‘Growth’ is one of the most common terms you’ll hear in public discussions of the economy. The treasurer will always try and tell the country that growth is strong. While the opposition will say that growth is not as strong as it could or should be. But why does everyone in the political class assume that growth is good? And not just good, but perhaps the key indicator of successful government. What does economic growth actually mean for us?
First, we need to be clear what we’re talking about. GDP stands for Gross Domestic Product and it means the total value of everything produced in a particular place within a year. We usually talk about a country’s GDP but it’s also possible to talk about the GDP of a state or of a city.
We also need to be aware of GDP per capita. This just means GDP per person and is calculated by dividing the total GDP of the country by the number of people in it. Simple.
Australia’s GDP last year was a little over $1.85 trillion; our population was a bit over 25 million people; giving a GDP per capita of about $74,000.
GDP per capita is a measure of how much material consumption is available to each person. It’s also closely tied to another economic idea – productivity – which is the amount of economic product you get for a given input. In our case the amount produced per hour worked.
Let’s look at two countries: France and India, which have quite similar total GDP. The IMF estimated their respective GDPs in 2018 to be $2.78 trillion for France and $2.72 trillion for India. And yet France’s GDP per capita was $42,878 while India’s was $2,036. Each country has the same GDP to distribute but India has 1.3 billion people to distribute it to, whereas France has only 65 million.
So growth in GDP per capita means, very generally speaking, an improvement in the material conditions in which people live. It means access to more and better quality food. It means access to higher forms of education, more sophisticated forms of healthcare. It means more access to entertainment and travel. All else equal we would choose to see GDP per capita grow.
But growth of GDP does not have to come solely from growth in GDP per capita; it can also come from population growth. If an immigrant arrives, or a young adult enters the workforce, and they start working, then GDP will increase. The new worker may only enjoy the same standard of living as everyone else, and everyone else’s standard of living may remain unchanged, yet still there is more product and so higher GDP.
Australia has seen consistent growth in GDP thanks to population growth, but GDP per capita has recently stagnated. In the quarter to August 2019, population increased by 0.5%, but GDP only increased 0.4%, actually implying a small decrease in GDP per capita.
So it’s easy to see why we might all want to see an increase in GDP per capita. But when politicians quote growth figures they are almost always talking about overall growth. Who is it that actually benefits from this kind of growth?
Government
Governments have a geopolitical interest in growth. The greater a country’s GDP the more it can potentially spend on its military. More soldiers, more guns, more tanks, planes, ships and missiles.
In the extreme, higher economic growth in Europe over many decades created a gap in power between European states and countries in the rest of the world. A gap which was exploited through colonisation and imperialism.
In general, a country’s importance and influence in the world depends to a significant extent on its total GDP. The larger a country’s economy, the more total trade it will do with other countries and more international firms will be based there.
Big Business
Small businesses care more about increases in per capita incomes than population growth, since they face the prospect of new entrants. Say you were running a sushi bar next to a station and were doing good business. Then new apartment buildings are built around the station, doubling the local population. It might be the case that you get many more customers, but it’s at least as likely that someone just opens a taqueria next to you.
Big businesses, on the other hand, can more easily expand with the overall market. Each new person is a potential new customer. So their shareholders will see a personal benefit from total GDP growth.
Society
GDP growth might also act as a kind of economic lubricant. Each new dollar of economic activity might be more contestable than old. Thomas Piketty predicted, in his book Capital in the 21st Century, that wealth inequality would increase when growth was low. In a stagnant economy those who already have the wealth can keep accumulating it, but there are fewer opportunities for others.
The rate of growth can also have consequences for a nation’s political culture. If growth is sustained for a long time, people may feel generally hopeful about the future. They might feel, for example, that their country has plenty of room for immigrants rather than worrying about them taking up scarce jobs.
Limitations
GDP is also an imperfect measure of the work being done in an economy. It only measures work done formally in exchange for money. Domestic work, child-rearing, caring for elderly relatives, volunteering – none of these come up in GDP numbers. Somewhat perversely if a stay-at-home parent decided to get a paying job and use their salary to pay for childcare and a house cleaner GDP would seem to increase even though the new work being done was previously done by the parent.
But people value things other than goods and services from the market. In working for money people are giving up their valuable time, usually on activities they would prefer not to be doing at all. So by working they are missing out on the opportunity to spend that time with friends and family, pursuing interests or hobbies, or otherwise relaxing. A relentless focus on growth assumes away the possibility of ‘consuming’ increased productivity by working fewer hours.
The Environment
So there are things to be said in favour of growth. But it comes at a cost. Economic activity takes a toll on natural resources. Land is cleared for agriculture to feed the growing population. Clean air, rivers, and oceans are filled with smog, toxic runoff, and plastic. Finite mineral reserves are dug up.
One way to think of this cost is derived from finance. We can think of humanity as having a stock of environmental ‘capital’ which provides a regular dividend, something like a retirement fund. If we limit ourselves to consuming just this dividend, then we can keep doing that forever. But if we consume more than that, we start eating into our stock. Sooner or later we will run out. And the more of the stock we do consume, the lower too our subsequent dividend will be.
To take an example, the world currently has around 14 million square kilometres of arable land. With climate change though, it is possible that this total area will diminish (estimates vary considerably). By polluting the atmosphere with greenhouse gases we ‘consume’ our environmental capital in the form of viable farmland and reduce the total farm output we can achieve for a long, long time.
Or if we consider a river system, like the Murray-Darling: we can measure how much water enters the system through rainfall; we can estimate how much water must remain for the river’s ecosystem to stay healthy; and then the difference is how much water we can sustainably remove for irrigation, industry, and cities.
Limiting ourselves to this sustainable level of environmental consumption does not mean we cannot also have economic growth. Just as we can increase the economic productivity of each hour of work, we can increase the environmental productivity of our natural resources.
In the case of water, we can breed drought-proof crop varieties which give the same yield with less irrigation. Or in the case of electricity generation, renewables like wind and solar generate electricity without polluting, unlike coal-fired power. Technical innovations of these kinds can allow economic growth, even if we limit ourselves to the environmental dividend.
This all leaves us with a couple of big questions. How large is our environmental dividend and how far are our economies from being sustainable? And can our current political and economic institutions be relied upon to limit themselves to this sustainable level?