Y = C + I + G + NX and the GDP Bull Crap Numbers
As usual I and millions of other Americans are getting tired of these phony GDP numbers telling me the economy is just grand. Unlike most people who can only complain I happen to be a overeducated American who can figure out where the bull crap is. It was not that difficult to figure out. In case anyone missed the news flash the government is spending way too much money. Here are the numbers.
I did a simple evaluation of the Gross Domestic Product (GDP) numbers comparing the 2005 economy to the 2010. Back in 2005 the economy was in year three of the five-year housing boom. Government spending from the Bush administration was in full swing with two wars and Homeland Defense spending.
First the equation Y = C + I + G + NX means Gross Domestic Product (GDP) = Consumption (C) + Investment (I) + Government Spending (G) + Exports minus Imports (NX).
The equation was developed by Simon Kuznets and first used in 1934. It is often mistakenly associated with John Maynard Keynes who wrote the “General Theory of Employment, Interest and Money” in 1936 which advocated government intervention into the economy. Because the equation makes government equal to consumption and investment it justifies the Keynesian government intervention approach to the national economy. Simply put the two fit together perfectly to justify big government spending for both economists and politicians.
The fallacy of the equation, Austrian economist have been pointing out for years, is that consumption, investment, and government spending are NOT equally as important for economic growth and prosperity. The idea of a model to measure national prosperity is preposterous to most Austrian economist.
Government has a negative effect on the economy. That is not to say we don’t need peace and stability, we do. But we defiantly do not need more than 11% to 20% of the federal, state and local governments consuming national wealth.
The Austrian economist might rewrite the equation as Y = C + (1.05) I + (-0.05 to -0.10) G + l NX l placing a absolute value on imports minus exports portion of the equation.
To a Austrian trade always balances out. We give IOU’s for our trade deficit. If the recipient of the IOU does not want reciprocating trade in return then good luck with the financial instrument and may the buyer beware.
Some economists would argue that the United States has, in recent years, been able to print $6 to $7 trillion dollars (the official number is $4.5 trillion) and export them (and our inflation) to foreign countries in return for goods and services. These foreign countries have used these dollars as reserves. This is a very inflationary policy, consuming another countries paper dollars and exporting goods produce by the home country. Let the buyer beware.
The Austrian fix to the equation, Y = C + (1.05) I + (-0.05 to -0.10) G + l NX l, would increase the importance of investment into the economy. Savings and investment, as opposed to printing dollars and stashing them away for future use, is what determines future economic performance, not central government and banking decisions.
Negative emphasize would be placed on government spending to show that for every 10% of government growth the economy loses one half to one percent in annual GDP growth. Ohio State economists estimate that the optimal level for federal spending should be around 11% of GDP. Currently, 2011, it is estimated to be a staggering 24.1% with revenue collection at of 15.4% of the GDP. With a healthy economy 18% revenue collection is typical.
Applying a little common sense to the calculation makes the medicine go down so much better. Austrian economist do not believe in models but this one makes a lot more sense than the one currently used.
Really what economist, other than Paul Krugman, think the government contribution to the GDP is anywhere near as important as private sector investment into the economy?
Getting back to the task on hand look at year 2005 verses 2010. Taking out all numbers and looking strictly at the percentages of the variables of the GDP and how they have changed in such a short period of time. We will use Simon Kuznets equation as is.
In 2005 the equation was, using percentages to make it as clear as possible, 100% GDP = 68.7% (consumption) + 17.3% (investment) + 20% Government spending + (- 6% imports minus exports) or
2005 GDP 100% = 68.7% + 17.3% + 20% + (-6%).
Note that because of a negative trade balance this equation subtracts from the GDP and considers the imbalance “bad” for the national wealth. This economic philosophy dates back to the mercantilism economic philosophy of the 18th century.
Compare 2005 to the 2010 numbers.
2005 GDP 100% = 68.7% + 17.3% + 20% + (-6%).
2010 GDP 100% = 67.6% + 11.5% + 24.1% + (-3.2%).
Consumption decreased 1.1%. That is fine but, the stunning fact is investment as a part of the GDP numbers has decreased from 17.3% to 11.5%. This is a staggering 33.5% decline in investment as a percent in the GDP equation. Clearly there was over investment caused by Federal Reserve Chairman Alan Greenspan’s cheap money policies. Normally investment is 16% of the GDP.
Government spending has increased from 19.9% of the GDP to 24.1%, an increase of 21.1%.
In numerical terms investment has declined from $2,276.3 (billions) to $1,796.7. Government spending has increased from $2,634.6 bn to $3,778.8 bn. This is the exact opposite of what should be happening for our economy to provide long term growth and a positive standard of living.
Looking at it another way just looking at consumption and investment the GDP has gone from $11,314.8 bn to $12,380.0 bn. This represents a growth rate of 9.4% over 5 plus years or a growth rate of 1.9% annually. Not even enough to keep up with the population growth. Compare that to a bloated 19% growth rate in the GDP numbers when government growth is included or a 3.8% clip.
So it is stating the obvious that government spending is way up and investment is way down. What is so devastating is that when inflation rears it’s ugly head and the government cannot borrow trillions of cheap dollars to prop up the Y = C + I + G + NX equation the economy will drop like a rock.
Half of our GDP growth in recent years has been the government borrowing, printing cheap dollars, and spending them.
Borrowing money from the Chinese, so government can spend it, so people can buy Chinese products, does not help our economy, it just adds debt.
We can clearly see it in the sharp reduction in domestic investment into the economy. We can see it with the ballooning government spending and deficit. What this is saying is that when that money bubble, government spending bubble, burst this economy will crash HARD!
We have followed the path of the Weimer Republic of Germany in the 1920’s of financing government expenditures with borrowed dollars. It’s that simple. Sooner or later the rest of the world will figure it out that we have way too many dollars in circulation and they will divest themselves from the dollar.
When that happens the dollar will fall, imports become more expensive, inflation will ruin rampant, government unions will demand more raises, government will print more money to pay the unions and provide more bailouts, and the vicious cycle will have begun. It will all be one big emergency after another. Inflation, misery, poverty and the perfect conditions for a Hitler, Stalin or our american tyrant to gain power.