Dr Bharat Jhunjhunwala
The Government has announced that India has become the world’s fastest growing economy with the GDP growth rate having reached 7.5 percent in the last quarter of the previous financial year, that is, January to March 2015. The claim is suspect because other indicators of growth do not support such a rosy picture.
GDP or “Gross Domestic Product” is essentially a measure of the size of the economy. How would we measure the size of a farm? We would look at the amount of various production activities undertaken there. One, the vegetables and grains that were produced and consumed by the farmers’ family. Two, the grains that were produced and sold in the market. Three, the investment made in, say, a shed for the cattle. Four, the amount of grains and other items produced on the farm and sold in the market. These all would consist of the “production” that is done at the farm.
GDP of a country is calculated similarly. The statisticians estimate the amount of goods consumed by the citizens of the country. They undertake surveys to find out how many pairs of clothes, cars, TVs, furniture, vegetables and other items are consumed by an average family. This includes consumption of services such as movies, computer games, tourist visits, cricket matches, restaurants, etc. The consumption undertaken by a family is multiplied by the number of families in the country. That gives an estimate of the total amount of goods produced and consumed in the country.
Two, an estimate is made of physical investments made by businesses in factories, offices, cars, etc. The Ministry of Statistics compiles this data from the Balance Sheets of the companies and through surveys. This gives an estimate of the goods produced in the country for the purposes of investment. Three, the consumption done by the Government is estimated. The money spent in making highways, defense equipment, and radio stations is calculated. These too are things that are produced in the country and add to the size of the economy.
Four, the value of goods that are exported is calculated. These goods are produced in the country but are not captured in the consumption and investment figures mentioned above. They are added to GDP because they were produced in the country. On the other hand, value of goods that are imported is subtracted from the GDP because these goods were not produced in the country even though they were consumed in the country. A family may buy a dozed Washington apples. The value of these apples would get included in the estimates of consumption arrived at through surveys as indicated above. But these apples were not produced in the country. Hence their value cannot be added to the production estimates. Thus, the imports are deducted from the GDP estimates. Finally, GDP is the total of consumption, investment, Government expenditures and net exports. This gives an estimate of the size of the economy.
Estimation of each of these items is made by first making a list of items to be included for assessment. Let us say shoe is an item of consumption included in the list. Then the number of shoes consumed by a family is estimated. Then the cost of production of the shoes is estimated. The GDP is arrived at by multiplying the number of shoes, the cost of shoes and number of families in the country.
The Government has revised the methods of calculating GDP recently. This is a normal procedure. The items consumed by a family undergoes change with time. Twenty years ago there was no consumption of mobile phones. The GDP arising from consumption of mobile phones today would go unaccounted if we had continued to work on the list of items of consumption made in, say, 1995. Therefore, the Government updates the list of items consumed every five to ten years. A new list of goods is made. GDP figures can be inflated if fast-growing items like mobile phones are given more weight and slow-moving items like bicycles are given less weight.
The GDP was estimated on the basis of “factor cost” till now. “Factors” are the raw materials used in manufacture. The “factor cost” of shoes would include the value of leather, threads, adhesives, and laces that go into the production of shoes. The price at which the shoe is sold in the market is not considered in factor cost. The Government has now changed the basis to “market price” that is the international standard. This means that the price at which the shoe is sold would be taken for estimation of GDP. Obviously this would be much greater. And there is considerable flexibility is determining the “market price.” Government officials can determine higher market price than that is actually prevailing and thereby artificially increase the GDP estimates. Such stratagems appear to be adopted by the Government in pushing up the GDP figures and claiming a 7.5 percent growth rate for the last quarter. I say this because other economic indicators indicate a downward movement.
One, RBI data indicate that in 2014-15 non-food bank credit increased by just 8.9 per cent in April 2015 as compared with the increase of 14.2 per cent in April 2014. Growth in loans given to industries declined to 6.4 per cent from 12.3 per cent in the last year. Two, many large companies in the BSE Sensex have declared a drop in their profits in the last quarter. For example, L&T, Sun Pharma and Mahindra & Mahindra have reported a decline in net profits of 27%, 44% and 39% respectively. Knowledgeable sources indicate this is a widespread tendency.
The services sector contributes about 60 percent to the GDP. Within this the contribution of government services such as police and defense is an important part. The growth of government services has declined to 0.1 per cent in January to March 2015 against 19.7 per cent in October to December 2014. The Government has embarked on a policy of cutting expenditures to control fiscal deficit. Logical result is that growth rate in the provision of government services has declined. Other indicators of the economy point in the same negative direction. Therefore, the growth rate of 7.5 percent announced by the Government is hugely suspect. The growth rate for October to December 2014 was revised downwards to 6.6 per cent from 7.5 per cent. It is quite likely that the growth rate for January to March 2015 will meet the same fate. Finance Minister Jaitley should understand that economy cannot be pulled by pep talk. Correct policies are desperately required.
(The author was formerly Professor of Economics at IIM Bengaluru)
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