What Nobel Laureates Discovered in GDP?

What is GDP? It is a macroeconomics index reflecting the market value of all final goods and services produced over a year’s period in all branches of economy in the country, to be consumed, exported, or accumulated, irrespective of the national identity of the used agents of production.

However, some countries of developed democracy have doubted whether this index indeed reflects real economy. In February 2008, French President Nicolas Sarkozy invited Nobel laureates in economics Joseph Stiglitz and Amartya Sen, as well as the eminent French economist Jean-Paul Fitoussi to set up a committee of leading economists in order to investigate if GDP was a reliable measure of economic and social progress.

The committee was set up and, having worked for several years, came to the main conclusion: the use of market prices in the assessment of economic development is vicious in itself! The Nobel winners discovered suddenly that market production was not a criterion of well-being. Mixing up the two notions can bring about erroneous conclusions on the degree of people’s prosperity and can result in wrong political decisions. The material life standard is more closely connected with factors of real income and consumption; production can be expanding while income can be going down, and vice versa, if one takes into account capital amortization and revenues that are repatriated from the country or come into the country in the form of investments or other types of receipts.

Latvia can serve an example of the income index distortion. Latvian GDP has been growing steadily over the last five years. If you look at Eurostat data you will see that, with regard to the PPS (purchasing power parity) level, Latvia approximately equals the Czech Republic, being far ahead of Lithuania, Poland and Hungary, let alone Bulgaria and Romania. However, its GDP index makes Latvia a backbencher of the statistics: it lags behind Czechia by 20 percentage points. To put it simply, incomes in Latvia by no means correspond to the current prices in the country, which limits drastically the consumer purchasing power of the people.

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Published in Word Economics Magazine