Should savings be counted in GDP?

[brainstorm]

Business restructuring is a product. The goal is for a business to remain as productive or become more productive while reducing expenditures/costs, which translates to more efficient operations. The problem is that even though such restructuring constitutes economic progress, it contributes to GDP loss instead of growth. This is because the reduced expenditures of the restructured business (or household) result in reduced revenues for their suppliers and sub-contractors.

Still, when you consider that all businesses in an economy can restructure to become more efficient, does it really make sense to describe the net effect on GDP as "recession?" Consider, for example, the use of IT and internet to streamline management and clerical work. The same company may be able to maintain the same level of productivity using less labor hours. This effect at the level of the overall economy then translates into no net loss in productivity, even though many jobs and much revenue may disappear.

However, if general productivity-levels in an economy is not diminished, is the economy really "receding?" If a bakery produces 1000 loaves of bread with 10 employees and later restructures to produce 1000 loaves of bread with 5 employees, is this a tragedy for the job market or a victory for industrial efficiency? Why should the 5 laid-off employees go without bread when their redundancy was not the result of production cuts?

It seems that when revenues and GDP drop and unemployment rates rise, recession is assumed and investors become more cautious. Would this be the case if the savings benefits of restructuring were counted in GDP? Maybe this could be done by measuring GDP per unit labor. That way, investors could see that it is not stagnation but efficiency that is the cause of GDP levels.

 

[Dickfore]

The total GDP is redistributed as:

$$Y = C + I + G + NX$$

where

C - private consumption

I - gross investment

G - government (public) spending

NX = Imp - Ex - net exports

The point is that on the market of loanable funds, there are people (or institutions) who want to lend money from their savings and people who want to borrow money for the investments they are about to undertake. This market brings the supply and demand of loanable funds in equilibrium:

$$S = I$$

and the equilibrium price on the market is the interest rate for borrowing (or saving), which should be equal apart from a small commission charged by the financial institutions (banks) for the service they provide. Thus, saving is already included in GDP through gross investment and should not be considered once more.

 

[brainstorm]

and the equilibrium price on the market is the interest rate for borrowing (or saving), which should be equal apart from a small commission charged by the financial institutions (banks) for the service they provide. Thus, saving is already included in GDP through gross investment and should not be considered once more.

It helps me to use a relatively concrete example to critically think about the abstract generalities of the model; so take the example of a bakery producing 1000 loaves with 10 employees. If the bakery changes its system or installs new technologies that allows it to produce the same 1000 loaves with 5 employees (or maybe it found cheaper suppliers or cut its manager's salaries, stock dividends, or whatever), and the savings is, let's say, 100,000/year; how would this savings get counted as gross investment?

The bakery is producing the same amount of bread. It is doing it more efficiently per unit cost. But wouldn't that contribute negatively to GDP as it is currently measured?

 

[talk2glenn]

It helps me to use a relatively concrete example to critically think about the abstract generalities of the model; so take the example of a bakery producing 1000 loaves with 10 employees. If the bakery changes its system or installs new technologies that allows it to produce the same 1000 loaves with 5 employees (or maybe it found cheaper suppliers or cut its manager's salaries, stock dividends, or whatever), and the savings is, let's say, 100,000/year; how would this savings get counted as gross investment?

The bakery is producing the same amount of bread. It is doing it more efficiently per unit cost. But wouldn't that contribute negatively to GDP as it is currently measured?

GDP is a measure of production (or, if you like, consumption - the values are equivalent); look again at the formula that was posted for you. A reduction in input costs has no effect on output and therefore no immediate effect on GDP. In the long run, the gain in efficiency frees up additional resources (savings) to be invested in additional production, either increasing bread output or the output of some other good. Long run GDP will go up due to an increase in the efficiency of bread production, which is an intuitive result.

 

[brainstorm]

GDP is a measure of production (or, if you like, consumption - the values are equivalent); look again at the formula that was posted for you. A reduction in input costs has no effect on output and therefore no immediate effect on GDP. In the long run, the gain in efficiency frees up additional resources (savings) to be invested in additional production, either increasing bread output or the output of some other good. Long run GDP will go up due to an increase in the efficiency of bread production, which is an intuitive result.

