Sunday, June 15, 2014
GDP revisions will give us a different picture
Posted by David Smith at 09:00 AM
Category: David Smith's other articles

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My regular column is available to subscribers on www.thesundaytimes.co.uk This is an excerpt.

Gross domestic product, which came into being in Britain just before the D-Day landings we were commemorating earlier this month, is about to undergo one of its periodic transformations, and this is one of the dramatic ones.

It may change the way we think about how the economy has done, and is doing. It may help solve the puzzle of strong employment growth and weak productivity. It will inevitably result in more flak for the Office for National Statistics (ONS), after the ribaldry it has endured for including the proceeds of illegal drugs and prostitution in GDP (as part of new international statistical conventions).

The context of this is that a few days ago the National Institute of Economic and Social Research declared to some fanfare that Britain's economy surpassed its pre-crisis peak - recorded in early 2008 - at the end of May. The economy, now 0.2% above that pre-crisis peak, has taken nearly five years to recover the 7.2% plunge in GDP it suffered in 2008-9 and – taking that plunge into account – more than six years to get back to where it started. If you can remember where you were in early 2008, on current figures you are back there now.

It has taken a long time, reflecting both the extent of the 2008-9 drop in GDP, which on existing figures was easily the worst in the post-war period, and the stop-start recovery that followed it. It is, the National Institute says, the slowest of any recovery in living memory, including those that followed the recessions of the early 1920s, early 1930s (in both cases for which the institute constructed GDP data), the mid 1970s, early 1980s and early 1990s.

We should savour comparisons like these, and not merely because they show that the economy has belatedly made it back to the recession's starting point all those years ago. No, it is also because they will soon come to be seen as a historical curiosity, rendered meaningless by data revisions.

I have argued before that it is unwise to compare recoveries based on largely unrevised recent GDP data with those from earlier decades. The latter have been through the statistical mill over and over again, to the point where revisions have fundamentally changed the picture as it appeared at the time.

The last recession before the crisis, in the early 1990s, looks for example about half as deep as was recorded at the time and ended much sooner. What looked like a tentative recovery in that period, which took an age to get going, in fact started quite soon and lasted for a very long time; more than 16 years. Though it is possible to argue that a couple of mild recessions over that 16-year period would have done some good by reminding people, businesses and banks that there was a downside, it was a reminder that lasting recoveries can start from unpromising beginnings.

Two things are under way in the numbers. The first is the normal process by which the ONS gets more complete information, often many years after the event, on what was really happening to GDP. Sometimes that means marrying different sets of data and ironing out inconsistencies. Sometimes it means discovering where growth was under-recorded.

The other process is more dramatic, and it will pan out between now and the end of September. Under changes known in the jargon as ESA10, where ESA stands for the European System of Accounts, what the ONS describes as “improvements” in the national accounts are being introduced. All European Union countries are making the changes, though so too are most other advanced economies, under System of National Accounts changes.

A few days ago, the ONS revealed that changes in the measurement of research and development (the biggest single change), pensions, weapons expenditure and other smaller modifications, will collectively add £65bn, or 4.6%, to the cash value of GDP in 2009. There will be an average GDP boost of 3.6% over the period 1997 to 2009.

On June 30, the ONS will tell us how these changes affect real GDP growth over the 1997-2009 period, and in July it will reveal how the revisions will affect the balance of payments and the different sectors of the economy. In August, new figures will be produced for recent growth, 2010 to 2012, culminating on September 30 with numbers on the new basis that will take us right up to the middle of this year.

The changes will be significant, though we should remember that we are talking mainly about revisions that affect the level of GDP. That is not insignificant. Though separate changes will affect the public finances, the new numbers should make magnitudes like debt to GDP and deficit to GDP ratios look a little better.

Where will the process end up in what it tells us about the economy? Nobody knows, I suspect including at this stage the official statisticians. My guess would be that the recession of 2008-9 will end up being milder than the pre-revised data shows, perhaps a 5%-6% drop in GDP rather than the current 7%-plus.

You may question this, and point to the sharp 2008-9 swing into record deficit in the public finances as supporting evidence. A budget deficit of 11% of GDP does not happen without a huge downward lurch in the economy. Remember, however, that the very mild recession of the early 1990s gave us a budget deficit of 8% of GDP, and the 2008-9 one hit the revenue-generating financial sector squarely between the eyes.

I think we will also see that the post-2009 recovery was stronger than it currently looks. Why do I say this? Because in the context of lacklustre GDP figures (until the past 12-18 months) we have seen exceptionally strong growth in employment and exceptionally weak productivity. Some productivity weakness is explicable, as discussed here on previous occasions. But the idea that the productivity switch was suddenly switched off in 2008 seems highly implausible.

In the 1990s, it took eight years for employment to get back to its pre-recession peak, in the context of 1993-98 GDP growth averaging almost 4% a year. This time it took just over four years – and employment has strengthened significantly since then – despite apparently much weaker growth.

We shall see. The revisions will not alter the fact that we suffered a big economic shock. But they may well mean that at least some of the wailing and gnashing of teeth over “flatlining” and non-existent productivity growth, was misplaced. Whether they will do anything for public and users’ confidence in the GDP figures is another matter. Moving the goalposts, as they say in Brazil, can ruin the game.