GDP, inflation and unemployment

GDP, inflation and unemployment

Sayeed Ibrahim Ahmed, lecturer

THE field of economics can be broadly represented by two categories — macroeconomics and microeconomics. While macroeconomics examines the behaviour and performance of the economy as a whole, microeconomics studies individual and firm behaviour in terms of how they allocate their resources within the overall economy. Yet, many economists behave like artists] rather than presenting an unprejudiced representation of a particular scenario, they try to validate most of their ideological biases in the name of economic theories on a canvas.

Most Keynesians are concerned with the overall balance of the economy via maintaining the three pillars — gross domestic product, inflation and unemployment. Even if everything else is going haywire, a positive report based on just these three numbers would have most policymakers and politicians bragging about their unprecedented success.

The new coronavirus has, indeed, pushed global economy past the brink of recession. With orders cancelling left, right and centre, it has managed to hit developing economies the hardest. According to the International Monetary Fund, Bangladesh’s real GDP for 2020 is estimated to be around 2 per cent. This represents a massive decrease in output, with more than 164 million people’s futures hanging in the balance.

But should people start panicking about what the future holds? In the 1930s, Simon Kuznets, a former University of Pennsylvania professor and researcher at the National Bureau of Economic Research, developed the concept of gross national product by using national income accounting. National income accounting used data from the federal government and included the volume of all transactions in an economy over the span of a year. Before this, economists experimented with measures such as railway car loadings, gas consumption, etc to assess the progress of economy, but these parameters were obviously incomplete and very arbitrary in nature.

The GDP was later derived from the GNP, but Kuznets went on record to admit that the GNP does not fully capture all the elements which reflect the welfare of a nation. It was able to accurately forecast a nation’s growth trajectory for a long term, but for short-term forecasts such as like quarter-on-quarter changes, both the GDP and the GNP were deemed inaccurate because of ‘white noise’ and other ‘statistical discrepancies’.

Even if one excludes statistical discrepancies, tracking and measuring the data for millions of households and businesses every day, every quarter seems like a near to impossible task. Imagine trying to track goods transacted across 147,570 square kilometres with 164 million people spread across 64 districts! With a very large informal sector encompassing more than 80 per cent of the working population, is there a particular reason why one should fixate about the accuracy of such numbers in the midst of a crisis? Or is tracking the formal sector enough to quantify how well a nation is progressing? The answers to these questions should seem fairly obvious.

But one measure governments would still prefer to keep in check is inflation. A rise in inflation is triggered by an increase in the money supply or aggregate price levels. The policy interventions undertaken to flatten the curve in terms of poverty amid social distancing has been to ‘print more money’. Quantitative easing would increase the money supply and aggregate liquidity — enabling the Bangladesh Bank to distribute this financial asset to meet current liquidity needs. Nobel prize winner economist Abhijeet Banerjee, recommends ‘printing money’ as a feasible strategy only if it can be used for financing the poor effectively via income transfers. While many might debate about such income transfer schemes, it will help keep the country peddling along as the money continues to circulate within the economy.

While this method of distributing ‘helicopter money’ will most certainly increase money supply and aggregate price level in the short term, the central bank can reduce their policy rate to bring inflation back on track once the crisis is over. Manipulating the policy rate will trigger commercial banks to adjust their lending/borrowing rates which will ultimately boil down to the overall economy by affecting the value of other real assets and the purchasing power of its citizens. Hence, cash flow to the people is what matters immediately until the shutdown ends. Shortly afterwards, we can access how much damage was done in terms of lost jobs, bankruptcy and failed municipal budgets.

The GDP and inflation are figures that average individual will not necessarily bother about. Extreme stress combined with a lack of activity during this involuntary confinement will certainly take a toll on many people. Unemployment figures being constantly on the rise will trigger fear in the average individual’s mind. People are jeopardising their lives to rejoin their factories, convenience stores, bakeries and banks even with the lockdown or shutdown in place.

Unemployment statistics for a country with a very large informal sector are almost meaningless when gauging long-term prospects. They do not necessarily reflect the supply and demand for labour.

Unemployment in developing economies usually means that people have the desire to work but employers cannot provide them with useful tasks or payments in exchange for those tasks. But with the world held captive, this time it really is different. Even if people want to work, they are simply not allowed to in most cases.

The buildings still exist, the majority of the financial capital is still there and the human capital is readily available at the press of a button. If anything, it is only the social aspect of capital that is impaired. But with little acts of neighbourly kindness, one can say that communities are still united, one individual at a time.

To put things into perspective, there are no job ‘losses’. Many employees will come back right away when the lockdown subsides. Although some businesses will not recover, many vibrant enterprises would provide opportunities for those deemed necessary. Unemployment due to the current pandemic is not the same scenario as when people lose their jobs due to a changing technology landscape, foreign competition or industry mergers/acquisitions.

GDP, inflation and unemployment

What keeps most of the people up at night is, therefore, the failure to implement the correct policies on time. Much of the excess capital that still exists in human, physical or financial, would be used up to aid the recovery. A recession would inherently transfer the ownership of businesses and real estate to the ultra-privileged members of society. Although it can be argued that there is no one who is ‘ultra-privileged’ during a long recession, a short and sharp depression like the current one does facilitate for such unequal wealth transfers.

It will become harder for the government to pay back any massive debt obligations with lower after-tax income growth and a low tax-to-GDP ratio. Financial and physical infrastructure problems will mean deferred development in construction projects, mortgage defaults and non-performing loans. This could force the government to increase future tax rates to enhance tax revenue collection, but it will only prove to be detrimental for further economic expansion.

Thus, in an environment where money neutrality holds, changes in money supply will only affect nominal variables like price of goods/services and wages, but real variables like the GDP and unemployment will not be affected. Even if the idea of distributing ‘helicopter money’ with a large informal sector might seem counter-intuitive, the real variables remain largely unaffected in the long run. So, if one was concerned about the detrimental impact of distributing cash on the citizens about how it would represent the country’s economic status, they should now understand that it is fairly trivial.

Putting everything into perspective, we can see that disrupting any of the three pillars in a dire situation will increase the long run prices of products, without significantly increasing the wage levels. Similar to the pathogen, these effects trigger into the economy very quickly and have significant implications in the short term. However, the output in terms of the GDP, the number of people in the work force and the impact of central banks will mostly follow their own growth trajectory in the long run. The economy as a whole will shift wherever these three pillars end up supporting it. The authorities should focus on distributing cash flow to its citizens during times of crisis rather than worry about figures which are mostly based on inadequate data.

Sayeed Ibrahim Ahmed is a senior lecturer in finance at American International University-Bangladesh.

Source : NEWAGE, Link : GDP, inflation and unemployment