CSR

Editors
Francis Quinn

Index

Francesco de Leo

Joachim Faber

Preface by Michael Møller Michael Møller

Julia Taeschner
Terence Tse

2015
 Chapter 8

GDP as the champion of measurements:

Story of an obsession

School and Grenoble Graduate School of Business

Professor Dr. Terence Tse

ESCP Europe Business School, London, UK

Measuring our lives

Measuring is part of mankind’s deepest need for knowledge. It does not take
us long to look back at history and to see how civilizations of all kind and

measurable legacy. If we think of the Aztec or Mayan cultures, pre-Colombian

civilizations that shaped the ancient history of the Americas, measurements
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We were left with advanced methods of interpretation of seasons, calendars,

and time of the day; dictated by the movement of the earth around the sun.

If we look back at ancient Egypt, Kisch makes us notice that life after death
was measured by the opulence obtained during terrestrial life and the size and
heights of monuments and pyramids; signs of eternal presence beyond time.
An obscure world blended with mythology, theology and the unknown is an
attempt by a civilization to tame time, beyond worldly life.

Every time we look back at history, regardless of our own lens of interpretation,
there is more than just stories of winners and losers and there is more to

of what happened but a cardinal dimension of measurement, an attempt to

pursue man’s oldest wish to know the purpose of life. Behind the stages of
names, places, events, wars, and deaths, there is the invisible presence of
attempted tangibility of existence, measured in some way.
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Measurements have been part of our journey since its very inception and,
as societies became more complex, they have also aspired to more complex
instruments of measurement: for example, spatial measurements, which
involved the establishment of common civic behavior (measurement of weight,
length, size, width, distance etc.) led to measurements of an aggregate

the beginning of the mathematical thinking mind, which has enabled us to

do superior new things, such as, researching factors, observing cause and

the owner of the property, all the way to commerce treaties, rules, and tariffs,
which have populated the literature on trade for the last couple of centuries.
Constructivism and positivism, winning champions of social sciences through

through subjective agency. 63 But this is another story after all.

Coupled by the obsession of the , societies have also

tried frantically to come up with some sort of shared system, like an agreed
convention, on what would have been the “norm”.64 As we move along the
books of history and come across glimpses of progress, we also noticed an

case if we think of the tension between the English metric systems, which can
be considered the inception of a shared common language.

Every time we check the distance to the next exit on the freeway, we are using
a unit of measure that dates back many centuries. It is the pride of human
civilizations. What civilizations have achieved over time is a cunning ability

we were donating a token of encapsulated knowledge, shaped by common

norms and behaviors over centuries of history. It is our desire to operate
within a common system of understanding, across cultures and generations,
determining why we want to measure and write about it.

Cupchik, Gerald, Constructivist Realism: An Ontology That Encompasses Positivist and Constructivist
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Approaches to the Social Sciences. Forum: Qualitative Social Research, 2001

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The years that changed the modern world
We could wander around this topic in so many different directions, but, as
writing allows us to take some literary permission, for the sake of the argument
in this chapter, we decided to move our attention to the years that characterized
an important phase of our modern history, at least from the perspective of
the Western cultural heritage. While common spatial and temporal systems
were becoming the societal norm, it is within the foundations of economic
thought that some of these insights became even clearer in their application
and moved the idea of measurement to its next phase.

Looking at the years between 1920 and 1930 in the United States, we are

(the world’s oldest stock exchange was introduced by the Dutch in the 1400)
were being replaced by institutionalized organs (stock markets), where several
possible investors could chip into the life of a socio-economic community
through publicly listed companies.65 It is the beginning of that institutional

These are the years where a new consciousness on consumption was being
crafted and when the foundations of the classic economic thinking, (income,
production, import, export, debt, government, etc.) started to muscle into
everyday life, providing Americans with the possibilities of participating in a
new project, bringing the hard labor of the working class under the auspices of
better lives, better conditions, better access. It is the beginning of capitalism,
as we know it, catalyzed by a middle class that became the driving force of
the economy.

But let’s contextualize those years to better understand the underpinnings that
led to the following events. In 1929, America was trying to recover from the

international arena was also pressing. The U.S. was still a relatively modest
economy with an increasing manufacturing capacity and a growing working
class, but most of its population was still concentrated outside of the big cities.
65

University Press, 2006.

