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Commentary: Does the GDP matter? Part trois

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FreightWaves features Market Voices – a forum for voices with unique knowledge of numerous transportation/logistics/supply chain sectors, as well as other critical expertise.

As I have written in two previous columns, “Since transportation is a cyclically sensitive industry, shouldn’t the professionals in the industry being paying more attention to a measurement of the economy such as the GDP?” The simple reason that they don’t is because the methodology used to calculate GDP was developed in the 1930s, but with a few simple adjustments, as I outlined in those columns (backing out inventory adjustments and the export/import calculation), the GDP can become a relevant benchmark.

Is there anything else in the archaic method of GDP calculation that should be considered or adjusted?  There are several, but after the value of inventory and the export/import calculation, one of the largest is the changes in quality of what is produced and the changes in the rate at which what is being produced depreciates.

Changes in quality

Changes in quality of life, leisure time, or work circumstances – i.e., if all other measurements of GDP remained constant but everyone in the workforce was given an additional week of vacation per year, that would increase their quality of life but not be measured by the current GDP methodology as an increase in the ‘Standard of Living’ or considered a ‘Creation of Economic Value.’

Changes in the quality of products or the innovation in products consumed are not included in the calculation, neither is the depreciation of infrastructure. Ironically, many of the assets used in our modern economy are exponentially more productive (and hence more valuable in a way not captured in the GDP calculation methodology) than their predecessors/those that they replaced, but they also depreciate at a faster pace (which is also not captured).

A simple example that everyone (over the age of 40) should be able to relate to would be the standard office typewriter. When I first entered the workforce during high school as a part-time errand boy at a law firm, all of the secretaries used an IBM Selectric typewriter. It was incredibly sturdy and with simple maintenance and the occasional replacement of the ‘type ball,’ it would provide decades of production. Today’s administrative assistant uses a laptop computer. Yes, it is infinitely more prolific in the production of documents (which are higher quality, grammar and spell checked before being formatted with multiple fonts and eye-catching graphics, a virtual publishing house) than the IBM Selectric, and this comparison approaches ridiculous when the other capabilities such as wireless access to printers, e-mail, files of colleagues, the internet, and video conferencing are considered. A computer is infinitely more productive in creating substantially higher value documents and much, much more, but also depreciates at a far faster pace, i.e., a five-year-old laptop is an old laptop. 

A far simpler example would be the availability of fresh raspberries in my local grocery store 12 months a year for a fairly reasonable price. When I was growing up, several decades ago, fresh raspberries were only available for a couple of months a year. My paternal grandmother spoiled the entire family with the raspberry jam she made, and the frozen raspberries she packed away, all from fruit harvested in her raspberry patch during a few weeks of the summer, but the rest of the world could only get fresh raspberries for a couple of weeks before her garden started producing (from growers south of St. Louis) and for a couple of weeks after her garden stopped producing (from growers north of St. Louis).

So, what now?

Back out the additions are subtractions to the GDP that are driven by increases and decreases in inventory using the methodology I explained in the first article of this series. The reasoning being simply that with the ongoing development of supply chains, the technology used to manage inventory, and the steady increase in goods that are ‘made to order’ (created exactly as the specific customer requested), our outlook has transformed from viewing the accumulation of inventory in the warehouse as “the building up of wealth stored by our nation” to doing everything possible to reduce inventory at every point in the supply chain. Now, we are focused on never having more inventory that is needed, and now understand that excess inventory has a carrying cost, is the opposite of ‘made to order.’ The larger inventories become, the further we are removed from each purchase, each moment of consumption, resulting in the need to pull goods through the supply chain all the way from the raw material stage to the final product delivered. In the 1930s, more inventory was more wealth. In 2019, more inventory is not more wealth and instead delays much of the commercial activity that creates economic wealth. 

Back out the decreases in GDP that are driven by imports and the increases driven by exports as I explained in the second article of this series. So many of our exports are parts and pieces that are used to assemble products that are later imported and marked up dramatically in value when they are imported (shipping U.S. auto parts to Mexico that come back as finished autos, and shipping U.S. processing chips and modules to China that come back as finished smart phones, are two prime examples). Imports and exports should also be ‘backed out’ of the calculation because the value created (and hence recognized in the ‘old school’ methodology) in the fully assembled product is often a result of American intellectual property, developed by Americans and owned by American citizens or corporations. The Apple IPhone is just one example, but one which everyone can relate to. Less than $10 in Chinese assembly (the real value of the Chinese import to the U.S.) results in a finished product worth more than $400 in COGD being valued at 2X wholesale and 3X retail. 

Last but not least, we should lower the GDP by a factor that reflects the ongoing, but dramatic over time, improvements in the quality of products and the amazing things that those products are capable of. Is it 0.5 percent, or 1 percent or 1.5 percent a year? Making this arbitrary adjustment leaves us with a GDP calculation that is very similar to the overall goods flow volume within in the U.S. and as a result a very solid benchmark for the transportation industry.

With these adjustments, the first quarter 2019 GDP goes from 3.1 percent down to 2.5 percent (after subtracting the growth in inventories), then down to 1.5 percent (after subtracting the net additions from slower imports and faster exports), then down to flat to 0.5 percent (after subtracting for the ongoing improvement in the quality and economic value of the goods being shipped), which is roughly in line with the Cass Information Systems Shipment Index (CFIS.USA) contraction of -1.1 percent reported in the first quarter of 2019. 

Bottom line – while some of the calculation methodology of GDP has become outdated, with a few simple adjustments, it can serve as an additional benchmark and reliable economic indicator for all of us in the transportation industry.  I will endeavor to begin regularly reporting an adjusted for transportation professionals GDP number in coming quarters as the Bureau of Economic Analysis (BEA) releases its figures and explore whether a historical as well as ongoing data feed would be useful to FreightWaves SONAR subscribers.

Stay tuned…