Net Real GDP Reveals Economy's Weakness and the Deficit's BiteNet Real GDP is the Demand Side metric that combines the federal deficit and Real GDP.
3rd Quarter 2009 GDP hit 3.5 percent by preliminary calculations, and more than one economist has made a career call that the economy is out of recession into recovery. At the same time the federal budget deficit backed out of complete freefall, though it is still in serious trouble, with revenues being choked off by falling incomes and expenditures ballooning to fund stimulus, social insurance and bank bailouts. (Notably the pass-through of payroll taxes into the General Fund which has been going on for decades finally reversed earlier this year, with the social insurance trust funds actually showing a net outflow.)
We've argued elsewhere that positive GDP does not need to mean growth. Demand equals supply. So when the government buys stuff or makes payments, GDP goes up. This has little to do with the business cycle, except to mitigate its brutal bottom. The term "recovery" has little real meaning when it is referring simply to this artificial monetized activity.
In fact, it is our view that the business cycle is broken and that "recovery" in the context of a broken business cycle is meaningless. There is no recovery. The inventory action that Pollyannas point to as evidence of investment is just restocking the shelves. It is not investment in the sense of business cycle recovery.
It was to disentangle government spending from real economic health that Demand Side developed the metric Net Real GDP. This is simply GDP minus the deficit. Again, demand equals supply, so when the government spends, product is produced. Even the connection to savings is becoming weaker when the Fed buys Treasury debt or lends at zero percent to banks who buy Treasuries with the borrowings.
Real GDP grew at 3.5 percent in the 3rd quarter. Although the figures are not yet out for federal borrowing, it is likely that such borrowing was not appreciably better than the Q2's 8 percent of GDP, meaning a net of minus 4.5 percent growth. In Q1, Net Real GDP hit 11.9 percent on an annualized basis. The highs of the Depression, again annualized, were in 1931 and 1932, when the figure was 16.2 percent. In 1945, Net Real GDP went to over 25 percent.
Many observers will admit that Net GDP captures the flavor of the economic situation better. It certainly tracks unemployment better. Such a perspective ought also to give pause to those who say deficits will produce better growth. In fact, it seems that large deficits in the Reagan and Bush years actually masked weak growth and that balancing the budget seems to go with better economic output. Discussion of cart and horse here ought to insist that all observations be explained, and in particular, the fact that massive tax cut policy have not resulted in the robust growth, nor in the increased revenues advertised by Supply Siders. Nor do deficits seem to be necessary financing mechanisms for needed government spending.
This is the baseline for GDP and Net GDP. Not a pretty picture. Real GDP below Depression levels at about one percent. Net Real GDP in solidly negative and again below Depression levels at minus 6.5 percent. This is if nothing more is done. Obviously, something will be done. Politically these numbers are not tenable.
On the other hand, there is an increasing likelihood of another financial crisis, either in the dollar as we have predicted, or in the financial institutions themselves, who are again playing casino games with the blessing of the Fed. Goldman Sachs is stocked with ex-Enron traders. Why we should expect good things, I do not know. As Keynes said about capitalism,
"[It] is the astounding belief that the most wickedest of men will do the most wickedest of things for the greatest good of everyone."
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