Written by Alexis Datta, Class of 2020
Among the many measures that are used to measure an economy’s performance, the most significant is Gross Domestic Product (GDP). This measure was first proposed by Dr. Simon Kuznets, who realized a correlation between growth and production in an economy. He quantified the measure with the following equation: GDP = Consumption + Investment by business + Government spending + (Exports – Imports). In the early 20th century, the GDP measure was considered a reasonably accurate measure of an economy’s performance, as it factored in consumer and corporate behavior, the actions of the government, and externalities in the form of imports. However, one drawback in the equation was that only a static form of consumption was included, such as a consumer purchasing a car, or groceries. With the increasing impact of technology and intellectual property on consumption, it has been argued that the “Consumption” part of the equation is not as valid.
As a result of the dotcom bubble at the end of the 20th century, the BEA (Bureau of Economic Analysis) modified the GDP measure to account for software. Software then became accounted for as an “Investment” in the updated model. In 2009, the BEA released another report stating that “some have suggested that investment in intangible assets now roughly equals investment in tangible assets.” This recognition has resulted in significant changes to the measurement of GDP, including what exactly can be considered as intangible assets.
Technology and Intellectual Consumerism
While the initial GDP model was created to measure the quality of life in a country, it was later modified as a result of World War II to measure the ability of a country to engage in warfare. This was largely based on a country’s tangible assets: military equipment and consumer goods. After the war ended, companies shifted focus to R&D activities as a method of differentiating themselves from competitors. This resulted in a deficiency in the GDP model as the accounting value of R&D was not included in the explicit costs of building a product. Recent changes have modified this, and R&D is now considered as a long term investment and is included under the “Government” section of the GDP equation.
However, this does not imply that the GDP model is comprehensive. The BEA will have to continue modifying this equation in the future in order to reflect other intangible assets, such as intellectual property: patents, copyrights, designs, etc.
Innovation, the Driver of Economic Change
Most of these measures fall under the title of innovation. The BEA gives an example in their 2009 report of the transistor, which “over 50 years ago gave rise to wave after wave of new goods that have transformed the economy…like the semiconductor.” Innovation is a significant part of any economy, as it causes the development of these other products, but it hasn’t received the recognition that it deserves. As economies develop and continue to see shifts in antiquated measurement systems, the BEA will continue to modify this computational system so that GDP will once again be used with its initial intention.