Indian GDP, contraction and Nolan's Tenet

This week will have the release of many important data points which will include all the PMI numbers across the globe, it will then be followed by the rate and policy decision in India and the all-important NFP release in the US. From the market impact point of view the PMI data holds little sway even if it is the first monthly indicator to be out. The contraction or expansion of industries or services basically mirrors the anecdotal evidence already on the ground or correlates with other high frequency index which the market is tracking. Monetary policy announcements are also expected well in advance, but the anxiety is more about the soft cues which are hidden in the language of the statement text. Has “confident recovery” replaced the “assured recovery” which was the phrase used last time. One thing which amuses us to no end is that almost all the time the line “future remains uncertain” invariably finds its way in the statement. Isn’t that the basic Tenet of the future anyways? Just an aside here, in the work of Director Christopher Nolan uncertainty is the basic Tenet of even the past not only future.

Leaving Nolan lets come back to the serious business of discussing global market data points. Yesterday the GDP data in India was released which showed the Q4 FY21 number and the complete FY 20-21 GDP figure. The yearly figure showed that the GDP contracted by 7.5% which was the first yearly contraction in close to 35 years. Well that was not a surprise, GDP essentially estimates the market value of all the goods and services which are produced in an economy over a time period (quarterly, yearly etc). A lot of it is dependent on interaction between the people especially the services sector.

For an example if you go to a barber saloon and get a haircut for 1000 Rs you have added 1000 Rs to the GDP but under the lock down if you decided to snip it yourself without any outside supervision that won’t be counted in GDP calculation because no market transaction was done. The GDP shrinks. Similarly, there are umpteen examples where the act of doing it privately without any market sale constricts the GDP. You decide to cook at home rather than going out and having dinner outside, impacts the GDP. At home the GDP calculation would involve your consumption of flour and vegetables, the cost of those materials. At restaurant the bill is the addition to the GDP. The differential is the GDP shrinkage every time you decide to forego the urge to eat out. Readers would start noticing the enigma here that the productive output remains the same (dinner, hair cut) but still the GDP reduces. Even the total amount of money in the system remains the same, my 1000 Rs in your account now, it has just changed the account address.

Our go to text whenever any GDP data is released anywhere in the world is a book by the name The Little Big Number by Stanford Economics Professor Dirk Philipsen where he discusses the story of GDP in detail that is how it became the single most important metric in the economic world. Some of the anomalies which we pointed above are explained in detail by him in the book. Philipsen concludes that fixation can be partly explained by the fact that of all the possible alternatives, the GDP is the easiest to compute and explain. Hence it is easy to target and follow. Market value of all the goods and services produced ultimately produces a tangible number based on which policies can be made. Otherwise it would be very disconcerting to read if the central bank says that we have decided to hike the interest rates as the amount of pure air in the economy has gone down. At least it would be very difficult for commentators like us to write anything with conviction in that case.  

In our future notes we will discuss an important issue which is how to compute GDP and what do we mean when someone says that a certain economy is not working up to its potential. This involves the important concepts about the potential output of the economy and the consequential actions about whether it is running hot or cold and whether it requires outside support (monetary or fiscal).