What GDP isn’t telling you…

What GDP isn’t telling you…

The nation was left stunned last week after the government dropped the official GDP figures for the first quarter of 2020-21. Even though it was understood that the GDP was going to contract, but what came as a surprise was the sheer intensity of contraction. While most economists had pegged the GDP to be dropped by around 15%, the actual GDP shrank 23.9% compared to last year.
While GDP and some other financial terminology have become a part and parcel of our lives, I wanted to use this post to delve a little deeper into understanding if GDP of a nation represents the complete economic health of the country.
So, let’s get into it…

Gross Domestic Product:

The most commonly used acronym in Economic, GDP, stands for Gross Domestic Product. In the simplest terms, GDP is the total monetary value of final goods and services produced in a country. The final goods and services refer to those that are bought by the end-user. For instance, a product manufactured in a factory may exchange a number of hands before ending up with the end customer, but only the final purchase made by the end customer is considered in GDP metrics.

GDP has become widely used as a reference point for the health of national and global economies. For low-income or middle-income countries, high year-on-year GDP growth is essential to meet the growing needs of the population. Hence, the GDP growth rate of India is an essential indicator of the country’s economic development and progress.

As the prices of items keep rising and the purchasing power of the currency decreases almost every year due to the phenomena called inflation, the increase in GDP might not indicate a proportionate increase in production. In order to tackle this, the GDP numbers that we hear in the news tend to be the Real GDP – the value of all goods and services produced by an economy after adjusting for inflation. The gross domestic product evaluated at current market prices is called the Nominal GDP. For better clarity, let’s consider the following example:

An economy produces only one product in 2019 with a unit price of Rs. 100. The GDP in 2019 is Rs. 180 crores. The price of the product rises to Rs. 120 in 2020 and the nominal GDP increases to Rs. 240 crores.

Total units produced in 2019 = 180cr / 100 = 1.8 crores
Total units produced in 2020 = 240cr / 120 = 2 crore
Real GDP of 2020 = Rs. 100 x 2 crores = Rs. 200 crores
(considering 2019 as the Base year)

So, GDP growth from 2019 to 2020 is 11.11%

Impact of COVID-19 on the GDP:

Perhaps, this crash course on GDP was important before we discussed the deadly impact of the pandemic on our GDP. Last week, as per the provisional estimates released by the Ministry of Statistics and Programme Implementation (MoSPI), India suffered its worst fall on record in the April-June quarter, with the GDP contracting 23.9%. Indian Economy, which saw one of the most stringent lockdowns, has shrunk the most amongst major economies and as tweeted by Gita Gopinath, Chief Economist at the International Monetary Fund (IMF), is the steepest among the G20 countries. Since different countries have a different system for GDP measurements, in order to compare apples to apples, the following infographic by shows a YoY GDP growth for the quarter ending June for all major economies (G7 countries, India and China)

With the dismal performance of the overall GDP, some of the sectors have been even more deeply affected these past few months. Construction was the worst hit sector with Gross Value Added (GVA) down by 50.3% compared to the quarter last year, which may not be all surprising considering the labour migration, several restrictions imposed by the central and state governments and major cash-flow problems faced by contractors and developers. The only thing offsetting this gloomy outlook was the Agriculture sector, which owing to the bumper harvest season, managed to grow at 3.4%. For a more detailed view, the following table shows the industry-wise GVA as released by the MoSPI.

The Informal Economy:

The informal economy is the economic activity that falls outside the regulated economy and tax system, such as street vending. Sometimes referred to as the “Shadow Economy”, the activities associated with the informal economy should not be construed as illegal or unethical but in fact these are activities that are on such small scale that the government does not tax the income generated from these activities. As the people or companies engaged in the informal economy usually operate on a small scale, there are no official statistics available. And since there is no comprehensive data, we have to extrapolate from surveys and case studies which involve a multitude of inconsistent concepts and terms.

As per the National Accounts Statistics, 2019, the share of formal and informal sectors to GVA has been depicted below:

With the unorganized informal economy accounting for over half of India’s GDP, it employs nearly 90% of the country’s workforce as per various surveys. Since there are no official statistics, any dramatic changes in this huge sector don’t show up in the current GDP statistics, leaving us to question if the official GDP figure can be used to represent the real picture of our economic health. The informal sector has already been hit hard by the economic downturn and much of it may not be recorded in official statistics.

Even in the pre-COVID period, the informal sector was reeling under shocks from demonetization and a poorly rolled out GST. While the objective of the GST reform and demonetisation was laudable, its hasty implementations have negatively affected the informal economy. With supply chains cut off for weeks and manufacturing units shut down productions, the informal sector must have faced a huge blow due to the lockdown, given that this sector does not have many cash reserves to rely on during the times of crisis.

So the question remains, is 23.9% contraction an apt figure to depict the impact of the pandemic on our economy or is the real picture even more ghastly?

Recommended Reading…
Raghuram Rajan, former RBI Governor, shared his thoughts on the actions that the government should take in order to help the falling GDP. Its a short and an insightful article. Definitely a must read…


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