Markets Enable Much More than the Arithmetic of GDP

The most Important Long Article of 2013 is published in “Democracy Journal” (“a journal of ideas’ HERE 

[Hat Tip once again to Mark Thoma’s  “Economists View” Blog for listing it among his daily items in his “Today’s Links”, a selection of relevant articles around the world.  Readers of Lost Legacy should bookmark Mark’s Blog and scan his daily selection for “Hat Tips”.

The article is by Nick Hanauer & Eric Beinhocker posts in “Democracy Journal” (“a journal of ideas’.

Eric Beinhocker is Executive Director of the Institute for New Economic Thinking INET@Oxford research program at the Oxford Martin School, University of Oxford, a member of the Said Business School at Oxford, and a Visiting Professor of Economics at Central European University. He is the author of The Origin of Wealth. 2006.]  

“Capitalism Redefined”

"What prosperity is, where growth comes from, why markets work—and how we resolve the tension between a prosperous world and a moral one.

“For everyone but the top 1 percent of earners, the American economy is broken. Since the 1980s, there has been a widening disconnect between the lives lived by ordinary Americans and the statistics that say our prosperity is growing. Despite the setback of the Great Recession, the U.S. economy more than doubled in size during the last three decades while middle-class incomes and buying power have stagnated. Great fortunes were made while many baby boomers lost their retirement savings. Corporate profits reached record highs while social mobility reached record lows, lagging behind other developed countries. For too many families, the American Dream is becoming more a historical memory than an achievable reality.

These facts don’t just highlight the issues of inequality and the growing power of a plutocracy. They should also force us to ask a deeper set of questions about how our economy works—and, crucially, about how we assess and measure the very idea of economic progress.

How can it be that great wealth is created on Wall Street with products like credit-default swaps that destroyed the wealth of ordinary Americans—and yet we count this activity as growth? Likewise, fortunes are made manufacturing food products that make Americans fatter, sicker, and shorter-lived. And yet we count this as growth too—including the massive extra costs of health care. Global warming creates more frequent hurricanes, which destroy cities and lives. Yet the economic activity to repair the damage ends up getting counted as growth as well.

Our economic policy discussions are nearly always focused on making us wealthier and on generating the economic growth to accomplish that. Great debates rage about whether to raise or lower interest rates, or increase or decrease regulation, and our political system has been paralyzed by a bitter ideological struggle over the budget. But there is too little debate about what it is all for. Hardly anyone ever asks: What kind of growth do we want? What does “wealth” mean? And what will it do for our lives?

The Price of Everything, the Value of Nothing

The most basic measure we have of economic growth is gross domestic product. GDP was developed from the work in the 1930s of the American economist Simon Kuznets and it became the standard way to measure economic output following the 1944 Bretton Woods conference. But from the beginning, Kuznets and other economists highlighted that GDP was not a measure of prosperity. In 1959, noted American economist Moses Abramovitz cautioned that “we must be highly skeptical of the view that long-term changes in the rate of growth of welfare can be gauged even roughly from changes in the rate of growth of output.”

In 2009, a commission of leading economists convened by President Nicolas Sarkozy of France and chaired by Nobel laureate Joseph Stiglitz reported on the inadequacies of GDP. They noted well-known issues such as the fact that GDP does not capture changes in the quality of the products (think of mobile phones over the past 20 years) or the value of unpaid labor (caring for an elderly parent in the home). The commission also cited evidence that GDP growth does not always correlate with increases in measures of well-being such as health or self-reported happiness, and concluded that growing GDP can have deleterious effects on the environment. Some countries have experimented with other metrics to augment GDP, such as Bhutan’s “gross national happiness index.”

Our issue isn’t with GDP per se. As the English say, “It does what it says on the tin”—it measures economic activity or output. Rather, our issue is with the nature of that activity itself. Our question is whether the activities of our economy that are counted in GDP are truly enhancing the prosperity of our society.”

Comment

And so much more.  Normally I am skeptical of such articles but I urge readers to persevere and read on (it’s several pages long in 3 sections), but I believe Nick Hanauer & Eric Beinhocker have finally written a piece worth reading by modern economists (and not just us new modern classical economists – also those among the neoclassical “rational expectations” crowd to test their convictions by reading on).