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Grounded around the node of the family, society was slowly converging into a
new socio-economic paradigm: urbanization (Davis, 2004).66

Many workers were busy with jobs at the local factories and progress also
brings a new set of expectations, which is well impersonated by the language
of economics (perception of affordability, dormant demand, supply of new
products, the rise of sales and marketing, etc.). American families were
hopeful about the future and as such they spent some of their disposable
income on some of those products, or , which were gaining
traction among consumers, allowing for the supply chain to emancipate from
simple to more sophisticated items, given the increased demand for new
products. Electric appliances and automobiles were the big drivers of the
economy in those days, supporting a myriad of companies that were busy with
the manufacturing of those products, and an uncontested sense of euphoria
surrounded the commercial transactions in those times.

During the latter half of the 1920s, steel production, building construction, retail
turnover, number of automobiles registered, even railway receipts advanced

months of 1928.67 This clearly set an unprecedented record. Iron and steel

exchange speculation, which led hundreds of thousands of Americans to

money to buy more stocks. By August 1929, brokers were routinely lending
small investors more than two-thirds of the face value of the stocks they were
buying. An estimate of the time talks about lending over $8.5 billion, more than
the entire amount of currency circulating in the U.S. at the time.69

The rising share prices encouraged more people to invest; people hoped the
share prices would never drop. Speculation thus fueled further stock market
increases and created an economic bubble.68

66

Economics 119 (November 2004): 1177-1215.

Kendrick, John W. Productivity Trends in the United States. Princeton: Princeton University Press,
67

1961.
68

University Press, 2006.

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Figure 14: The Dow Jones Industrial Average, 1928–1930

At the same time, an oversupply of crops because of good harvests caused

a drop in wheat prices so heavy that the net income of the wheat farmers
was threatened with extinction and many of them were forced to move

forever change the economic geography of the country. This, among many
other factors, was one of the aggravating causes of pressure and stress on

beginning of the shock (Galbraith, 1954).69

Towards the end of the last quarter of 1929, other important economic
barometers were also slowing, or even falling, including car sales, house
sales, and steel production. The falling commodity prices and slowing

stock market plummeted. Galbraith points out that by the end of September,
the market was down 10% from the peak (the “Babson Break”).

on October 24th and 28th and culminated on the 29th (“Black Tuesday”). It
was the beginning of America’s 10-year Great Depression, which would reach
the global scene shortly thereafter.

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GDP as a response to the Great Depression
At the time of the 1929 collapse, we could not necessarily talk about a global
economy. Such a concept was not necessarily part of the common imagination
or the political discourse. There were countries and diplomacy and we had a
sense of an international community, but countries were still the main unit of
measure for everything. The crisis in the U.S. trickled down to other parts of
Europe, making it de facto
history has witnessed. This is also when our story begins.

Worried about the inability to “know” (aka, ) whether the economy

would improve and at what price, the U.S. Senate directed the Department
of Commerce to “
States”. It was 1932. The work was assigned to the Bureau of Foreign and
Domestic Commerce; by the end of the year, arrangements were made with
the National Bureau of Economic Research (NBER) for Simon Kuznets, a

completed the report in late 1933, which was subsequently published by the
U.S. Congress in 1934.

Kuznets had prepared a document in which

a new indicator was introduced to
macroeconomic statistics to annually
assess the state of the health of the
economy, viewed from its productive
capacity. This was the beginning of the
GDP as a unit of measurement of the
economic activity of a national entity.

While Kuznets had warned Congress of the

limited scope of the GDP in a renowned
sentence, where he argued “the welfare
of a nation can, therefore, scarcely be

his warning
was completely overridden by subsequent

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events and the limited understanding of the new index. It was 1942 when
the Department of Commerce began using a methodology that differed

that the activities of the government are an intermediate service and should

we bear in mind the nature of government expenditure against the most

classic industrial concept of production. But the Department of Commerce

subsuming government spending as an intermediate good, one missed an

important sector of economic activity in a modern economy. We know how this
can be argued because of ease of instrumentality, but our foremost concern is
to look a bit deeper into the GDP and its composition.

So what actually is the GDP, if we look at its formula?

Gross domestic product is the measurement of the total value of all goods and
services produced in an economy.

