Indicators of Economic Progress: The Power of Measurement and Human Welfare

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Table of Contents

  1. Introduction
  2. Tools and Measures
  3. Measures of National Income
  4. Need for New Theory
  5. Measures and Indicators
  6. Characteristics of a Successful Indicator
  7. The Problem of Value
  8. What are we trying to measure?
  9. Alternative indices
  10. Components of Economic Welfare
  11. Human Economic Welfare Index (HEWI)
  12. Composite HEWI
  13. Conclusions
  14. Endnotes

1. Introduction

Right measurement is a powerful instrument for social progress; wrong or imprecise  measurement a source of hazard and even havoc. The essential purpose of economic activity is the promotion of human development, welfare and well-being in a sustainable manner, and not growth for growth’s sake, yet we lack effective measures to monitor progress toward these objectives. Advances in understanding, theory and measurement must necessarily proceed hand in hand. A companion article in this publication sets forth the urgent need for new theory in economics. This article sets forth the complementary need for new measures. The stakes are high and the choice is ours. On one side, rising social  tensions, recurring financial crises and ecological disaster; on the other, the progressive unfolding and development of human capacity in harmony with Nature. The deficiencies of GDP as a measure are welldocumented by leading economists Kuznets,  Tobin, Tinbergen and many others; but, unfortunately, decision-making still remains  largely based on GDP, valid during 1930-70 perhaps, but certainly inappropriate today. The challenge is to derive more appropriate indicators to reflect real, sustainable economic welfare, social development and human wellbeing. The attributes that have made GDP so successful are often overlooked — it provides clear objectives for policy and decision-making. We propose new composite indicator, HEWI, which can be used to guide decision-making, which retains the strengths associated with GDP, while substantially enhancing its value as a  measure of human economic development. HEWI monitors progress on factors that contribute prominently to present economic welfare — household consumption,  government welfare-related expenditure, income inequality and unemployment — as well as factors that have the potential to significantly enhance long term sustainability —  education, fossil fuel energy efficiency and net household savings. The index is applied to assess the economic performance of select countries from 1985-2005.

2. Tools and Measures

Human beings are distinguished from other life forms by their unique ability to fashion tools which extend our powers of consciousness beyond the reach of our senses and our powers of execution beyond the limits of strength, endurance, space and time imposed by our physical bodies. Tools are an instrument for social evolution. Language is a tool which enables us to formulate original ideas, communicate our inmost thoughts and feelings, record events for posterity, transmit knowledge down through the ages, and exchange ideas over vast expanses of time and space. The efficiency of our tools is an index of our social development.

Measurement is another remarkable human ability. Many tools acquire power through their use in or capacity for measurement, such as the calendar, weighing scale, measuring rod, astrolabe, surveyor’s theodolite, carbon dating, and DNA fingerprinting. The mariner’s compass and chronometer enabled ships to navigate safely far from land. Modern medicine could not exist without the thermometer, stethoscope, sphygmomanometer and glucometer, along with measures for blood cell count, hemoglobin, cholesterol, and countless other metrics. Today every food ingredient is carefully measured for its exact nutritional content.

Money is one of humanity’s greatest inventions. It is both a tool and a measure. But unlike other measures that are confined to measuring a single dimension or quality, money has the capacity of assigning value to almost anything material or immaterial — physical objects, human labor, social status, information, obedience, loyalty and sometimes even love. Coinage enabled ancient kingdoms to become military and economic powers, because it facilitated standardized valuation of products and services for the financing and maintenance of huge armies. The concept of zero was unknown to the Greeks and Romans. Developed independently in India and Mexico, it reached Europe via Arabia only in the 10th century. One need only try adding and multiplying Roman numerals to realize how greatly the introduction of Hindu-Arabic numerals, the zero, and the decimal place enhanced the capacity for accounting and the growth of trade. Combined with double-entry bookkeeping, they spurred the commercial revolution in 13th century Italy, facilitating the precise calculation of capital and profit.1

The development of modern economy has been made possible by continuous development and refinement of tools and measures. The Domesday Book is a record of the first known numerical census conducted by William I of England in 1085 to identify arable lands, livestock, fisheries and other sources of national wealth as a basis for improved tax collection. The first US census was conducted in 1790. Today economics employs a wide range of indispensable measuring tools, including GDP, the consumer price index, interest rate, money supply, exchange rate and the unemployment rate. While the general public may regard these tools as accurate measures of economic reality, economists recognize that they are in fact only rough, approximate indicators designed to reflect economic reality rather than accurately measure it.

