Tuesday, February 3, 2009

GDP Growth? Or Not?

The way that GDP is reported by our government always frustrated me. The calculation of GDP includes government spending. What this means is that it's possible for the government to borrow money and "create" GDP out of thin air. This is why fiscal policy is so important to the economy.

So, does the government influence GDP with fiscal policy? Of course. I'd like to focus on the most recent Bush administration. During the last 8 years, the economy grew at a small but pretty even rate. However, at the same time, we ran record deficits. So, did the Bush administration create a growing GDP by borrowing money on the US taxpayer's good name?

The graph above shows 3 lines. The blue line is the official reported GDP adjusted for inflation. The red line is the government account deficit/surplus. If the red line is above zero, then the government ran a surplus. If the red line is below zero, the government ran a deficit. The green line is GDP minus the government account deficit.

Note that when the government runs a deficit, corrected GDP is lower than reported GDP, because the government is borrowing money to stimulate the economy. When the government runs a surplus, the corrected GDP is higher, because the government is taking money out of the economy, via taxes, and paying off government debt instead of stimulating the economy.

There are some interesting things to note. During the late nineties, the economy was roaring on its own, as much as seven percent, while fiscal policy was paying off government debt. This would tend to show the Clinton years as stronger economically than some would like to admit. During the first and second Bush administrations, the government tended to borrow enough money to keep GDP positive. This leads me to believe that the economy grew very little on its own during the Bush administrations.

I should hope that Obama can learn from what is shown here, and implement sound economic policies that grow the economy, rather than deficit spending to cover up a bad GDP.

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