Maybe, or maybe in the long term the bakery will cut its production to maintain its current prices despite the fact that the five employees laid off can no longer afford the bread. Who can say?

The point is that regardless of the effects, LT or ST, such savings have on GDP as measured in revenues and income; the bakery "grew" in terms of gaining productivity/efficiency. So claiming that the bakery "downsized" because it laid off workers doesn't really capture the inherent growth in productivity gains. If the bakery used its enhanced productivity to price its bread more competitively, less revenue-per-loaf would be made and GDP would decrease. However, the net consumption of bread could be the same or greater than before. How is it then accurate to characterize this as "recession?" Isn't it a form of economic growth/progress?

 

[talk2glenn]

Maybe, or maybe in the long term the bakery will cut its production to maintain its current prices despite the fact that the five employees laid off can no longer afford the bread. Who can say?

This statement doesn't make any sense. Why would the bakery "cut its production to maintain its current prices"? Does this follow at all from the premise that the bakery's input costs have declined?

the bakery "grew" in terms of gaining productivity/efficiency.

No it didn't (not yet anyway, but we'll get to that). You never said the output changed. The bakery's cost of producing a fixed amount of output has declined by half, in your example (assuming the only input was labor). The average cost of production has gone down, and profit has gone up, but output (units produced and units sold) is held constant. The price of bread hasn't changed; the only thing that's changed is the cost curve.

If the bakery used its enhanced productivity to price its bread more competitively, less revenue-per-loaf would be made and GDP would decrease. However, the net consumption of bread could be the same or greater than before. How is it then accurate to characterize this as "recession?" Isn't it a form of economic growth/progress?

The change in the costs of production has no bearing on the price a bakery will charge for its product. This is an intrinsic misunderstanding of the producers profit maximizing problem. The price a firm will charge is given by the consumers and the industry, not the individual firms (assuming a competitive marketplace). The quantity a profit-maximizing firm will produce is a function of its costs. The lower its costs, the more it will produce. Regardless, it will stop production at the point where marginal costs (the price of producing an additional unit) equal marginal revenues (the market price for the good).

A bakery whose production costs have gone down will respond by increasing production (assuming room in both the capital and final good markets), but it will still sell bread at the same price as it did before the change in costs. If we assume for a moment that the bread market is perfectly competitive (infinite capacity to absorb the change in an individual firms production), then more bread would be sold and consumed at the same price as before the change in the firms production efficiency and GDP would go up, not down.

Real life is significantly more complicated than this simple model, of course. The laid off workers could no longer afford to consume bread. The additional supply without any corresponding change in demand would drive down the price of bread in the short run, forcing uncompetitive firms out of the market, contracting the supply and restoring the market to competitive equilibrium. Etcetera. But the above suffices for imparting the basic idea.

 

[brainstorm]

This statement doesn't make any sense. Why would the bakery "cut its production to maintain its current prices"? Does this follow at all from the premise that the bakery's input costs have declined?

Well, let's say that the bakery charges $3/loaf and by lowering the price to $1/loaf, they could continue to sell 100 loaves/month, making $100. But since there is a recession, they can only sell 50 loaves/month at $3/month, making $150. In that case, they would cut production to 50 so that they wouldn't have to reduce the price of the second 50 loaves because that would mean that the customers paying $3/loaf could wait for the sale and get their loaves for $1/loaf. I believe this is pretty standard anti-sale logic in retail.

No it didn't (not yet anyway, but we'll get to that). You never said the output changed. The bakery's cost of producing a fixed amount of output has declined by half, in your example (assuming the only input was labor). The average cost of production has gone down, and profit has gone up, but output (units produced and units sold) is held constant. The price of bread hasn't changed; the only thing that's changed is the cost curve.

I guess what I meant to say is that it has grown in value insofar as production per unit input/investment has increased.

The change in the costs of production has no bearing on the price a bakery will charge for its product. This is an intrinsic misunderstanding of the producers profit maximizing problem. The price a firm will charge is given by the consumers and the industry, not the individual firms (assuming a competitive marketplace). The quantity a profit-maximizing firm will produce is a function of its costs. The lower its costs, the more it will produce. Regardless, it will stop production at the point where marginal costs (the price of producing an additional unit) equal marginal revenues (the market price for the good).

