisited in recent decades by several groups, especially by Daly et al. (Daly and Cobb 1989; Cobb et al. 1995). In addition to eliminating additional activities that do not really contribute to human welfare (lawsuits are an example), the newer work tries to take into account missing components, such as non-monetized labor, leisure time and - especially - environmental benefits or damages. Alternative measures, such as the so-called Genuine Progress Indicator (GPI) and the Index of Sustainable Economic Welfare (ISEW), have been proposed which take into account other measures, such as energy conservation and environmental protection.

The concept of welfare can be much broader than the definition implied above, which essentially coincides with physical health and material comfort. The broader version encompasses non-physical (spiritual) aspects. A good illustration of the difference between the two is to be found in the long disagreement between Gandhi and Nehru on whether or not India should imitate the West, as exemplified by British industrialization, or return to traditional ways of life. Gandhi argued all his life that India should reject materialism and cultivate its ancient traditional values. Nehru won the argument (by default) when Gandhi was assassinated (Sachs 1992).

Unfortunately, there is no sign of convergence among present-day economists on several of these issues. Meanwhile, it is important to bear in mind that increasing GDP is not necessarily coincident with growing welfare or wealth accumulation.

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