Economics

The most important indicator of economic growth in the UK

What are the effects of inflation on your wealth? Where does economic power come from? What main economic indicators tell you the most about UK economic growth? What is GDP and is it useful for economic and investment analysis in 2017?

These are all important questions. But let’s start with the first one.

What is GDP? What does GDP mean?

GDP stands for Gross Domestic Product. It’s a number. It’s actually a result of a basic formula that is supposed to help economic analysis by determining who is growing (and thus, which countries have economic power). Here is the equation:

GDP= C + I + G – (surplus/deficit)

The letters in the formula are each, themselves, a kind of economic indicator. ‘C’ means consumption, commonly measured by consumer spending. When consumers spend money, it leads to economic activity and sometimes growth. It’s an important indicator and a key part of economic forecasts (and also closely watched by the central bankers who make monetary policy).

The ‘I’ is for business investment. Businesses borrow money from banks (or from investors if a bond is issued). This money builds factories, new goods and services and, in theory, creates new jobs, incomes, and improves economic growth and wealth. Investment, then, is a key component of GDP.

‘G’ is for government spending. In some economies, the government spends large amounts of money on key industries (aerospace, defence, farming). It also invests in major infrastructure projects like roads, airports, rail and housing. The government is also a large employer in some countries, contributing to incomes and the well-being of tens of thousands of citizens.

Those three components of GDP – consumption, investment, and government spending – are added together. Then, if a country has a trade deficit, the size of that deficit is subtracted from the sum. If a country has a trade surplus, the size of that surplus is added to GDP. This is why trade deficits (part of a larger group economists call the ‘Current Account,’ are often an indicator of economic strength or power.

Is GDP a useful indicator for UK investors?

In 2016, Britain had the fastest growing GDP of any G7 country (the G7 being industrialised economies like France, Germany, Italy, Japan, Canada, and the United States). As an economic indicator, then, GDP would tell you that the UK economy is strong and economic growth is positive. But is it?

Our view is that modern economists have it all wrong – especially the Keynesians School. Why? Because they see the economy as a machine that must be kept in balance. The GDP equation itself is fairly modern. It was invented to try and quantify the impact of Franklin Delano Roosevelt’s Great Society spending programmes on the US economy.

Another way of saying that is that the equation was invented to show that FDR’s spending was good for the economy. The best way to show that was an equation which showed a nominal (or quantitative) increase in economic activity. That quantitative increase was deliberately equated with qualitative improvements in the economy and quality of life.

Here’s the problem: by expressing the economic model as a sum, you create the impression that if one element in the sum goes down (consumer spending) another element can go up (government spending). Thus, the sum total is still the same, or larger!

Keynesians focus on GDP, Austrians do not

That’s the idea behind Keynesian stimulus. You grow the economy at the aggregate level – and thereby human happiness at the individual level – by carefully managing the individual elements of the equation. If investment is too low, tweak interest rates. If consumption is too high and trade deficits result, tweak interest rates. When all else fails, “stimulate” final consumer demand with government spending.

Using GDP as an economic indicator is based on a kind of equality or equilibrium in the system. Because it begins by looking at the economy from the top down as a sum total, this world view wants to make sure things don’t become too unequal; that the “product” of all that labour is fairly and evenly distributed; and that the whole system remains stable and predictable for everyone who operates within it.

This last point is important because it’s a philosophical preference. The model doesn’t really describe the world as it is, or human beings as they are. It describes the world as the designers of the model would like it to be, or believe that it ought to be, based on their own preferences about equality, liberty and wealth

Focus on savings, production

The main opponent of the Keynesian school is the Austrian school of economics. Many of its early proponents were, in fact, from Austria. But anyone can be an ‘Austrian’ provided they believe in the general principles of sound money, limited government, and an emphasis on saving and production over borrowing and consumption.

The Austrians believe credit should not exceed available savings. Thus, the savings rate and the interest rate are two important economic indicators in Austrian thought. All investment by businesses is accomplished by accessing savings in the banking system accumulated my private investors who are willing to save and live beneath their means.

Key economic indicators to watch in 2017

For UK investors, the key economic indicators to watch in 2017 are the trade deficit, the savings rate, and GDP growth. If GDP growth is driven by borrowing and consumer spending, the Austrians would call in non-productive and possibly dangerous. Government ‘stimulus’ spending boosts GDP. But it’s always a short-term boost, usually employed in an economic crisis, when businesses are reluctant to invest and consumers reluctant to spend.