Well, assuming other firms imitate innovations that increase efficiency, a competitive market would actually transfer the benefit of innovations to consumers in that competitors would attempt to usurp sales by lowering their price and the ensuing price competition would result in the minimum price sustainable by all competitors. This assumes price competition among non-colluding competitors. Once competitors figure out that they can avoid reaching bottom-pricing by maintaining artificial levels above a price-leader, they do so and focus on promoting their product as better than the price-leader.

A bakery whose production costs have gone down will respond by increasing production (assuming room in both the capital and final good markets), but it will still sell bread at the same price as it did before the change in costs. If we assume for a moment that the bread market is perfectly competitive (infinite capacity to absorb the change in an individual firms production), then more bread would be sold and consumed at the same price as before the change in the firms production efficiency and GDP would go up, not down.

That is the boom side of the cycle. If bakeries attempt to do this, bread will become more abundant and buyers will have more choice as a result. At that point, price competition ensues to sell unsold bread and that results in a price-crash. Producers know this and manage their output to prevent market crashes.

Real life is significantly more complicated than this simple model, of course. The laid off workers could no longer afford to consume bread. The additional supply without any corresponding change in demand would drive down the price of bread in the short run, forcing uncompetitive firms out of the market, contracting the supply and restoring the market to competitive equilibrium. Etcetera. But the above suffices for imparting the basic idea.

Or the employees who don't get laid off take a salary-cut, which frees up capital to invest in new ventures that result in hiring the laid-off employees. In fact, they could even be rehired at half their old wages to do half their former work-load. The net result would be that the same amount of bread was produced at half the price for people making half their former salaries.

 

[Dickfore]

It helps me to use a relatively concrete example to critically think about the abstract generalities of the model; so take the example of a bakery producing 1000 loaves with 10 employees. If the bakery changes its system or installs new technologies that allows it to produce the same 1000 loaves with 5 employees (or maybe it found cheaper suppliers or cut its manager's salaries, stock dividends, or whatever), and the savings is, let's say, 100,000/year; how would this savings get counted as gross investment?

The bakery is producing the same amount of bread. It is doing it more efficiently per unit cost. But wouldn't that contribute negatively to GDP as it is currently measured?

GDP is a measure of the market value of all final goods and services sold in one country during a fixed time period.

The only contribution the bakery does to the GDP is through selling 1000 loaves of bread. All the ingredients that went into the production of those loaves, which can be categorized into:

• flour, water, salt and yeast and heating fuel (or electricity) for the furnaces;
• room for the bakery, distribution trucks, mixers and baking ovens;
• wages for the employees;

are not counted in the GDP. Why? To avoid double counting. Look at the wages for the employees, for example. Those wages are spent on final products and services consumed by the employee's family and, if they are left with some extra, they will save it in a bank. The bank, in turn, will invest them to fund some capital projects, perhaps some of it might go to credit raised by the bakery owner to buy that new baking oven. It is only when these things are exchanged that we count them towards GDP, but, in general, costs of production are not accounted directly in GDP.

Now, your "concrete" example is a dangerous analogy between micro and macroeconomy. You supposed that if the bakery can cut down costs, it will still be able to sell the same loaves for the original price. While this might be true for a particular firm in the market, when viewed as a phenomenon characteristic for the whole economy, it assumes that as unemployment becomes rampant (every bakery lays off half the workers and this is true for other firms as well), that the purchasing power of the population remains the same. This is simply not true. If workers are left without jobs, they will not buy as many stuff at any given price. This means that the so called aggregate demand curve will shift left (or down). On the other hand, by reducing costs of production, the firms will be able to produce more at any given price, and the aggregate supply curve will shift to the right. These two effects will tend to compensate the total quantity, but they both contribute to lowering the prices, i.e. deflation. And, indeed, what will happen is deflation accompanied by rampant unemployment, but the real GDP will move very little or not at all. Indeed, this is the essence of the so called Philips curves, the short run trade--off between unemployment and inflation.

 

[brainstorm]

GDP is a measure of the market value of all final goods and services sold in one country during a fixed time period.

So isn't business or consumption restructuring a service whose value is the amount of efficiency achieved?

Also, why should only final goods and services be counted toward GDP? In what sense is a good/service "final" anyway?

Now, your "concrete" example is a dangerous analogy between micro and macroeconomy. You supposed that if the bakery can cut down costs, it will still be able to sell the same loaves for the original price.

