Looking at Gross Output

From Gary Alexander at Navellier Market Mail:

To the Rescue – a New (and Better?) Way to Measure the U.S. Economy

Last Friday, the Bureau of Economic Analysis (BEA) introduced a new number, one that I have been waiting to see for a long time. I’ve known about this new and better method of measuring the economy since 1990, when Dr. Mark Skousen developed the rationale for a new way of looking at the economy in his book, “The Structure of Production.” At the time, I was editing Skousen’s newsletter, where he also examined the investment implications of his theory, which focuses on the earlier stages of production.

In short, the Gross Domestic Product (GDP) statistic only covers final sales – end sales –the cost of the finished goods bought by consumers, government and businesses. In the fourth quarter of 2013, our $17 trillion economy (i.e., GDP) was composed of 68% consumer spending, 18% government spending, 16% in business investments and -2% for our trade deficit. We keep hearing that the consumer controls over two-thirds of GDP, which is true, but that’s only because GDP ignores the earlier stages of production.

It doesn’t make sense to ignore business-to-business transactions in the GDP. Businesses spend more than consumers do, but businesses (16% of GDP) are dwarfed by consumers (68%) in the GDP’s accounting.

Here’s why that doesn’t make sense. Only about 12% of private-sector jobs are in retailing, and those are some of the lowest paying jobs in America. Most people work for companies that sell to other businesses.

And if “the consumer controls the economy,” why does the widely-followed Index of Leading Economic Indicators fail to include retail sales or any other form of consumer spending? As you can see from the following list, the 10 Leading Indicators are nearly all business-oriented:

The 10 Leading Economic Indicators:

Weekly hours worked by manufacturing workers
Average weekly initial applications for unemployment insurance
Manufacturers’ new orders for consumer goods and materials
ISM Index of new orders
Manufacturers’ new orders for non-defense capital goods
New building permits for private housing units
The S&P 500 stock index
The leading credit index
The spread between long and short interest rates
Average consumer expectations for business conditions

These 10 “leading indicators” clearly comprise a barometer based on business, not consumer, activity.

The first-ever release of this new quarterly measure – which uses an inelegant adjective (Gross Output) to create a great acronym (“GO”!) – says the total U.S. economy topped $30 trillion at the end of 2013, vs. $17 trillion for GDP. Consumer spending remains at $11.6 trillion (68% of GDP), but that’s only 39% of Gross Output. Government spending remains at $3.1 trillion (18% of GDP, but 10% of GO), while the portion allocated to business expands from 16% of GDP to the majority (51%) of national Gross Output.

In the roundest possible numbers, Gross Output is 50% business, 40% consumer and 10% government.

Fans of the GDP tell us that the consumer controls the economy, but Gross Output shows us, in the words of Skousen, that “consumer spending is largely the effect, not the cause, of prosperity.” Businesses create the products consumers eventually buy, and those products come from innovation, technology and capital investment. While GDP measures final output, it takes risk capital and imagination to know where that money is best spent – including mining, manufacturing and transportation, all leading to final demand.

The manufacturers and shippers and designers are vital components of the economy, creating jobs and adding value. A $300 wood table, for instance, involves several stages of production – from harvesting trees for lumber, which is used to shape the boards necessary to manufacture the table. Along the way, each business is paid cash. In the GDP, only the $300 table is counted, ignoring all other transactions.

Gross Output Tends to Grow (and Fall) Faster than GDP

The building blocks of Gross Output have been around for decades. In previous years, the BEA reported Gross Output on an annual basis, but with a long time delay. The breakthrough last Friday was the first-ever quarterly reporting of Gross Output on a timely basis. The building blocks of Gross Output came from the Russian-American Nobel Prize-winning economist Wassily Leontief, who developed the first input-output tables, which he regarded as a better measure of the economy than GDP. According to Skousen, I-O measured “intervening steps” in “a complex series of transactions…among real people.”

Gross Output is like GDP on steroids. Gross Output tends to rise or fall faster than GDP. In a downturn, business spending declines even faster than consumer spending. In 2009, for instance, nominal GDP fell by only 2% (with large business declines partially offset by large increases in government spending). In the same year, GO collapsed by over 7% and intermediate inputs fell by 10%. Wholesale trade fell 20%.

Posted by on April 30th, 2014 at 3:44 pm

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