We've had a lot of fun over the last month and a half diving into GDP revisions, where we were the first ones ever to try to use brand new series of data from the Bureau of Economic Analysis on the Domestic portion of the U.S. GDP to anticipate what changes would be in store for the BEA's big annual revision of the nation's total Gross Domestic Product.
What is the Domestic portion of the U.S. GDP? It is the part of the nation's GDP that is generated only within the domestic territory of the United States, which includes the 50 individual states and the District of Columbia.
It differs from the nation's total GDP mainly in that it does not include the contribution to GDP from Overseas Federal Military and Civilian Government Activities. If not for things like fighting wars in foreign countries, which we think is the predominant contributor to that source of GDP, followed to a lesser extent by things like renovating U.S. embassies abroad, or to a much lesser extent, by things like U.S. state department officials handing out grants to fly foreign filmmakers to Los Angeles to attend training classes at UCLA so they could "become acquainted with American culture and American values", which, while wasteful, likely does perversely contribute to U.S. total GDP.
It also differs slightly because of the methods the BEA uses to calculate domestic GDP, which subtracts intermediate outputs from the nation's gross productive output. Total GDP is typically calculated using an expenditure approach, which is calculated as the sum of the nation's consumption, investment, government expenditures and net exports. In theory, the two approaches should lead to the same figure, but differences in the imperfect data series used to calculate each will lead to noticeable differences in results.
As we'll demonstrate, the contribution of GDP from overseas federal military and civilian government activities to the nation's total GDP is highly significant. In our first chart, we've animated the "Before" and "After" amounts of nominal GDP reported by the BEA for both the Domestic portion of the U.S. GDP (that for the 50 states plus the District of Columbia) and the nation's total GDP (including overseas), in each quarter from 2012-Q1 through 2015-Q3, which covers the period in which GDP was revised the most from previously published figures.
To help keep track of the action for each data series, we identified the applicable dates that apply for the "Pre-Revision" data and the "Post-Revision" data. For the Domestic portion of GDP, the pre-revision date reflects the data that was published by the BEA on or before March 3, 2016, which was subsequently revised on June 14, 2016, marking the post-revision date. For the national-level GDP data (including GDP generated overseas by the U.S. government), the pre-revision date is June 28, 2016 and the post-revision date is just over one month later, on July 29, 2016.
As you can see in the Before and After snapshots of the U.S. nominal GDP data, there was a small upward revision in total GDP in the period from 2013-Q1 onward, and a very significant downward revision in domestic GDP, which was limited to the period between 2012-Q2 and 2014-Q2.
Since the domestic GDP data was revised over a month and a half earlier than total U.S. GDP, we hypothesized that it might be signaling that the U.S. total GDP was in for a similar downward revision, reasoning that revision would be the foundation for the total GDP revision coming at the end of July 2016. And since that data series is virtually brand new, where the BEA has only just recently started published data for quarterly domestic GDP on a regular and more timely basis, we're confident that no one before us had ever thought to try it out.
We recognized that the only thing that would affect whether that outcome would hold would be how the contribution of Overseas Federal Military and Civilian Government Activities to total GDP would itself be revised, and outlined three scenarios for how that single factor would affect the total GDP revision coming on July 29, 2016.
- If that contribution is greater than what the BEA has previously indicated, the amount by which real GDP through 2015-Q4 will be adjusted will be smaller. So instead of being reduced by 1.1% as we've projected to be "most likely", it would instead be reduced by a smaller percentage, or in the very unlikely case that contribution is much, much greater, real GDP through 2015-Q4 could be adjusted upward. For this scenario to occur, it would mean that the U.S. government was much more engaged in fighting wars overseas in a way that adds to the nation's GDP than it has previously indicated. This is the "under" scenario.
- If that contribution is less than that the BEA has previously indicated, the amount by which real GDP through 2015-Q4 will be adjusted downward will be larger, going in the direction of what we calculated would be the maximum likely revision. For this scenario to occur, it would mean that the U.S. government was engaged in less "productive" military and civilian government activities overseas than it has previously indicated. This is the "over" scenario.
- If the contribution is the same as what the BEA has previously indicated, then we'll see the "most likely" scenario we calculated be the actual result. Real GDP through 2015-Q4 would be decreased by about 1.1% from the level that was recorded earlier this year on 29 March 2016. This might be considered the "null" scenario.
If you looked at the Before and After pictures for the nominal GDP data, you already know which of these three scenarios won out, but we think it's easier to see the answer in the Before and After revision pictures for the real GDP data.
