To begin with GDP does not account for the household productions which have sizable effect on the economy of a nation. Unpaid work for instance, causes fall in GDP as there is no value addition. For example, if a person cooks food for his or her family then it causes fall of GDP but if the family hires a chef then GDP boosts up. Lets take the example of drying clothes in sunshine. If you let the sun dry your clothes, the service is free and doesnt show up in our domestic product but if you throw your laundry in the dryer, you burn fossil fuel, increase your carbon footprint, make the economy more unsustainable ” and give GDP a bit of a bump. This seems illogical that if a person reduces his or her consumption then it will cause GDP to drop, eventually resulting into reduced welfare of the nation. According to various studies carried out in France, domestic production could represent as much as 75% of standard GDP. If GDP does not accurately responds to domestic production then how it can be considered a good measure for the welfare of a nation?
Moreover, GDP does not correctly respond to voluntary work and public administration resulting into imperfect measurement of the welfare of a nation. A bicycle repaired by a friend makes GDP fall if the work used to be done by a professional. Thus, a society where voluntary work is widespread will enjoy a higher level of economic well-being but a lower GDP. As far as public administration is concerned, GDP always underestimates the contribution of public services. They are generally not bought by anyone on
a market. For example, public gardens maintenance or tax collection. By the same token, a free service resulting from a past public investment (a road, a fountain, a public park or a public sport facility) will not appear in GDP, contrary to its private equivalent (priced road, private sport facility, etc.).
Besides household production and voluntary work, another major flaw in the estimation of economic growth by GDP is that it does not appropriately measure production and often just represent it as a compensation for a previous destruction. For example, reconstruction of a destroyed bridge or repairing of inoperative machinery causes a rise in GDP. Another similar example is a boom in the business cycle after the period of recession. Now consider the upsurge in the income of the lawyers. If lawyers prosper because there are more crimes and more offences, does that mean the country is richer? Obviously not, but GDP states country is richer because GDP does not count for these crimes rather it only takes the rise in the income of the lawyers into account. Moving further, production is the decline of human and natural capital. But while calculating GDP this definition is mistreated. This can be illustrated by the example of two countries having same GDP but depreciation of human and natural resources are not same. It reminds us of those companies who report profits only by under-reporting depreciation of assets. The case is not just theoretical: Britain and France have roughly the same GDP but British workers work 25% more.
Furthermore, the contribution of defensive and remedial spending towards GDP has many shortcomings. For example, expenditures on health care, pollution abatement, flood control and costs associated with population growth and increasing urbanization ” including crime prevention, highway construction, water treatment and school expansion increase gross domestic product, although mostly what we aim to buy isnt an improved standard of living but the restoration or protection of the quality of life we already had. (Polley) In this case, its clear that GDP indicates the growth in the economy but its only the maintenance of our standard of living. Thus GDP is not reliable to judge the standard of living of a community.
Whats more is the cash for clunkers whose influence on GDP is also flawed. The new car purchases are added to GDP, but the destruction of the older vehicles is not subtracted. If instead we had a trade in program for new energy efficient homes that required destroying the older, less energy efficient home, we would reach a different result about GDP effects. The new home purchase would add to GDP as for cars, but the destruction of the old home would result in a reduction of GDP because imputed rent on homes is included in GDP unlike cars. In this case, the economic multiplier effects are different about two very similar programs and as a result our economic policies are affected. There are also hidden problems like underground economy which cant be taken into account as there are hardly any statistics available. (Polley) If economic development is indicated by GDP, then our experts are proposing faulty policies because GDP is not an accurate measure for the economic growth.
If we consider the problems in the calculation of GDP, then inaccuracy of the indicator clearly depicts that its not an adequate measure of economic progress. For an instance, lets assume that GDP is a good indicator of economic well being. In this single number, you get an idea of whether the economy is expanding or contracting. Paul Samuelson, Nobel Laureate and author of many textbook references, once described GDP as truly among the great inventions of the 20th century, a beacon that helps policymakers steer the economy toward key economic objectives. But, we forget that how hard it is to accurately sum all of the goods and services produced in a country together, from bricks and tableware to banking and software. First of all, our definition of production is not clear. We often mix the restoration and production. Secondly, statistics for each component of GDP are not easy to gather. For example, there are no statistics available on black economy. Third, we need a sophisticated system that can add it all together, from the number of new cars and haircuts, to the volume of teaching etc. (Blades et all) Due to these problems, GDP cannot appropriately measure the welfare of a nation.
Given the fundamental problems with GDP as a leading economic indicator, we should not consider it as a measurement of economic well being. Instead, it is just a measure of economic activities within an economy and no where it is close of accurately reflecting the living standards of the people of that economy.