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Why GDP calculations need to be revised

January 28, 2014

Krugman

When politicians and central bankers discuss growth in the economy, we usually hear about  GDP and its progression. Devised as a simplified measure to account for a nation’s economic activity, it is made up of  the following equation:

GDP= C(onsumption) + I(nvestment + Savings) + G(overnment Spending) + NX(Exports – Imports)

In theory, this calculation reflects economic activity and prowess rather well and can be adjusted for inflation known as “real GDP”.  However, there is a serious flaw in this equation and it comes from Government Spending. Clearly and correctly, G is added once as the third input of the equation yet the wages paid for government workers are then also added in  “C” or “I” as all wages are either consumed, invested or saved. As a result, any government wages generate twice the GDP that they do in reality, thus they massively overstate GDP(growth). In recent years, government spending globally has increased significantly and therefore current GDP statistics are inflated and far from correct.

I hope the economic community takes notice and fixes this flaw as it poses a significant error in result, analysis and policy in the world economy. For now, we have to live with the figures we receive…

GDP_(PPP)_per_capita_by_countries

http://commons.wikimedia.org/wiki/File:GDP_(PPP)_per_capita_by_countries.png

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