First of all, what is "dangerous" in this or any analogy? The only danger lies in uncritically assuming that the relationship between the analogy and thing it describes is perfect, which neither of us are doing. My main point with the analogy is the the bakery does not reduce output while it increases efficiency by lowering costs and labor hours, which effectively frees up human capital/labor for other enterprises.

While this might be true for a particular firm in the market, when viewed as a phenomenon characteristic for the whole economy, it assumes that as unemployment becomes rampant (every bakery lays off half the workers and this is true for other firms as well), that the purchasing power of the population remains the same. This is simply not true.

Assuming that all goods/services are discounted to the point where supply and demand curves intersect, where gluts/surpluses are sold off, purchasing power should be equivalent to productivity in an economy. In other words, if only bread was produced in an economy and half the workers lost all income, the price of bread would approach the cost of producing it as sellers competed to avoid getting stuck with surplus loaves. Then, you would expect the unsold bread to be removed as waste by the unemployed population, who would distribute it among themselves out of rational avoidance of hunger.

If workers are left without jobs, they will not buy as many stuff at any given price. This means that the so called aggregate demand curve will shift left (or down). On the other hand, by reducing costs of production, the firms will be able to produce more at any given price, and the aggregate supply curve will shift to the right. These two effects will tend to compensate the total quantity, but they both contribute to lowering the prices, i.e. deflation. And, indeed, what will happen is deflation accompanied by rampant unemployment, but the real GDP will move very little or not at all. Indeed, this is the essence of the so called Philips curves, the short run trade--off between unemployment and inflation.

Right, this is the net effect of advances in efficiency and productivity but the question is why this registers as a failure of the market instead of a success. After all, increased efficiency and (potential) productivity translates into an overall increase in productive potential for the economy. More production with less labor hours means more available labor hours to devote to other endeavors, whether paid or voluntary. Yet layoffs and unemployment are regarded as recessionary, which leads to the irrational association between more jobs and a more productive economy. In reality, the issue with job-creation is just about distributing spending money to stimulate consumption and thereby investment.

The reason money is distributed by creating "jobs" is because there is a cultural taboo against distributing spending money without it being compensation for labor. While I'm all for the work ethic, I don't think this should confound the basic fact that increased economic efficiency (i.e. more productivity with less inputs such as labor hours) translates into economic stagnation. The "growth" of an economy should be measured in terms of productivity of goods and services and problems with distribution of the means of consumption should be addressed as a separate issue, imo.

 

[Dickfore]

So isn't business or consumption restructuring a service whose value is the amount of efficiency achieved?

Also, why should only final goods and services be counted toward GDP? In what sense is a good/service "final" anyway?

Your first sentence makes no sense in terms of economics.

A final good or service is a good that is not used as an input in the production of other goods and services. We count only those to avoid double counting because the price of a good or service also reflects the costs of its production.

 

[brainstorm]

Your first sentence makes no sense in terms of economics.

You'll have to explain why you think that. Basically my point is that a service provides value, correct? So, for example, a machine that kneeds dough could replace workers who perform the same task. Likewise, relocating a flour factory next to a wheat field could eliminate the need for transporting the wheat to the factory, for example. Another example would be using a computer to manage records or data in a way that reduces administrative work. Any of these innovations makes it possible to generate more productivity with less costs/inputs, which constitutes an increase in the value of the business, no? I.e. the business and economy generally has more capacity to expand because it can produce more with greater efficiency. So why does the net effect of unemployment register as "recession," which makes it seem like the economy/business lost productivity instead of gaining it?

A final good or service is a good that is not used as an input in the production of other goods and services. We count only those to avoid double counting because the price of a good or service also reflects the costs of its production.

But all goods/services are used as inputs in further productivity. It's just that productive labor is not counted if it is not exchanged for money. If you buy wood to build yourself a deck, the wood is used as an input for another good (i.e. the deck) but since you're not building the deck to sell, it's not counted in GDP. Same thing if you make yourself a sandwich instead of going to a restaurant. If the restaurant makes it and you pay for it, it's GDP, but if you make it for yourself (technically you could be said to have paid yourself), then the sandwich is not counted as final product but only the ingredients that you paid money for.

