Differences in Calculating GDP Have Pros and Cons

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Includes: FXI, PGJ
by: Craig Brown

I wrote a post recently on how the fourth quarter GDP growth rate in China, at 6.8%, could be misleading as it is based on a different way of computing GDP than used here in the U.S. Nouriel Roubini noted that computing it our way results in virtually a 0% GDP. I then concluded they are near recession, in our common definition of the same, and are nowhere close to the 8% GDP growth they feel they need. Since then others have commented that the needed growth varies and is from 6-8%, and someone with more experience noted that 8% seems to be almost gospel there in China, so let's go with 8%.

After reading some comments and thinking about it further, I realized my post is not only confusing, but possibly in error, so let me clarify. One point I realized is that China needs 8% growth in GDP probably in the way that China calculates GDP. Accordingly, for an apples-to-apples comparison, you need to compare a fourth quarter GDP of 6.8% to the goal of 8%. It is bad, but not as bad as I noted, and their full year GDP growth was 9%, over the goal. Accordingly, in the way they compute growth, things are not as bad, but they are noticeably getting worse. Note, however, that the way they compute quarterly growth accounts for four quarters, so an annual rate of 9% and a fourth quarter rate of 6.8% suggests their rate of growth is falling off a cliff.

And the way China and the U.S. calculate GDP are not the only ways. Great Britain does it in yet a different way. Again, if you adjusted their method, which yielded a decrease in GDP in the fourth quarter of 1.5% in the U.K., you could read that as an annual rate of decrease of 6%. This is all explained much better in this piece by Calculated Risk, which focuses more on the fact that Britain is now officially in a recession - by their standard, not necessarily ours. Confused yet?

All this is not to say that one country's way of figuring GDP growth is necessarily better than any other country's way of doing it. Each has its pros and cons. Some are more sensitive to recent changes, which can be a good thing or bad thing, depending on whether recent changes reflect a one time impact or a longer term trend change.

I think that Roubini's point on China's GDP being close to zero was based more on the idea that in our current economic environment, the U.S. way of calculating GDP is more accurate or realistic. The China method tends to mask how dramatic their drop was in the last few months of the year. This does not necessarily mean it is more accurate or realistic in other economic environments, but in this environment do not expect a fourth quarter growth rate of 6.8% in China to reflect their true pain at the moment. Anyone understanding this better than me should feel welcome to comment as I am certainly not claiming to be an expert on this.

Disclosures: None.