GDP = C + I + G + (X – M)

GDP = Consumption + Investments + Government spending + (Exports –

Imports)70

Gross:
Means that GDP measures production within a country
Exports and imports measure the country’s engagement in
foreign trade and activity.

So, in a nutshell, GDP is the sum of all the constituents of the formula, which
determine an aggregate measurement of the state of a country’s productivity.

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to produce future output. Government spending: Goods and services purchased by the government.
Exports: Income from selling goods and services abroad. Imports: Purchases of foreign goods and
services

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Zooming into this formula, problems within the GDP appear evident. The
gross domestic product can be measured regardless of the state of health of
a country. Since production is the element captured at the aggregate level,
whether this production is occurring as an offset to a public good cannot be
assessed. Expenditure does not necessarily come in color. It is an accounting
consideration at the very best. But this expenditure does not necessarily
reveal the qualitative or sustainability of the cost incurred. It just mentions its
manifestation, but not necessarily the impact.

What we measure affects what we do and the way we make decisions. If

then those decisions may be distorted and may lead to wrong solutions.
Choices between promoting GDP and allowing equal opportunity may come
across as part of a dichotomy but they do not need to once social inclusion
is appropriately included in the measurement of economic performance. As
a result, we may draw favorable conclusions regarding policies that support
economic growth, rather than policies on social inclusion, but by doing this
we are building an unnecessary confrontation between dimensions of our life,
which do not need to be the object of a trade-off.

One example is penitentiaries. If we have crime on the streets and prisons

are full, GDP actually increases, given the fact that government may need to
purchase more security services to guarantee safety. A good example of this
comes from an article just published in an online outlet71, which describes the
US prison system, as the producer, by itself, of an estimated turnover of $74
Billion, which is larger than the GDP of 133 countries. So while GDP rises, it is
not necessarily a good sign if prisons are overpopulated, because there may
be a factor, which reduces quality of life, such as, increased criminal activity.
Another poignant example is natural disasters. If a country is hit by a natural
disaster of any kind, it is likely that given the efforts to manage the crisis and
provide temporary relief to those affected by it, the government will need to
purchase services, which it may not be able to provide by regular proxy, given
the extraordinary circumstances we are describing. It was the case of the
earthquake in the Sichuan Province in 2008, which has caused an increase
of the Chinese GDP by 0.3%, after the losses of the earthquake, had been

71
https://smartasset.com/insights/the-economics-of-the-american-prison-system

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recovered, as we can elicit from an article published by the New York Times.72

may not be measured at all.

Finally, to provide even more clarity on this argument, we can provide a

popular example: If a country is building infrastructure that will raise taxes
in the future and public debt (hosting an Olympic event, for instance), this
would not negatively affect annual statistics in the short term. The authors
of this chapter had written about the Greek case, for example, which had
experienced the highest GDP growth in the EU, in the period following 2001-
7, with peak of GDP growth close to 5.9%, in the years pre and post the
European Soccer Cup of 200473. On the contrary, there would be an increase
to the GDP (and GDP per capita) on an annual basis. More employment will
be registered and with more employment there is more cash in the economy,

an increase in consumption at the household level, which constitutes the “C”

in our GDP formula. But over the years, if that infrastructure has not been
supported by an expansion of economic activity which gravitates around it,

Do you see where the problem resides? GDP does what it was designed to do.

The statistical analysis behind GDP is correct in its computation. There are no
doubts about it. Whereas the measurement process is imperfect, if we need
to apply it to multiple lenses, searching for a kind of measurement, which
is relevant to qualify the experience of life, beyond established boundaries.
Its formula and its intent are not necessarily ill conceived, but simply put:
GDP does not measure those phenomena that are relevant to the social
advancement. It is a partial indicator, rather than an absolute one.

The devil is in the details

It is evident how GDP could become misrepresentative of a measurement
bound to just a few elements, all quantitatively related and mono-dimensionally
72
http://www.nytimes.com/2008/07/08/business/worldbusiness/08iht-disasters.4.14335899.
html?pagewanted=all&_r=0
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http://blogs.lse.ac.uk/eurocrisispress/2014/01/31/do-we-want-to-solve-the-eurocrisis-lets-look-south/

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regarded. After all, it is nothing more than a sum of indicators. But as asserted
earlier in this chapter, GDP per se does not pose a problem. We need to be
“historically savvy” and understand the unintended consequences that are
derived from this unit of measure. Let’s go in order.

