We are shrinking! The neglected drop in Gross Planet Product

Peter A.G. van Bergeijk 07 December 2015

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Presenting the October 2015 IMF World Economic Outlook, Maurice Obstfeld (2015) identified the fall of commodity prices as one of the powerful forces shaping the outlook for the world economy. The strength of this force, however, is underestimated by the official forecasts in the IMF’s flagship publication. As illustrated in Figure 1 the IMF world economic outlook database reports  a reduction of Gross Planet Product (GPP)  for the year 2015 by -3,8 trillion dollar (-4.9%). A nominal reduction of GPP of this size has occurred only once since 1980 (the starting year of the IMF database), namely at the start of the Great Recession when GPP contracted by -5.3%. Table 1 illustrates that all previous contractions of nominal GPP are associated with major crises in the world economy.

Figure 1. Gross Planet Product at current prices (trillions of dollars, 1980 – 2015)

Source: IMF World Economic Outlook Database, October 2015.

Table 1. Years with nominal contractions of GPP (1980-2015)

Source: IMF World Economic Outlook Database, October 2015.

The reduction at current prices is especially noteworthy in view of the official IMF forecasts (2015, table 1.1, p.2) that set real economic growth at 3.1% and planetary inflation at 3.3%. Taken at face value these forecasts imply a growth rate of GPP of + 6.5 %. By implication the IMF is either too optimistic about real growth, too optimistic about the avoidance of deflation or too optimistic about both these factors.

Alternative explanations

In order to assess whether this difference between nominal and real growth rates is relevant we need to consider three alternative explanations that relate to registration, exchange rate effects and aggregation error.

Firstly, the differences could be due to registration errors, including typos and software bugs. Such errors could be expected to be solved when new vintages of the data become available as revisions are used to solve apparent data inconsistencies (Croushore 2011).  In this case, however, this factor actually increases our concerns since the revisions point to increasing shrinkage of GPP (in April 2015 the reduction of GPP was estimated at $2,8 trillion or -3.6%). Hence, the more recent (October) vintage of the data actually shows a larger GPP reduction than foreseen in April 2015.

Secondly, the reduction of GPP is too large to be explained from the fact that the IMF forecasts for real production growth are based on constant exchange rate.  It is clear that exchange rate movements cannot be neglected, but at the same time the underlying data (from the IMF WEO Database) suggest that only 0.7 percentage points of the difference between nominal and real GPP growth can be related to this factor.

A similar conclusion follows for the third factor that might potentially explain the nominal-real GPP divergence, i.e. errors of aggregation or fallacy of composition. One clear indication of the aggregation issue can be derived from the global aggregate of the current account (van Bergeijk 2013). Since Earth does not trade with Moon or Mars the world total of all current accounts should logically be zero. The world’s current account in the WEO database, however, shows a surplus of $206 billion in 2015. These goods and services ‘disappear’ and create statistical (as opposed to real) shrinkage. Again, while relevant, this factor only amounts to 0.3% of GPP and thus cannot explain the difference between nominal and real GPP in the IMF data and forecasts.

Conclusions and implication

All in all only one percentage point of the shrinkage could possibly be caused by these alternatives. The remainder of about 3.9 percentage point is too large to be simply regarded as the usual inaccuracy of macroeconomic statistics (Manski 2015). This shrinkage is therefore economically significant and thus needs to be taken seriously.

The implication is that the IMF forecasts for 2015 for the world economic system are inconsistent, but that this has not been explicitly noted. These are already worrying conclusions in themselves. Moreover, it is likely that the official IMF forecasts for real GPP are likely to be too optimistic as has also been the case in the past. Analysing the IMF’s track record over a 20-year period, the Independent Evaluation Office (2014) reports that real economic growth has been overestimated, especially in periods of global crisis. Further downward revisions of the real economic growth rate are therefore to be expected.

References

Croushore, D., 2011, Frontiers of Real-Time Data Analysis Journal of Economic Literature 2011, 49:1, 72–100

Independent Evaluation Office of the International Monetary Fund, 2014, IMF Forecasts: Process, Quality, and Country Perspectives, IMF: Washington DC

International Monetary Fund, 2015, Adjusting to Lower Commodity Prices, World Economic Outlook, Washington DC, October 2015

Manski, C.F., 2015, Communicating Uncertainty in Official Economic Statistics: An Appraisal Fifty Years after Morgenstern, Journal of Economic Literature, 53(3), 631–653

Obstfeld, M., 2015, The quest for robust and synchronised growth, VoxEU.org, 17 October

Van Bergeijk, P.A.G., 2013, Earth Economics: An Introduction to Demand Management, Long-Run Growth and Global Economic Governance, Edward Elgar: Cheltenham.

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Topics:  Global economy

Tags:  IMF, forecast, growth

Professor of International Economics and Macroeconomics, Institute of Social Studies, Erasmus University

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