Right measurement is a powerful instrument for social progress, which is why efforts are constantly being made to improve their power and precision. The atomic clock has replaced the sundial, hourglass and pendulum. DNA fingerprinting has largely replaced hand fingerprinting as a precise means for identifying human beings. Global satellite navigation has made the chronometer obsolete. The 20th century has been aptly described as The First Measured Century in recognition of the enormous recent strides in harnessing the power of measurement.2 Phenomenal scientific and social progress since the end of World War II has opened up previously unimagined opportunities and ignited soaring aspirations the world over. Today humanity pursues a common quest for higher standards of living, greater economic security, sustainable development, higher levels of welfare and well-being. For decades, the very intensity of the pursuit for a better life obscured the inadequacy of our conceptions and our instruments for achieving it. But in recent decades we are compelled by social, economic and environmental challenges to seek more precise definitions of what we mean by these terms and more exact tools for measuring our progress toward achieving them. Social and economic measures are inseparable from political objectives and public policy. It is not merely scientific precision that we are after, but more powerful instruments for achieving human objectives.

Wrong or imprecise measures are a source of hazard and even havoc. They can result in wrong policy with disastrous consequences. As John Kenneth Galbraith observed in his book The Great Crash 1929, the lack of reliable measures combined with faulty theoretical knowledge led to actions that worsened rather than mitigated the crisis. Galbraith cites poor economic intelligence among five principal causes for the Great Depression. From 1929 to 1932, “policy was almost entirely on the side of making things worse.”3 Had the real risks associated with US mortgage-backed securities been more accurately accessed a few years ago, the entire sub-prime mortgage crisis and resultant international financial debacle might have been avoided. Wrong measures can undermine good theory and practice. Right measures can dramatically enhance the rate of social progress.

It’s not just the economists and policy-makers who need new and better measures of economics and social progress. We all do. In democratic societies where ordinary citizens are bombarded by information and asked to support the best policies, the absence of clear, reliable measures of economic welfare and social progress lead to endless debate, confusion, obfuscation, recriminations and even despair. As we have recently witnessed, wrong measures can lead to a false sense of security or euphoria at the very moment crisis is preparing to strike.

3. Measures of National Income

Adam Smith, David Ricardo and the other great founders of modern economics made remarkable contributions to our understanding of the wealth of nations, yet they lacked effective measurements to apply their concepts with precision. This changed dramatically with the development of quantitative economic measures after World War I. Among all the tools evolved to measure economic progress, none has attracted more attention and controversy than GDP and related indicators used to measure national and per capita income over time and in different countries. With the onset of the Industrial Revolution, the conception of economic power and national wealth shifted from agriculture to industrial production. Then early in the 20th century it was further broadened to encompass a wide range of tangible and intangible services.

The idea of valuing such a diverse range of economic activities in terms of a single common denominator, price, was itself an ingenious invention, but one that has since given rise to serious misconceptions and policy distortions. As money is one of the most powerful instruments of social progress, price is one of the most powerful tools of measurement. But the temptation to measure all value in terms of price plays havoc with commonsense, reason and human values. Can we really equate the value of an antique vase, collector’s baseball card or music memorabilia with the cost of food and medicine to save the lives of thousands of children? Is a billion dollars spent on military armaments really equivalent to a comparable investment in education or public health? Is an extra dollar of income for the richest of the rich really equivalent in value to the individual concerned and society in general as an extra dollar earned by the poorest of the poor? Is a $100 of renewable energy equal in value to $100 of non-renewable fossil fuel? Is an hour of paid services for cooking or cleaning at home more valuable than an hour of unpaid work by family members? According to GDP, the answer to all these questions is ‘yes’.

GDP was developed as an indicator of market activity during the Great Depression and a war-planning tool during the Second World War, when the primary objective of government was to stimulate industrial production.4 Based on its utility during the war, it became an official instrument of US economic policy in 1946. Originally intended as an index of industrial growth, growth of GDP came to be regarded as synonymous with an improvement in a nation’s economic health and the welfare of its people. Its creator, Simon Kuznets, warned the US Congress about its limitations as early as 1934, “The welfare of the nation can scarcely be inferred from a measurement of national income as defined above.”5 Three decades later he asserted the need for distinguishing between quantity and quality of growth, costs and return, short and long run.6 In the early 1970s William Nordhaus and James Tobin again reminded us that GDP was never intended as a measure of welfare or well-being.7 In one of his last speeches Senator Robert F. Kennedy su