Late the other night I blurted out a blogpost on the revised GDP formula. I closed with a promise that I would go crunch some numbers and bring you a meaningful idea for revising how we measure the economy.

While I closed with tongue-in-cheek, I did intend to at least entertain you with an idea that would never fly, but that you free-market thinkers would appreciate nonetheless.

It was going to go something like this:

Since government spends only what it takes from the private sector—where resources are allocated, jobs are created, and the economy expands and contracts as natural forces dictate—here’s a method for including government spending reductions, as a positive, in the GDP formula.

Of course, being that GDP is intended to represent the market value of all final goods and services produced in a country over a given period, and that a reduction in government purchases would directly reduce the number, we can’t go there.

What we can bring to light, however, is how the GDP formula, itself, in no way tells us what actually grows the economy. And how our intense focus on the number inspires all sorts of bad thinking and very bad policy.

For example: If government wants to give a short-term boost to GDP, all it has to do is borrow (not hitting the private sector initially [although it would incentivize certain acts and impact the credit market]) and boost government spending. All else being equal, add a trillion dollars to the budget and you grow GDP by 6%. Of course that trillion plus interest will have to one-day be paid back. Which simply means that what deficit spending adds today it subtracts (plus interest) tomorrow. Now those who advocate such measures tell us that government spending sparks all manner of countable economic activity which would generate the revenue sufficient to make future debt payments without raising taxes or devaluing the dollar. Well, we’ll see…

Another way misguided, misinformed, myopic politicians might conspire to help the number would be to tighten restrictions on imported goods. Do more of what, for example, Bush did with Japanese steel and Obama with Chinese tires; impose stiff tariffs that in effect make U.S. producers more competitive. That would might (for a moment) reduce the trade deficit and help the number (provided it wouldn’t be offset entirely by retaliation from our trading partners and by the hit to consumption due to the higher prices). While, in reality, such moves amount to income redistribution (from the populace to the politician’s pet producers)—thus stealing business from the politically-disconnected U.S. firms that vie for the income we save when buying cheaper foreign goods, and those that vie for the business of the foreign firms that capture the U.S. dollars we send their way. Make no mistake, any illusion of protection-spawned economic growth would evaporate all too quickly. But, alas, it’s doable if politicians believe it’ll last through the next election cycle and if the exercise would garner support from the protected producers…

And, lastly, the notion that boosting private consumption somehow leads to real growth—intuitive as it may seem (being that it’s 70% of the number)—is every bit as wrong-headed as the above. Think about it: if boosting aggregate demand is all it takes, why then doesn’t Uncle Sam simply man the printing press, then a helicopter, and drop dollar bills onto America (I know, “helicopter Ben”)—in return for nothing other than the expectation that their grabbers would find some product to exchange them for? Let’s hope it’s because that even the ardent Keynesian—while he may propose that paying a person to dig worthless holes is a worthy pursuit—at some level possesses the commonsense (although there’s reason to doubt) to know that doling out dollars for the sole purpose of promoting consumption, as opposed to in return for some productive activity, results in little more than the net destruction of resources. Talk about the definition of inflation!

I can hear a reader asking “but wouldn’t all that government stimulus-induced consumer spending lead to greater production, investment, job and GDP growth?” Now ask yourself reader, would producers—under the above scenario—be willing to make long-term capital, and labor, investments, or would they simply ramp up the pressure on existing facilities and staff (maybe enlist some temporary help) until the helicopter runs out of gas? Did the auto industry take on permanent help when sales spiked due to “Cash for Clunkers”? Did the housing industry hire when sales spiked due to the first-time homebuyer’s tax credit? Nope and nope. They of course knew that sales would tank (and they did) the minute those programs expired. And what are we seeing presently in the residential market? Inflation-induced elation (record price increases). Elation, that is, for everyone except the buyer. To see real job growth in real estate we’ll need to see a pick up in investment on the part of builders. As long as they believe that current demand is the result of government stimulus and artificially low interest rates, the experienced producers will not be making big long-term commitments. They’ll produce, and hire, thinly—with the near-term in mind—and raise prices (to the cheers of Washington and Wall Street) until the liquidity pump stops pumping. Only when sufficient demand exists in a normal interest rate environment will they make serious, long-term, job producing investments.

Bottom Line: Our remaining component, investment, is what truly drives the economy. Yet our understanding is forever prone to the dazzlement—with their select stats and compelling counterfactuals—of the politician and the Keynesian economist. Their arguments, however, pale rather quickly when exposed to the following light:

When private sector actors allocate their resources on their own behalf, quality (inspired by competition) and thrift (inspired by commonsense) are paramount. Resulting in the best possible allocation of resources for society at large and a healthy (forever cyclical) economy.

When politicians extract resources from the private sector on behalf of those they deem worthy—while at times there may be a smidgen of virtue in their intent (I could be reaching)—the graft is inspired by competition (special interests looking to legislation for a competitive edge) while thrift is thrown out the window. Resulting in the best possible (short-term) allocation of resources for the politician and special interests, the worst for the rest of us, and a hamstrung (often sickly) economy.