Is GDP data a reliable way to measure the health of the economy?

News: There are serious problems with India’s GDP data. Any analysis of recovery or growth forecast based on this data must be discarded.

The primary yardstick analysts use to measure the economy’s health is GDP. The RBI and multilateral agencies use GDP statistics to make claims about the future growth path.

The NSO released the current GDP series in 2015, using 2011-12 as its base year. Since then, the new series has been involved in controversy.

Scholars have pointed to measurement issues, both in the nominal and real GDP growth rates. Yet none of those issues has been addressed. As a result, the measurement errors still persist.

Why the GDP data, as a measure of economic recovery, is questionable?

First, the issue of Double deflation.

The NSO calculates real GDP by gathering nominal GDP data in rupees and then deflating this data using various price indices. The nominal data needs to be deflated twice. Once for outputs and once for inputs. But the NSO, deflates the nominal data only once. It does not deflate the value of inputs.

How it affects GDP numbers: Consider the following scenario. For instance, when the price of imported oil goes down, input costs will fall and the profits recorded by Indian firms will rise. Since NSO doesn’t deflate away the increase in profits, it records a purely nominal increase as a real increase in GDP. Thereby, it ends up overstating growth.

Similarly, in the opposite scenario, when the oil price rises, the growth rate could be underestimated.

Some have argued that the deflators were improved in the new series by shifting to the CPI. But the fact is that in many cases, the WPI (the cost of inputs is measured by the WPI) is still used for deflation.

Second, NSO has not updated the sectoral weights.

When NSO calculates GDP, it takes a sample of activity in each sector, then aggregates the figures by using sectoral weights.

To make sure that the weights are reasonably accurate, the NSO normally updates them once a decade.

It has now been more than 10 years since the weights were changed, and there are no signs of a base year revision.

As a result, the sectoral weights are still based on the structure of the economy in 2010-11. The fast-growing IT sector is being underweighted, which implies that GDP growth is being underestimated.

Third, NSO has not made any adjustments to its methodology for estimating the growth of the unorganized sector.

Usually, to estimate the growth of the unorganized sector, NSO assumes that the sector has been growing at the same rate as the organised sector.

However, starting in 2016 the unorganised sector has been disproportionately impacted by a series of shocks. For example, demonetisation, the implementation of GST, the problems in the NBFC sector, and the Pandemic. All these have severely impacted the unorganised sector more than the organised sector.

Source: This post is based on the article “Is GDP data a reliable way to measure the health of the economy?” published in Indian Express on 4^th   Jan 2022.