Another quote:

“we now understand that markets can be far from efficient, people are not always rational, and the economy is a complex, dynamic, evolutionary problem-solving system—more like an interdependent ecosystem than an efficient machine. This recent Copernican-like shift in perspective provides a powerful new framework for understanding how and why capitalism works, what wealth truly is, and where growth comes from. This twenty-first-century way to understand economics allows us to understand capitalism as an evolutionary problem-solving system. It allows us to see that the solutions capitalism produces are what create real prosperity in people’s lives, and the rate at which we create solutions is true economic growth. This perspective also allows us to see that good moral choices will be the ones that create true prosperity. …

Prosperity Isn’t Money, It’s Solutions

… the idea that prosperity is simply “having money” can be easily disproved with a simple thought experiment. (This thought experiment and other elements of this section are adapted from Eric Beinhocker’s The Origin of Wealth, Harvard Business School Press, 2006.) Imagine you had the $38,001 income of a typical American but lived in a village among the Yanomami people, an isolated hunter-gatherer tribe deep in the Brazilian rainforest. You’d easily be the richest Yanomamian (they don’t use money but anthropologists estimate their standard of living at the equivalent of about $90 per year). But you’d still feel a lot poorer than the average American. Even after you’d fixed up your mud hut, bought the best clay pots in the village, and eaten the finest Yanomami cuisine, all of your riches still wouldn’t get you antibiotics, air conditioning, or a comfy bed. And yet, even the poorest American typically has access to these crucial elements of well-being.

And therein lies the difference between a poor society and a prosperous one. It isn’t the amount of money that a society has in circulation, whether dollars, euros, beads, or wampum. Rather, it is the availability of the things that create well-being—like antibiotics, air conditioning, safe food, the ability to travel, and even frivolous things like video games. It is the availability of these “solutions” to human problems—things that make life better on a relative basis—that makes us prosperous.

This is why prosperity in human societies can’t be properly understood by just looking at monetary measures of income or wealth. Prosperity in a society is the accumulation of solutions to human problems.

These solutions run from the prosaic, like a crunchier potato chip, to the profound, like cures for deadly diseases. Ultimately, the measure of a society’s wealth is the range of human problems that it has found a way to solve and how available it has made those solutions to its citizens. Every item in the huge retail stores that Americans shop in can be thought of as a solution to a different kind of problem—how to eat, clothe ourselves, make our homes more comfortable, get around, entertain ourselves, and so on. The more and better solutions available to us, the more prosperity we have.

The long arc of human progress can be thought of as an accumulation of such solutions, embodied in the products and services of the economy. The Yanomami economy, typical of our hunter-gatherer ancestors 15,000 years ago, has a variety of products and services measured in the hundreds or thousands at most. The variety of modern America’s economy can be measured in the tens or even hundreds of billions. Measured in dollars, Americans are more than 500 times richer than the Yanomami. Measured in access to products and services that provide solutions to human problems, we are hundreds of millions of times more prosperous.

[And much more …  Read it all and post a comment on your Blog and/or on Lost Legacy.]

Comment

I have long been sceptical about the sloganised belief that the middle-class, let alone those at the bottom ends of the incomes' scale, are poorer than their grandparents and getting poorer, while the rich are getting richer The very poor of other countries with less developed economies still take great risks to escape where the come from to migrate to the richer economies in the most developed democratic market economies ("warts and all").   It was ever thus since the 18th century, illustrated by the rural population moving to the awful (by our standards today) towns and  cities, and abroad to colonies more in expectation of "better lives", than in certain relief.

I recall an Australian descendant of Irish forebears who was driven off the land who announced he intended to return to Ireland on a short visit to see where his great grandparents came from. He intended, he said, to visit the descendant of the landlord who had cruelly treated his grandparents and "shake his hand" in gratitude.  Without that scandalous act he would have been born in Ireland with its current living standards and without the much better Australian standards, swopping a hovel for a modern house in Victoria with decades of the Aussie life that he and his family now enjoyed.  Nick Hanauer & Eric Beinhocker's article provides a plausible explanation for what markets with democratic government and the rule of law actually achieves.  It's more than just about quantitative GDP.