Everyone who tracks investments is familiar with GDP and many will have heard of its shortcomings - and advantages - as a measure. What other measures might be considered that could guide wealth managers?

The following article is by Marie Owens Thomsen, chief economist, Indosuez Wealth Management. The views expressed here are those of the author and not necessarily shared by the editors of this news service but they are grateful for this contribution to debate.

Gross domestic product, or GDP, is the macroeconomic concept par excellence. However, it does not appear at the top of rankings of most used acronyms. Such rankings are established by type of use and LOL (laughing out loud) tops the ranking for acronyms used in appreciation. 

Indeed, this might be many young persons’ reaction to GDP, especially if they are familiar with Robert Kennedy’s speech at the University of Kansas in 1968: “Gross national product counts air pollution and cigarette advertising, and ambulances to clear our highways of carnage. It counts special locks for our doors and the jails for the people who break them. It counts the destruction of the redwood and the loss of our natural wonder in chaotic sprawl. It counts napalm and counts nuclear warheads and armoured cars for the police to fight the riots in our cities. It counts Whitman's rifle and Speck's knife, and the television programmes which glorify violence in order to sell toys to our children. Yet the gross national product does not allow for the health of our children, the quality of their education or the joy of their play. It does not include the beauty of our poetry or the strength of our marriages, the intelligence of our public debate or the integrity of our public officials. It measures neither our wit nor our courage, neither our wisdom nor our learning, neither our compassion nor our devotion to our country, it measures everything in short, except that which makes life worthwhile.”

In its defence, GDP was invented in 1937 as a means of accounting of the production in a country. GDP calculates the value in currency of all the production of goods and services over the period in question.

It adds investment, stock variation, consumption of households and government, exports, and subtracts imports. Before the creation of GDP, gross national product was used. The difference between the two is that GDP is based on the place of production while GNP favours the nationality of producers. GDP is normally expressed in real terms, i.e. adjusted for inflation. Here we already have two potential sources of error in the measurement of GDP. First, the difficulty of measuring production, and secondly, the challenge to find an adequate estimate of inflation. Given this, we understand that GDP can stagnate, not because production drops but because of a rise in inflation. 

Users of statistical numbers have to make sure that they use the best number possible with respect to the question being asked. Also, users must refrain from drawing conclusions from the numbers that go beyond the scope and dimension of the thing that is measured. Definitions, too, are important. The US has the habit of annualising their numbers, a process that consists of taking the simple quarter-on-quarter evolution and multiplying it by four. The Europeans, on the other hand, prefer publishing their GDP numbers in the straight forward quarter-on-quarter format. 

The result is that the US numbers tend to look four times larger than the European numbers, while in year-on-year evolutions, the US GDP posted 1.9 per cent growth and the eurozone 1.5 per cent - a rather negligible difference. Since 1937, the things we try to measure using GDP have evolved. GDP is now commonly used for comparing the level of development between countries. One can say that it is not the fault of the frog that it is not a prince, although when a prince is needed it is not of much use to rely on the frog. GDP does not count any non-remunerated work such as that of all those who take care of children and relatives. 

Nor does GDP count any of the internet activities that are free of charge, including Facebook and Google. Considering that young people spend 27 hours per week online, it is clear that this represents an entertainment value on a par with paying for a cinema ticket, for example. Those who wish to examine in more detail the level of development of a country can use the World Bank’s Development Indicators, for instance - all 150 or so of them per country. 

One understands why GDP has such an enduring appeal. If the purpose of the analysis is just to understand how much a country is producing in terms of goods and services for sale on the market, then GDP will do just fine, and can be thought of as the profit and loss statement. However, those analysing firms will never stop at the P&L - they will also study the balance sheet, the place where assets and liabilities are recorded. Hence, the first urgent improvement to the national accounts would appear to be the creation of a national balance sheet where the wealth of the country would be recorded. It would include all the natural resources, infrastructure, etc., as well as their depreciation and degradation.

Could 2016 be the year when a GDB, gross domestic balance sheet, might see the day? Until such a day, GDP will remain at best one of many necessary indicators that have to be analysed together for the comparison of country performance. China now ranks first in the World Bank’s global GDP country ranking, while the country only ranks 112th in terms of GDP per capita. Similarly, most of the best-ranked countries in terms of GDP per capita, such as Qatar, will rank well below China in terms of total GDP. The understanding of these countries’ relative economic power will be greatly enhanced by looking at both these numbers, and not just the GDP growth rate. 

Awaiting the establishment of national balance sheets, we need to be aware of the limits to GDP. In the interim it might also be useful to contemplate a different acronym for the national balance sheet than GDB, which could rather unfortunately mean degree of disability in German, hangover in French, Guide Dogs for the Blind in English, and Guangdong Development Bank (now China Guangfa Bank) in Mandarin. All of this would go a long way to help fight the FUDD – fear, uncertainty, doubt and doom – that so often surrounds the use of any statistics.