So products or services that enable people as consumers or firms to consume and/or produce with greater efficiency only cause GDP to decrease because the amount of money exchanged decreases. If the value of final goods and services is increasing despite decreasing expenditures/revenues/incomes, why should this be described as "recession?" It seems to be a form of growth that circumvents monetary exchanges.

 

[Dickfore]

You'll have to explain why you think that. Basically my point is that a service provides value, correct? So, for example, a machine that kneeds dough could replace workers who perform the same task.

What is the service here, who is performing it and what value is provided?

But all goods/services are used as inputs in further productivity.

I had a nice steak in the restaurant the other night. What productive process was this expenditure of mine an input in?

 

[brainstorm]

What is the service here, who is performing it and what value is provided?

The service is restructuring business processes to make them more efficient. The value can be measured in savings relative to what is replaced. In Ben Franklin's words, "a penny saved is a penny earned."

I had a nice steak in the restaurant the other night. What productive process was this expenditure of mine an input in?

To quote the Disney/Pixar movie, Ratatouille, "food is fuel." Human labor/capital is economic input so food fuels the machines that produce labor. Now, you might say that you ate the steak on friday and didn't do any work all weekend, but you probably did do some form of unpaid productive labor during the weekend. If nothing else, you kept your body nourished so that it would be ready for work on monday or whenever the next time you worked was.

 

[Dickfore]

The service is restructuring business processes to make them more efficient. The value can be measured in savings relative to what is replaced. In Ben Franklin's words, "a penny saved is a penny earned."

There were three w-words in my questions.

To quote the Disney/Pixar movie, Ratatouille, "food is fuel." Human labor/capital is economic input so food fuels the machines that produce labor. Now, you might say that you ate the steak on friday and didn't do any work all weekend, but you probably did do some form of unpaid productive labor during the weekend. If nothing else, you kept your body nourished so that it would be ready for work on monday or whenever the next time you worked was.

So, according to you, me having dinner is a production cost for the institution where I am employed. Nice one.

 

[brainstorm]

There were three w-words in my questions.

Well, it would depend on who is attributed authorship for the restructuring that takes place. That is the who. The "what service" is the restructuring process, i.e. the service of making the business more efficient. The "what value" was explained by the phrase, "a penny saved is a penny earned," i.e. the savings relative to the previous process that was replaced is the value of restructuring, as well as the labor and other inputs freed up for other projects. If you had 10 computers keeping track of personnel records and you installed software that did the same thing using only one, you would free up 9 computers for other work. This would be in addition to whatever immediate savings you achieved, such as reducing energy costs, computer maintenance, etc. for the task of record-keeping.

So, according to you, me having dinner is a production cost for the institution where I am employed. Nice one.

If you were owned by your employer, it would be. Since you own yourself, though, you are actually the institution that manages you so that you will be in good condition to be leased to your employer.

 

[Dickfore]

Well, it would depend on who is attributed authorship for the restructuring that takes place. That is the who. The "what service" is the restructuring process, i.e. the service of making the business more efficient. The "what value" was explained by the phrase, "a penny saved is a penny earned," i.e. the savings relative to the previous process that was replaced is the value of restructuring, as well as the labor and other inputs freed up for other projects. If you had 10 computers keeping track of personnel records and you installed software that did the same thing using only one, you would free up 9 computers for other work. This would be in addition to whatever immediate savings you achieved, such as reducing energy costs, computer maintenance, etc. for the task of record-keeping.


If you were owned by your employer, it would be. Since you own yourself, though, you are actually the institution that manages you so that you will be in good condition to be leased to your employer.

Ah, now I see your confusion. Here comes the important part of the definition of GDP: 'The market value'. If some good or service is not exchanged on the market, it is not counted towards GDP. For example, if I grow food for my own needs using water from a common creek and no artificial fertilizers or machinery or bought livestock, then I do not contribute to the GDP. Similarly, what the firm does INTERNALLY to reduce its costs WITHOUT hiring a restructuring firm, is not considered part of GDP. If they hired a firm, the service provided by this firm would be accounted for in the production costs of the bakery, and, therefore would be an intermediate service. Therefore, it is not directly counted in GDP.