The "Under" scenario won out, as the contribution of Overseas Federal Military and Civilian Government Activities to total GDP was itself revised dramatically upward. Not only did it completely offset the large negative revision to domestic GDP in the period from 2012-Q2 through 2014-Q2, but it added an extra amount above and beyond that amount to these quarters and also from 2014-Q2 through the present.
For the period from 2012-Q2 through 2014-Q2, the BEA's July 29, 2016 revision makes clear that much of the GDP that it had previously attributed to domestic GDP, meaning that they had previously indicated was generated within the 50 individual states and the District of Columbia, was instead generated from things the U.S. government did outside the nation's borders.
And then, it generated even more GDP outside the domestic territory of the U.S., contributing to the overall upward revision in the nation's total real GDP.
That discrepancy between the U.S.' total GDP and its domestic GDP also helps explain something that has become increasingly obvious - GDP is increasingly becoming less relevant and useful as a measure of the economic welfare of Americans living inside the 50 U.S. states and the District of Columbia. To the extent that Overseas Federal Military and Civilian Government Activities is boosting total GDP, it is contributing to a somewhat misleading picture as to the state of the economy that U.S. residents are actually experiencing.
For the bottom line, our hypothesis that the U.S.' total GDP would be revised downward proved to be wrong, which is great news! We put out a hypothesis, subjected it to a real-world test, and the real world showed us that how the BEA's domestic GDP is revised is itself not necessarily a good predictor of how total GDP will be revised when that is done a month and half later. In that process, we advanced our own knowledge and hopefully added to the body of knowledge for the field by sharing our progress and also by emphasizing the mistakes we made along the way in an entertaining fashion.
Here's all the data you'll need to replicate our results, including the pre-revision data that you'll need to reconstruct what the "Domestic" portion of U.S. GDP looked like before June 14, 2016, which is something that has so far proven too difficult for a lesser analyst to even attempt, but which should be within the ability of any sharp high school student who's passed algebra.
- U.S. Bureau of Economic Analysis. Quarterly Gross Domestic Product by State, 2005-2014 (Prototype Statistics). Table: Current-Dollar GDP by State, 2005-2014. (Excel Spreadsheet). Table: Real GDP by State, 2005-2014. (Excel Spreadsheet). September 2, 2015.
- U.S. Bureau of Economic Analysis. Quarterly Gross Domestic Product by State, 3rd quarter 2015. Release Tables. (Excel Spreadsheet). March 3, 2016.
- U.S. Bureau of Economic Analysis. Quarterly Gross Domestic Product by State, 4th quarter 2015. Release Tables (Excel Spreadsheet). June 14, 2016.
- U.S. Bureau of Economic Analysis. Regional Data. GDP & Personal Income. Quarterly Gross Domestic Product (GDP) by State. GDP in current dollars. All Industries. United States. All Years. (Interactive Application). Accessed July 27, 2016. Note: Includes Estimate for 2016-Q1.
- U.S. Bureau of Economic Analysis. National Data. GDP & Personal Income. Section 1 - Domestic Product and Income. Table 1.1.5 Gross Domestic Product (A) (Q). Table 1.1.6 Real Gross Domestic Product (A) (Q). (Interactive Application). Accessed June 28, 2016.
- U.S. Bureau of Economic Analysis. National Data. GDP & Personal Income. Section 1 - Domestic Product and Income. Table 1.1.5 Gross Domestic Product (A) (Q). Table 1.1.6 Real Gross Domestic Product (A) (Q). Accessed July 29, 2016.
For an added bonus, if you want to duplicate the calculation error we made that affected our original estimates of how real GDP would be revised, assuming the null case for Overseas Foreign Military and Civilian Government Activities, and specifically for calculating real GDP in the quarters from 2014-Q3 through 2015-Q3, you just need to multiply the nominal domestic GDP for these quarters by the GDP deflator for total GDP. To fix that mistake, or to avoid it altogether, multiply the nominal domestic GDP for these quarters by the GDP deflator for domestic GDP.
If you do that, you'll find that one increasingly creepy blogger's obsession with us and their determination to claim that our calculations were erroneous because of some other, unrelated factor are really, really far off the mark, but that doesn't mean we cannot enjoy it when they've succeeded in beclowning themselves, again, in doing so.
But hey, if a straw man is all they got, we suppose they have to go all out to vanquish them - that will show us!