Economics: A Postmortem Necessary

Is Recession a Lie?                       by Sophia Barkat

I'm still commenting on Hall and Taylor, Macroeconomics, 3rd Edition -- standard Intermediate-level Macroeconomics text in college.

Topic: Real GNP Growth & Recession -- The lie exposed.

Abstract: The paper illustrates that Real GNP is just another way to add apples and oranges, and is a meaningless act as such.

It also shows that Economists have deliberately lied to the public about what a recession is, using simple graph tricks and making one wonder if recessions are not fictitious.

 
The Paper:

In Part One of this series we talked about how GNP was an accounting trick that central banks and policy makers in Government used to show people that the economy was faring better or worse, while key issues and problems remain unresolved. It is a distraction, at best, from what citizens expect of the State and what the State wishes to deliver.

Such sums did not expose any real information about business processes and could, therefore, not be taken seriously.

In this paper, I introduce you to Real GNP. It's the "Nominal" GNP, or GNP as we know it that has been divided by "some indicator" of inflation.

I say "some indicator" because inflation or increase in prices of goods and services can be measured in many ways. Economists tend to go with some "basket" of goods and services when they do this -- apples, oranges, cars but perhaps not rockets. Changing the basket can change the calculated value of inflation.

While it is assumed that for scientific accuracy, Economists at the Federal Reserves would keep the basket of goods and services the same, one wonders exactly how such calculations are made and if the "basket" remains unchanged. Central Banks such as the Federal Reserves Bank are largely opaque, though ex-Feds can be counted on releasing information from time to time in books and such, and they do.

In any case, Real GNP = GNP / inflation indicator.

And the chosen Inflation Indicator is often the Consumers Price Index or CPI.

That's Real GNP. Much importance is given to it in Economics, because it is admitted by economists to be a better approximation of the sum total of all products. Clearly, the sum is an obsession for people in this field.

In any case, it's assumed to be more important a measure of wealth than GNP as the growth due to price increase of "the basket" has been removed from the calculation.

After all, you want to know how many more products you had today than a year ago. Not how much more they are worth in dollars the basket cost.

By making the basket a close representation of what people consume, we achieve the best measure of inflation and hence of the Real GNP. And conversely, the less closely our basket mimics all goods and services, the less meaningful it is to use it as an indicator.

One may wonder if the "basket" used is good enough an indicator. One may also wonder how changing the basket will add it's own error or correction to the calculation of inflation.

Now that we know what Real GNP is and all constraints on it, we would like to see how Real GNP changes over time to understand "economic growth" as defined in Economics -- the rate of change of Real GNP or GNP or GDP or Real GDP.

Up until recently, we used GNP. Now GDP is marketed as the "best indicator".

It's all the same though -- like wearing a raincoat on a sunny day. To wear the blue one or the red one is the question.

Using a meaningless Sum and then misrepresenting facts further.

If you refer to Figure 1-1 of Hall and Taylor, Macroeconomics, 3rd Edition, you'll find this graph.

(See FILES section of Juryfury Chat for a folder titled "FIGURES, TABLES, GRAPHS. It will be the file labeled, "Hall-and-Taylor-Fig-1-1".

If you look carefully at the horizontal axis, or TIME axis, you'll see the intervals between one year and the next are equal. If you look at the vertical axis or the GNP axis, you'll see that every increment of 400 billion dollars is represented by a smaller and smaller height.

This kind of graph is called a logarithmic graph. It won't show a linear relationship between GNP and TIME, though a first impression of the graph is that GNP increased steadily - constant slope - every year with some anomalies shown by the dotted lines.

However, this is a wrong conclusion. The logarithmic vertical axis suggests we should interpret the graph this way:

If vertical axis or Y = log of Real GNP

then e^Y = Real GNP

(Y is the power of e, e = natural base, see more about "e" and natural logs in Boscott and Chandler, Pure Mathematics)

Why do I introduce mathematics into such discussions? You'll see that much of Economics misuses mathematical concepts and that a real critique of Economics must involve a clear understanding of mathematical concepts in order to expose the fallacies.

Now, if you look at the graph again, you'll read what's said in the footnotes of the curve, namely that, "The black lines showed what real GNP would have looked like if it had grown smoothly during the period instead of fluctuating as it did."

We have already shown that Real GNP was not growing steadily but that Log GNP or Y was. So, you see that the book is misleading us on purpose. In fact, the goal of the book is to show that actual Real GNP and steady Real GNP differ. That this difference is a recession or boom -- or positive or negative growth.

As such we see that a recession is an aberration from the steady value of Real GNP. We can ask the question what is this steady value if it's not actual values. Clearly, it is some kind of model generated value. However, the topic of so-called steady Real GNP is a red herring -- it will make us think about how such projections should be made and deter us from investigating actual flaws in the interpretation of data of actual GNP growth.

Let's focus on what a recession or boom is according to the book, and let's see if they are significant enough to be taken seriously, in the manner economists would have us.

If you recall rules of adding exponents in mathematics,

Rule A: when you multiply two exponential number of the same base, you add the powers

Rule B: when you divide two exponential numbers of the same base, you subtract the powers.

Rule C: when you add or subtract two exponential numbers you do not add or subtract powers.

(refer to Bostock and Chandler, Pure Mathematics)

then you see,

that if the difference between actual Real GNP and steady Real GNP is denoted by dY, then

dY = actual Real GNP - steady Real GNP

and since, actual Real GNP = e^{Y + dY}

and steady Real GNP = e ^Y

then dY = e ^{Y + dY} - e^Y

On our case, we know that Y is measured in hundreds of billions of dollars (look at Fig 1-1 for this) and so, we can safely say that:

e^{Y +dY} is approximately equal to e^Y

as dY gets smaller. Thus, the concept of recession is an exaggeration that can only be shown by trying to turn the axis linear.

In fact, this implied that actual Real GNP and steady Real GNP are the same.

The Fig 1-1 however might hoodwink us into thinking there is significant aberration and we think recession is significant enough to be worried about.

Perhaps, we should ask see how actual Real GNP changes over time without a logarithmic graph to expose how insignificant dY really is.