 

[brainstorm]

Ah, now I see your confusion. Here comes the important part of the definition of GDP: 'The market value'. If some good or service is not exchanged on the market, it is not counted towards GDP. For example, if I grow food for my own needs using water from a common creek and no artificial fertilizers or machinery or bought livestock, then I do not contribute to the GDP. Similarly, what the firm does INTERNALLY to reduce its costs WITHOUT hiring a restructuring firm, is not considered part of GDP. If they hired a firm, the service provided by this firm would be accounted for in the production costs of the bakery, and, therefore would be an intermediate service. Therefore, it is not directly counted in GDP.

Well, that may simplify my point in the OP: if internal gains result in economic growth which reduce GDP, should the economy considered to be "in recession?" E.g. if farming and food distribution industries would lose business because of many people doing their own home vegetable gardening, why should this be counted as economic recession? Isn't it really just a shift of production from the public to private sphere?

 

[Dickfore]

Your objections to GDP are quite valid and had been raised before. However, I turn again to the comment that your bakery example is dangerous. Imagine privately organizing one of the following:
1) Obtaining the building material and constructing your own home;
2) Providing enough food for your and your family's needs all throughout the year;
3) Delivering your babies;
4) Curing common infectious diseases.

How well can you do all these things? How much time would you have left after performing them? What is your standard of living if you simply provided only them?

 

[brainstorm]

Your objections to GDP are quite valid and had been raised before. However, I turn again to the comment that your bakery example is dangerous. Imagine privately organizing one of the following:
1) Obtaining the building material and constructing your own home;
2) Providing enough food for your and your family's needs all throughout the year;
3) Delivering your babies;
4) Curing common infectious diseases.

How well can you do all these things? How much time would you have left after performing them? What is your standard of living if you simply provided only them?

Now I'm confused. You are transforming my point about GDP failing to represent actual economic activity and growth to a moral/value argument about whether it is good to shift certain goods and services from public to private organization?

Nevertheless, to answer your question it would depend on the knowledge and skill level of the individual(s) performing the labor. Is it dangerous for a knowledgeable do-it-yourselfer to construct their own home? No, why would it be? If you have a good set of plans and instructions and you are competent to know when something is not adequately securely fastened, you should be able to build your own house. Plenty of kit-homes and do-it-yourself instructions are available for that sort of thing. Of course, nothing can prevent you from being incompetent or making mistakes.

Anyway, you also ignore the fact that a corporation could shift out-sourcing of particular goods/services to do them internally and these would disappear from GDP. For example, if IBM hired people to produce all the food consumed by its employees, making it unnecessary for those employees to bring their lunch or go out for lunch, all those employees expenditures for lunch would disappear from GDP. That doesn't mean they were going without lunch or that the people producing the lunch are less competent than if lunch was out-sourced.

I answered your questions. Now tell me why you are so defensive about discussing shortcomings of GDP as a metric of economic productivity?

 

[Dickfore]

Nevertheless, to answer your question it would depend on the knowledge and skill level of the individual(s) performing the labor. Is it dangerous for a knowledgeable do-it-yourselfer to construct their own home? No, why would it be? If you have a good set of plans and instructions and you are competent to know when something is not adequately securely fastened, you should be able to build your own house. Plenty of kit-homes and do-it-yourself instructions are available for that sort of thing. Of course, nothing can prevent you from being incompetent or making mistakes.

But, you completely misunderstood the point. Who can give you instructions or plans? Who prepared those kit-homes? If you spent money for any of these things, they would be final goods and raise GDP.

 

[brainstorm]

But, you completely misunderstood the point. Who can give you instructions or plans? Who prepared those kit-homes? If you spent money for any of these things, they would be final goods and raise GDP.

If you buy a set of instructions/plans for $100 and spent another, say, $20,000 to build a house you would have spent $100,000 for, GDP grows but at a slower rate than if you had spent the $100,000 and paid other people to build the house. My point is that by saving $80,000, you actually produce as much economic value than if you had expended $100,000 to out-source the labor.

Nevertheless, GDP will reflect the fact that the $80,000 you saved did not result in revenues and income for contractors and construction laborers. Likewise, these people will not spend that money, which results in less revenues/income for all the businesses that would have provided them with goods and services. So, depending on how many times that $80,000 you saved would have changed hands in a year, GDP decreases that much.