Another key factor for UK GDP growth will be economic news that either confirms or disproves that Brexit is good the UK economy. Britain hopes to erase a trade deficit with the European Union by expanding trade with the rest of the world and thus producing more UK economic growth. Time will tell!

The idea all economics comes down to land prices seems arcane. But it isn’t. Land is special. And two recent developments make that painfully obvious.
Continue reading
Charlie Morris and Nick Martin discuss how to invest in insurance firms make their money, and how the best firms manage underlying risk in their portfolio.
Continue reading
After an initial bump, markets took the news of the Italian referendum vote in their stride. Does that mean Italy and Europe are out of the woods?
Continue reading
Will rising inflation mean higher mortgage rates in the UK? Usually higher rates lead to falling property prices. But there may be stronger forces at work.
Continue reading

Latest Economics articles

  • Tax Cuts for the Rich… Hallelujah!

    BALTIMORE – Have we been too cynical? Last Thursday, the House passed its big tax-cut bill. The Dow popped up 187 points on the news. A reporter asked us later: “Will the Dow go to 40,000?” Assuming a tax bill…

    View this article
  • When the Robots Take Over

    BALTIMORE – How about those techs! As Chris Lowe reported in Wednesday’s Market Insight column, the eight most valuable tech companies in the world – Facebook, Apple, Amazon, Netflix, Google parent Alphabet, Baidu, Alibaba, and Tencent – have added $1.7 trillion…

    View this article
  • A Luddite’s Guide to the Future

    BALTIMORE – We were disappointed to see the pedestal… naked… forlorn… its statue gone… its purpose defunct. For more than a century, the bronze statue of Supreme Court Justice Roger B. Taney – gravely pondering the weighty issues of the…

    View this article
  • The Problem With Millennials

    DELRAY BEACH, FLORIDA – “What’s wrong with them?” In front of us was a group of young women, tying their surfboards on top of their Jeep. At first glance, nothing at all. They had come from a nearby surf camp…

    View this article
  • How the GOP Tax Plan Rips Off the Middle Class

    RANCHO SANTANA, NICARAGUA – Last Thursday, Senate Republicans announced their proposed tax reform measures. Instead of eliminating the inheritance tax – like the House version does – the Senate proposal would increase the exemption by $5 million per person. And…

    View this article
  • Am I wrong about the serenity?

    Your regular Friday editor Boaz Shoshan is busy finalising a series of reports. Word is, you’re going to need them to evade a coming government crackdown. Hence the rush. But that’s all he’s giving away. Today, we take a look…

    View this article
  • Why Funerals Are Good for the Economy

    RANCHO SANTANA, NICARAGUA – “I wanted to build a little vacation cottage.” We were getting a tour of concrete and rebar. A colleague is building a house on the ocean. It seems to have gotten away from him. “Well…” he…

    View this article
  • Paradise palaver and the War on You

    The Paradise Papers have exposed a bundle of liars and cheats. Namely, the politicians who wrote the tax rules that make using offshore tax havens legal. And not just because their own pension fund makes use of those loopholes. The…

    View this article
  • The Problem With 21st-Century Companies

    RANCHO SANTANA, NICARAGUA – We’re down in Nicaragua giving a little speech to a group of financial analysts and publishers. I’ll be sharing the full contents of the speech with members of our Inner Circle advisory soon. A view of the coastline…

    View this article
  • The World’s Favorite Stock Is Doomed

    POITOU, FRANCE – “The Age of Easy Money Is Nearly Over,” reads a headline at Bloomberg. Oh yeah? We suspect that it has hardly begun… stay tuned. Destroying Capital In the meantime, we are exploring the past to get hints…

    View this article

From time to time we may tell you about regulated products issued by Southbank Investment Research Limited. With these products your capital is at risk. You can lose some or all of your investment, so never risk more than you can afford to lose. Seek independent advice if you are unsure of the suitability of any investment. Southbank Investment Research Limited is authorised and regulated by the Financial Conduct Authority. FCA No 706697. https://register.fca.org.uk/.

© 2017 Southbank Investment Research Ltd. Registered in England and Wales No 9539630. VAT No GB629 7287 94.
Registered Office: 2nd Floor, Crowne House, 56-58 Southwark Street, London, SE1 1UN.

Terms and conditions | Privacy & cookie policy | FAQ | Contact Us | Top ↑