The Crash Course - Chris Martenson [61]
Inflation and GDP
Now let’s tie inflation into the GDP story. The GDP that you read about is always inflation-adjusted and reported after inflation is subtracted out. This is called “real” GDP, while the preinflation-adjusted number is called “nominal” GDP. Measuring the real output is an important thing to do, because GDP is supposed to measure real output, not inflation.
For example, if an entire economy consisted of producing nothing but lava lamps, with only one lamp being produced in one year and one of them the next year, we’d want to record the GDP growth rate as zero, because the output, or gross domestic product, was exactly the same in one year as the next. There was no growth in output; only one lava lamp was produced in each period.
However, if one lava lamp sold for $100 in the first year and one sold for $110 the next, we would accidentally record a 10 percent rate of growth in GDP if we didn’t back out the price increase. Remember, we’re trying to measure our gross domestic product, not inflated money flows (that would be a different measure). So in this example, in the second year, the real lava lamp economy has a value of $100, while the nominal lava lamp economy is worth $110. But we only care about the real economy, because what we’re trying to measure and report on is what was actually produced.
Now we’re in a position to appreciate a second powerful reason why DC politicians prefer a low-inflation reading. GDP is expressed in real terms, derived by subtracting inflation from the measured nominal quantities. In 3Q of 2007, reports indicated that the United States enjoyed a surprisingly strong 4.9 percent rate of GDP growth. At the time, there was a fair bit of rejoicing over this unexpectedly robust number. However, what we did not hear very much about was the fact that an astonishingly low inflation reading of only 1 percent was subtracted from the nominal GDP of 5.9 percent, giving us the final real result of 4.9 percent.
In order to accept the 4.9 percent figure, we have to first accept that the United States experienced only a 1 percent rate of inflation during a period when oil was shooting toward $100/barrel for the first time, medical insurance increases were measured in double digits, college tuition went up by high single digits, and food inflation was wracking the globe. What would have happened if a far more believable 3.5 percent rate of inflation had been used by the BEA? Reported GDP growth would have been a somewhat lackluster, if not entirely disappointing, 2.4 percent.
Lest you think that I’ve hand-picked an accidental, one-time statistical hiccup in the GDP reporting series, possibly due to significant one-time events that caused an unusually low 1 percent reading to occur, here’s a chart of the so-called GDP deflator (which is the specific measure of inflation that is subtracted from the nominal GDP to yield the reported real GDP).
As you can see in Figure 13.1, between 2004 and 2008 the clear trend has been for the Bureau of Economic Analysis to systematically subtract lower and lower amounts of inflation from nominal GDP, which doesn’t comport well at all with real-world inflation data over that period of time. Remember, each percent that inflation is understated equals a full percent that GDP is overstated.
Figure 13.1 GDP Deflator
Steadily declining over time.
Source: Bureau of Economic Analysis.
I invite you to keep this in mind when you next read about how “our robust economy is still expanding,” or is “in recovery,” or any other pronouncement about the strength of the economy that relies upon the GDP as its yardstick. That measuring tool is no longer giving accurate or useful readings, due to the effects of imputations, hedonics, and deceptively low inflation readings.
In 2007, I began to trust my own assessment that the United