Re-writing Economic History with a Substantive Change to the GDP formula

The Bureau of Economic Analysis’ (BEA) report of Gross Domestic Product (“GDP”) is one of the most commonly used indicators of economic health.  It measures the total value of all finished goods and services produced in the U.S. within a specified period (normally a year).

In July that number is guaranteed to go up, yet this may not mean much. While notable to those interested in such topics, the expected 3% larger size alone does not represent the positive signaling it otherwise might.  This is because this bump is coming from a change in the formula rather than real growth.

The major changes in definitions and classifications in this comprehensive revision are as follows:

  • “Recognize expenditures by business, government, and nonprofit institutions serving households (NPISH) on research and development as fixed investment.
  • Recognize expenditures by business and NPISH on entertainment, literary, and other artistic originals as fixed investment.
  • Expand the ownership transfer costs of residential fixed assets that are recognized as fixed investment and improve the accuracy of the associated asset values and services lives.
  • Measure the transactions of defined benefit pension plans on an accrual accounting basis by recognizing the costs of unfunded liabilities and showing the pension plans as a subsector of the financial corporate sector.
  • Harmonize the treatment of wages and salaries by using accrual-based estimates consistently through­out the accounts.”

In order to preserve the usability of the data, the updated items will not be included as a one time surge.  Instead, the change will be backward implemented to 1929, so that year on year comparability is maintained.

While this change will represent an overall rise to the economic measurement statistic and allow greater international comparability, the most notable difference may be how it affects previously reported comparisons between various domestic geographic areas.  For instance, states with a large military R&D industry will see more improvement, while other areas might not change much at all.  This type of altered view of the U.S. economy and catalysts for its growth can foreseeably impact future policy decisions and resource allocations.  It will also impact many forecasting and business valuation exercises which consider expectations for overall economic growth.

Information regarding the underlying GDP formula and additional discussion exists in this article.


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