As GDP was becoming a conventionally used metric—

the real damages were being
inferred at a much deeper level, the one of .

The most effective way for a methodology to be implemented is by means of

agency.74 The principal agent or agency dilemma occurs when one person or
entity (the “agent”) is able to make decisions that impact another person or
entity (the “principal”). The dilemma exists because sometimes the agent is
motivated to act in his own best interests rather than on behalf of the principal.
The agent-principal relationship is a common circumstance in business, but
it can be found also in the common areas of politics and economics. This
dilemma helps us as we try to better understand the concept of incentives.

understood by a large number of parties to a system that do not need to

necessarily question the origin of the incentive itself. In other words, the
incentive is self-explanatory at the moment in which a numerical value is
assigned to it. People work by an hourly rate. If they work more, they make
more money. People work by functions. The more valuable a function is
provided, the higher the pay. The more educated a person is; higher the

describe the impact of an incremental system into our lives. If the success of
a country is related to the sum of few factors, then why should the success
of an individual not follow the same methodology? This is why we think the
devil hides in the details. As we have tried to quantify economic activity as a

of people, who have started to measure themselves, according to numerical

representations of life (salary and materialistic goods lend themselves well for

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The consequence of this behavior is a societal disenfranchisement from norms

that agency provokes. Contrary to this, immediately gratifying circumstances,

this basis and the results have become clear over the years.

The link between GDP and short term thinking is an inevitable co-relation and

There are several explanations to this; one of the most common is generally
stretched between two unconnected values: greed over natural resources
and satisfaction of the population needs. In fact, in many economic activities,

the natural resources and consequently threaten the durability of the activity
itself. And this comes at a price; the same type of price that a country would
be willing to pay to increase its GDP, even if the economic activities are not

While we do not argue for any intentionality behind this relationship, the
repercussions of a numerically driven macroeconomic methodology like GDP

a similar surrogacy at the individual level; hence GDP and measurement of

individual success tend to suffer from the same shortcomings, as far-fetched
as this conclusion may sound.

Moving beyond GDP?

Moving beyond GDP is possible and it is necessary. The systematic use
of GDP in the past decades has lifted hundreds of millions of people from
poverty and it has provided opportunities to countries that have been capable

recipe for development. This is a fact and we should recognize the enormous
contribution that an organized methodology like GDP has enacted upon what
used to be a disorganized attempt to progress. But the world has changed
and with the rise of the emerging economies, a new geography has been
outlined, now very different from the time Kuznets had thought of the Gross
Domestic Product. Our challenges today are unprecedented in many ways.

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Climate change and environmental disasters have reached historical peaks
just in the last few years. A bloody wave of international terrorism has
tightened our systems and destroyed our perception of safety, bringing a
whole new dimension of fear to our existence. The galloping inequality across
social fabrics has reached new unfortunate records and continues to provide
concerning instances of unbalance, when distance between social classes

our societies as fragmented and frugal in many ways. The 21st century world is
very distant from the 20th century world of 1929 and the degree of complexity
has risen exponentially.75

We need an indicator capable of living up to the challenges if this complexity

and which can transcend the assumption that economic growth is all we need.
We need an index capable of measuring social progress, independent from
economic activity.

A broader and more inclusive measurement of our societies requires new

metrics with which policymakers and citizens can evaluate performance at the
national, sub-national and local level. The granularity of today is a new socio-

We must move beyond GDP and GDP per capita and make societal and
environmental dimensions integral to holistic evaluation of our progress. The
paradoxes of yesterday, when society and environment could not be captured
and computed by the GDP formula, must become constituents of a new
awareness of how economic activity prospers, if society and its environment
are to be nurtured.

This rising desire for a better measurement is emerging as we speak and

we want to identify it as The Social Progress Index, a new holistic framework
of reference, which should become a complement for those used by
policymakers who want to transform ideas into action. Our vision is for a new
tomorrow, where the Social Progress Index and GDP may become part of the

75
Stiglitz, Joseph, Amartya Sen and Jean-Paul Fitoussi. “The Measurement of Economic Performance:

Progress, Paris, 2009.

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same political agenda, side by side as economic, social and environmental
concerns become constituents of a decent life for all.

There is more to share about this new Index and how it is structured, but that
will be for another work, another time

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