Changed calculation method ≠ changed economy

Questions on India’s economic real growth on the background of introduction of improved computing method of GDP 

Background

A lot is being discussed about India’s new GDP figures declared by the Central Statistics Office (CSO)for 2013-14 and the improved method of calculating GDP in India.According to the CSO’s latest publication, in the December 2014 quarter, India's GDP grew at 7.5 per cent surpassingworld’s largest and fastest economy of China having 7.3 per cent growth. India seems to be growing ahead of China – at least on paper.

Here are the top 5 states economies in India

Well known is the fact that GDP has a limited purpose as a statistical indicator that only describes and quantifies process of value addition in the economy. The newly invented methodonly does this more accurately. It captures the chain of ‘value additions’ in large segments of the economy previously uncovered. For example retail and wholesale trade activities of informal sector are better reflected in new GDP.

Historically, there are 2 ways of calculating growth – GDP at factor cost and GDP at market price.

GDP at factor cost is the total value of factors of production (land, labor, capital, entrepreneurship) that are consumed / used to produce goods and services in a year.

GDP at market prices is the sum of market prices of all goods and services produced in a year.

An example showing difference between GDP at factor cost and GDP at market price The price paid by consumers for many goods and services is not the same as the price (sales revenue) received by the producer. There are taxes that have to be paid, which place a segment between what consumers pay and producers receive. Thus, if a consumer pays 100 for a meal in a restaurant the owner may receive only 86, the remaining 14 will go to the government in the form of VAT. The term factor cost or basic price is used in the national accounts to refer to the prices of products as received by producers. Market prices are the prices as paid by consumers. Thus, factor cost or basic prices are equal to market prices minus taxes on products plus subsidies on products.So in this example, GDP at factor cost is what the producer receives (Rs 86) Whereas GDP at market price is what consumer pays (Rs 100)

The Central Statistics Office has revised the base year on which comparisons are made to 2011-12 from 2004-05.The specific changes have been made in the following industries:

(a)   Mining and Manufacturing – private corporate performances have been taken into account in the quarterly estimates.

(b)   Trade and other services – use of quarterly information on sales tax and service tax.

India's GDP is now measured at market prices instead of factor cost (to match with internationally agreed standard)

India's GDP is now measured at market prices instead of factor cost (to match with internationally agreed standard)

Currently under the new Modi-led BJP government’s rule, a substantial fundamental reorganization is going on in the way India’s economy is being run and monitored. Firstly, the subsidies and cross subsidies are being lowered. And secondly, GST related reforms in indirect tax structure are expected to alter the difference between GDP at factor cost and GDP at market price (from example above)

As mentioned in the 10-page document ‘FAQs on the new series of National Accounts’ by Central Statistics Office, “the new growth figures are due to the improved method of calculating GDP in India. This new method has enabled growth statisticians to measure manufacturing industry’svalue added activities better, made possible by a new database of corporate balance sheets.”

The merit of this new method is that it is in sync with the developing economy of India, where one observes improvement in the per unit value addition rather than in growth of volume. This is due to the changing structure of economy and other technological changes. For example, as production moves from generic to branded goods, physical production may not change but the value added can increase. The new GDP calculation method is now more sensitive to changes like product innovation and quality improvement

Is the increase in production volume of less importance then? As CSO has put it, “there is growth in value added but it is accompanied by slow growth in production volumes, which is a matter of concern.”

So let’s unanimously agree for now that there is modernization in GDP calculation method which offers a more accurate picture of the economic activity of India.

Doubts about the new GDP figures remain, however, as the ground reality shows Indian economy is still struggling with capital formation and foreign investments.

Measuring India’s economy is not an easy task; an economy soexpansive and one that constitutes vast informal sector as a key growth element.A huge share of India’s GDP is produced by individuals and small enterprises that do not pay taxes and are not registered with the government.

“At the global level, India is not the only or first country to get a higher GDP figures by just changing the way it measures it. Nigeria last year was declared the biggest African economy after it scaled up its 2013 GDP estimate by a whopping 89 percent. Back in the 1980s, Italy overtook Britain as the world's fifth-largest economy after reevaluating its GDP to include the informal sector.”

Conclusion-

So the new GDP figures are just the improved revision, and do not in any way imply that Indian economy’s growth rate has surged as a seeming result of BJP’s 90 days miracle. Till the confusion regarding GDP data gets cleared, let us not fool ourselves by linking Modi-led big economic reforms to the new GDP figures. And certainly not assign any credits to Modi’s legitimate dream of making India’s GDP $ 20 trillion from the current $ 2 trillion –as the cause of new GDP figure.

Bibliography-

·         FAQs on the new series of National Accounts by Central Statistics Office

·         Press note on advance estimates of national income 2014-15 and quarterly estimates of gross domestic product for the third quarter (Q3) 2014-15 by Central Statistics Office.

·         http://www.bloomberg.com/news/articles/2015-02-10/no-1-for-now-india-s-new-gdp-data-join-global-revisions

Meenal Inamdar, 

Independent paper for GreenEarth Social Development Consulting