Nevertheless, by building the house yourself you conserve all the fuel, tires, and vehicle wear-and-tear for the many workers who would have had to commute to your construction site. You free up their labor to work on other projects. Basically, you add yourself to the productive labor of the economy. Yet the fact that you saved money by restructuring your project in a more efficient way results in a net decrease in GDP. If everyone builds their own house instead of paying a contractor, GDP would drop yet everyone would have a house to live in. So how does GDP really measure the productivity of both public and private economic activities?

 

[Dickfore]

If you buy a set of instructions/plans for $100 and spent another, say, $20,000 to build a house you would have spent $100,000 for, GDP grows but at a slower rate than if you had spent the $100,000 and paid other people to build the house. My point is that by saving $80,000, you actually produce as much economic value than if you had expended $100,000 to out-source the labor.

Nevertheless, GDP will reflect the fact that the $80,000 you saved did not result in revenues and income for contractors and construction laborers. Likewise, these people will not spend that money, which results in less revenues/income for all the businesses that would have provided them with goods and services. So, depending on how many times that $80,000 you saved would have changed hands in a year, GDP decreases that much.

Nevertheless, by building the house yourself you conserve all the fuel, tires, and vehicle wear-and-tear for the many workers who would have had to commute to your construction site. You free up their labor to work on other projects. Basically, you add yourself to the productive labor of the economy. Yet the fact that you saved money by restructuring your project in a more efficient way results in a net decrease in GDP. If everyone builds their own house instead of paying a contractor, GDP would drop yet everyone would have a house to live in. So how does GDP really measure the productivity of both public and private economic activities?

How can it be that you can build the house in $20k whereas professional construction workers would build it for $100k?

 

[brainstorm]

How can it be that you can build the house in $20k whereas professional construction workers would build it for $100k?

Because you're just buying the materials and doing the labor yourself. $20k may be an underestimate, depending on what you're trying to achieve. It was just an example. If you're interested in building your own house, you should do some research and planning and estimate for yourself.

 

[Dickfore]

Because you're just buying the materials and doing the labor yourself. $20k may be an underestimate, depending on what you're trying to achieve. It was just an example. If you're interested in building your own house, you should do some research and planning and estimate for yourself.

So, in other words, you will be saving on the labor costs for the construction workers. How long do you think it will take you to do the work yourself instead of a construction worker team?

 

[brainstorm]

So, in other words, you will be saving on the labor costs for the construction workers. How long do you think it will take you to do the work yourself instead of a construction worker team?

Ok, at this point it is becoming clear to me that your main interest in this discussion is to argue against do-it-yourself. The thread isn't about do-it-yourself. It is about the fact that economic activities that are not done in exchange for money are not counted toward GDP even when they are productive in some way. That gives the false impression that the economy is in recession when, in fact, there may be a great deal of economic productivity that goes undocumented.

 

[talk2glenn]

Because you're just buying the materials and doing the labor yourself. $20k may be an underestimate, depending on what you're trying to achieve. It was just an example. If you're interested in building your own house, you should do some research and planning and estimate for yourself.

This statement is economically meaningless. An average American home might take approximately 4,000 working hours to complete. The labor costs alone (given an average hourly wage of $18.50) work out to $74,000.

This does not take into consideration materials, permits and licenses, or necesarry skills training.

Assuming you were correct that materials would cost an additional $20,000, then you are very close to $94,000. The additional bureacratic and educational costs would push you well over $100,000; building your own home is clearly less efficient than having it built for you. At the end of the day, the difference in construction quality would in all likelihood be real and noticeable, so the home would be worth less than one professionally built in the first place, and if you are worth more than $18/hour, the pursuit becomes more wasteful.

If you buy a set of instructions/plans for $100 and spent another, say, $20,000 to build a house you would have spent $100,000 for, GDP grows but at a slower rate than if you had spent the $100,000 and paid other people to build the house. My point is that by saving $80,000, you actually produce as much economic value than if you had expended $100,000 to out-source the labor.

No, you haven't. The sale of new homes is valued into GDP on the basis of construction value, not sales value, for obvious reasons (the home builder is buying all the parts that make up a finished home; these parts are final goods; what the owner intends to do with the property later is secondary market and irrelevant). The contribution to GDP would be roughly the same, because your time has value (you aren't working for "free" - those 4,000 man-hours could have been spent doing something else; this is called opportunity costs). However, the net effect is a GDP reduction - more value could have been created by having professional home builders do the construction and you doing whatever it is you are good at.

