Even the Treasury agrees: GDP is no longer the only measure of progress
For the famously conservative Treasury, economic growth is no longer the only target,
“Life is about more than money”. Fair call; that’s not normally a controversial statement. But should Treasury — every government’s lead adviser on economic, financial and regulatory policy — be thinking about more than just money?
That’s more controversial. And it is happening, putting New Zealand at the forefront of a global shift in economic thinking.
The quote is from Treasury’s own documents, released with last month’s annual Investment Statement.
It’s one of many examples of softer language in the past few months, all pointing to a big shift in focus.
The new Government has charged the famously fiscally conservative institution with broadening its scope and producing a “wellbeing” Budget in 2019.
What does that even mean?
Since the global financial crisis there has been a move away from a hardline focus on GDP growth – at an academic level at least. Now, New Zealand’s Treasury gets to put theory into action.
“It is changing times,” says Secretary to the Treasury Gabriel Makhlouf. “But they’ve been changing for longer than when this Government arrived. I think people are suddenly paying a bit more attention to it.” In fact, Treasury first published a working paper on the Living Standards Framework in 2011. The Framework is an economic policy model that adds natural, human and social dimensions (called “capitals”) to the traditional financial dimension. But while t he thinking has been under way for some time, Makhlouf agrees that the political push to put it into action is something new — possibly a world first. “This is a bit of a leap of thinking,” he says. “In the sense of taking that strand of economics and saying let’s start applying it rigorously to decision making, to government policy making, to Budget making. That is different. That hasn’t been done before.
“What we’ve been doing, for the last six years or so, is working up the framework to improve our advice. The new Government has arrived and said: we like this stuff, we want to base our Budget around it, we want to develop a series of indicators. We want to measure our success against it. “We’re probably the first country in the world saying, all this conceptual stuff is great but let’s take it and apply it to policy and decision making.”
Treasury is now seeking public feedback on the indicators it uses.
“Our objective is to get a number of indicators — not so many that we get overwhelmed — but enough to enable us to make decisions and value judgments,” he says. “It’s definitely a process of working with the public who is interested, academics who are interested.”
Adding each of the new capitals to the policy framework presents its own
challenges, Makhlouf says.
Financial (or physical) capital is the one that now forms the basis of economic policy in most of the world.
Makhlouf wants to reassure critics that Treasury will not be turning its back on the bedrock of fiscal responsibility. “The Treasury has not abandoned GDP, it has not abandoned economic growth, it’s not abandoned the importance of running the government’s books in a sustainable way.
“What we are saying is we need to add some more indicators around our decision making framework.”
Natural capital looks like the next easiest thing to integrate into a policy framework, Makhlouf says. That’s because considering environmental impacts in cost-benefit analysis and policy is already well developed.
“When we talk about natural capitals we mean anything from energy to minerals, water. Some of it is about ecosystems and the way they work together,” he says.
Makhlouf talks about retaining an “unapologetically pragmatic” approach to environmental costs. In other words, more emphasis on environmental cost and benefits doesn’t inherently mean a shift towards “greenie” values.
“Putting a price on nature is contentious, but shying away from it misses the point of economic valuation. There are not infinite resources to devote to protecting nature, so hard choices need to be made about using or conserving natural resources,” he said in a speech last month.
In some circumstances a reduction in natural capital may actually be a good thing, he argues. He cites hypothetical tradeoffs such as preserving land versus building new houses.
In terms of difficulty to implement, human capital is third, Makhlouf says.
“It’s really about the skills and knowledge that we have,” he says.
While it is a new area, there is a lot of work under way about future proofing the workforce, the transition to new technology, robots and artificial intelligence in the workplace.
“You can see your way through where the right set of indicators might be,” Makhlouf says.
Treasury’s discussion document on the issue looks at three measures of human capital.
One is a cost-based approach, which aggregates resources used to rear children and provide schooling and healthcare, and then calculates this across time. Then there is an incomesbased approach, which values human capital based on the incomes earned by each qualification type over the lifetime of people with this qualification.
And then there is an educational stock-based approach, which uses indices of key measures to assess the country’s performance (such as years of education, degrees earned and life expectancy).
New Zealand has traditionally focused on the incomes-based measure — in census data, for example.
“But the approach ignores the value of skills when they are not used to generate an income,” the discussion document notes.
“Social capital is more difficult,” Makhlouf says. “It means things like trust in institutions, social cohesion, factors like that. How we measure that is going to be harder. But there are social surveys that already try and measure that.” Social also includes cultural capital — so issues such as the Treaty of Waitangi.
In a speech last month on social capital, Makhlouf argued that “the concepts of culture are not taboo for economists”. But this is the area, he concedes, mostly likely to get fiscal purists wound up.
“I do acknowledge that the ideas invoked as part of social capital can seem ‘fuzzier’ than those traditionally thought of as ‘typical’ economic policy advice,” he said in the speech. “But the traditional view of economics is more of a caricature than reality.”
That seems a harsh criticism of the mainstream economics that have underpinned Treasury advice for many years. What did he mean by that? the
Herald asks. “It’s partly the idea that we live and breathe GDP,” he says. “That GDP is the only thing that matters.
“It’s partly the idea that has grown up that economics is the same as its macro-economic models that assume perfection, that assume efficient markets, that assume everything works perfectly.”
Economics is much more than macro-economics, he argues.
In fact, he suggests, if you go back to the 1940s when GDP as a concept was relatively new, even the guy who invented it, Simon Kuznets, warned that it can’t measure everything.
“We’re certainly breaking new ground if you took economics as starting 20-odd years ago. On the other hand, some of the thinking we’re doing is actually in the core tradition.”
Makhlouf cites Adam Smith — seen by many as the father of the discipline — and John Maynard Keynes.
“This is the sense that economics is a human science. It’s not like physics.”
So, what next? How does Treasury get these ideas into the black and white of the Budget in time for May 2019?
Makhlouf admits it is a challenge, but it seems to be one he is relishing.
By the end of the year he hopes Treasury will be ready to publish a set of indicators that will reflect “where we stand on all four capitals”.
“The theory at the moment is that Treasury will — probably at Budget time each year — publish a report that sets out how we’re doing on the capitals — what is the state of the capitals, how have they changed? In the same way that every Budget, the Treasury publishes an economic forecast and a fiscal forecast.
“At the same time I’m pretty clear myself that [the indicators] are unlikely to be perfect. This will be a process where we will be iterating and learning and improving.
“Economics is about tradeoffs,” he says. “Economics is about the fact that there are finite resources to meet unlimited wants and what’s the best way of dealing with that problem.
“What the Treasury is suggesting now is that we can become a bit more sophisticated than in the past at making those tradeoffs.”