 

[brainstorm]

this is called opportunity costs). However, the net effect is a GDP reduction - more value could have been created by having professional home builders do the construction and you doing whatever it is you are good at.

Ok, it is clear you are an insistent believer in the efficiency of division of labor. But the point of the example wasn't to argue that do-it-yourself home building is necessarily more efficient. It was to question whether innovative, cost-reducing restructuring practices shouldn't be counted toward GDP instead of against it.

 

[Dickfore]

It is clear that you don't understand the concept of comparative advantage.

 

[brainstorm]

It is clear that you don't understand the concept of comparative advantage.

What's with the strawmanning? Do you have the impression that this thread is about methods of optimizing productivity? It's about whether GDP should reflect efficiency-increases that lead to savings.

 

[Dickfore]

This is water under the bridge by now. You made the mistake of double counting in GDP many times. I don't have time to waste with this thread. I retire.

 

[talk2glenn]

It's about whether GDP should reflect efficiency-increases that lead to savings.

It does, once those gains translate into additional goods being sold on the market. Dickfore and I have explained this to you many times. Efficiency gains release resources towards the production of new goods that could not be produced before, given a fixed capital base.

GDP is, however, a measure of production, by definition. A change in production efficiency, in and of itself, has no effect on the amount of production in an economy. Nothing else that you've offered in the thread is relevant.

You're not trying to measure GDP; you're trying to measure the production possibilities frontier (the range of goods that could be produced in an economy, given its resource base and technology). GDP measures actual production.

 

[brainstorm]

You're not trying to measure GDP; you're trying to measure the production possibilities frontier (the range of goods that could be produced in an economy, given its resource base and technology). GDP measures actual production.

You have a point, but I'm still wondering about the effects of restructuring on lost wages and thus consumer spending. If GDP goes down as a result of innovations and restructuring, it makes it seem as if productivity decreased when, in fact, all that decreased was purchasing power and the cause of that was layoffs. How do you distinguish between recession caused by decreasing productivity/efficiency and that caused by increasing productivity/efficiency? In fact, it may even be the case that decreasing productivity/efficiency results in increased GDP if more spending and labor hours are used to satisfy a given amount of demand. In that case, doesn't GDP misrepresent what is actually stagnation or recession as growth, just because more money changed hands to maintain productivity levels?

In other words, doesn't GDP only represent money exchanges while failing to take account of actual material productivity and consumer fulfillment? GDP goes up when people buy more and are satisfied less; and it goes down when people buy less because they don't need as much to achieve satisfaction.

 

[WhoWee]

The total GDP is redistributed as:

$$Y = C + I + G + NX$$

where

C - private consumption

I - gross investment

G - government (public) spending

NX = Imp - Ex - net exports

The point is that on the market of loanable funds, there are people (or institutions) who want to lend money from their savings and people who want to borrow money for the investments they are about to undertake. This market brings the supply and demand of loanable funds in equilibrium:

$$S = I$$

and the equilibrium price on the market is the interest rate for borrowing (or saving), which should be equal apart from a small commission charged by the financial institutions (banks) for the service they provide. Thus, saving is already included in GDP through gross investment and should not be considered once more.

Banking regulations (capital/reserve requirements) will alter the efficiency of savings and lending.

 

[Dickfore]

Do, you mean the equality

$S = I$

is no longer valid?

 

[WhoWee]

Do, you mean the equality

$S = I$

is no longer valid?

I'm suggesting that Government regulation and interference often de-rails sound economic principles.

http://www.vcee.org/misc/userfiles/file/Six%20Core%20Economic%20Principles.pdf
"People Respond to Incentives in Predictable Ways: Incentives are actions,
awards, or rewards that determine the choices people make. Incentives can be
positive or negative. When incentives change, people change their behaviors in
predictable ways."


On a very basic level - what happens when the Government pushes interest rates to near zero - is saving stimulated? When Government requires banks to increase their reserves - is lending stimulated? When taxes are raised - is investment stimulated? When Government provides on-going subsidies for people with low income - are people stimulated to increase their income?

Government regulation changes the rules of the free market and can skewer economic models.