Understanding the mystery of India’s new GDP calculation
Numbers and statistics are important not just for policy makers but also for the common populace that exercises its votes to either reward or punish a government. Numbers, figures, and statistics act as report cards to determine the performance of a government’s policies. They are also important for investors, both domestic and foreign, who use them to gauge investment opportunities in the country. It is for these reasons that the newly revised calculation method of GDP (Gross Domestic Product) form a significant national issue.
GDP or Gross Domestic Product is the total value of all goods and services produced in a country’s economy in a specific time period and is usually given in local currency. GDP growth rate, denoted in percentage, is the growth in GDP as compared to that of the previous year.
There are variations in the ways to calculate GDP and it is the introduction of these new calculations that has caused a spike in India’s recent GDP growth rate, leading to quite a lot confusion and debate. Earlier, India’s GDP growth rate for the year ending in March 2014 was marked at 4.7%, but with the new calculation methods it has now been revised to be 6.9%. And for the fiscal year ending in March 2015, the earlier estimated GDP that was marked at 5.5% has now increased to 7.4%, a number that closely rivals China’s rate. Let’s understand the mystery behind the new GDP calculation:
How did they arrive at the new numbers?
The changes in the GDP calculation were devised by India’s statisticians working for the Central Statistics Office (CSO) that is under the Ministry of Statistics & Programme Implementation (MOSPI), who released the new figures earlier in February.
There are three important changes made in the calculation of the GDP:
- Changing the base year
- Replacing factor costs with market prices
- Widening of the data pool
Changing the Base Year:
Choosing a base year is the first step while counting the ‘real’ GDP. A real GDP growth rate removes any effects that have arisen due to inflation to give us a truer picture of economic reality. For the revised GDP calculations the Indian statisticians have changed the base year from 2004-05 to 2011-12. This means that the ‘real’ GDP will be counted by keeping the prices of 2011-12 as the base prices instead of referring to the prices of 2004-05. This change alone has played an important part in shooting up the GDP and related numbers.
The change in base year is not an unusual phenomena as base year is regularly updated.
Replacing Factor Costs with Market Prices:
There are two ways to calculate GDP and those are calculating via factor costs or calculating via market prices. Until the recent revisions India had used factor costs for calculating GDP but now we have shifted towards market prices. Factor costs means the cost of production that the producers or service providers have incurred after removing the effect of indirect taxes or subsidies. But by the recent changes we have now shifted towards calculating the GDP by measuring the Gross Value Added (GVA) at market prices. Market prices mean the actual expenditure incurred by consumers. These will also include any subsidies such as food and petrol that are provided to the consumer.
The shift from factor costs to market prices indicates that India is slowly conforming to international norms as most countries use market prices for calculating the GDP.
Widening of Data Pool
In statistics, the larger the sample, the more accurate the extrapolations are, generally speaking. Previous data was sampled from Annual Survey of Industries (ASI), which comprised of about two lakh factories. The new database draws from the five lakh odd companies registered with the Ministry of Corporate Affairs (MCA21). While the earlier data gave only a factory-level picture, the new data looks at the enterprise level.
Does this reflect reality?
A sudden spike in GDP or GDP growth rate has to be understood without resorting to extreme opinions. It doesn’t mean that our economy has overtaken China’s economy in a fortnight and it also doesn’t mean that these numbers are fully misleading. The revisions are not abnormal or unusual practices and can be reasonably argued. One can still question the timing of these revisions as the new government has just completed nine months and the citizens are expecting some results without obfuscation.
Further, the new numbers pose a challenge to the Reserve Bank of India (RBI) because the bank decides whether to increase or decrease the interest rates. For example, until the now the economy seemed to be in a poor shape with the earlier GDP numbers. So the central bank was expected to decrease the lending rates. But the sudden spike in GDP numbers puts RBI in a dilemma. Also, one must view at GDP and related numbers by keeping other numbers in mind, like unemployment rate, population below poverty line (BPL), power consumption, cement consumption, etc. and these numbers and the realities they represent won’t change overnight with the change in GDP calculation methods.
One must also keep in mind that the revised calculation methods are welcomed by both the earlier government and also the new government. The earlier government was criticised for sinking the economy but the revised numbers make the earlier government’s economic track record look better than before. Also, the new government also has far better GDP numbers to display than before. So it is expected that political opposition to these new calculation methods will be almost nil. However opposition can be found at the academic level where it is believed that the new numbers put a Band-Aid on the harsh realities faced by the largely poor population of the country.
However, as informed citizens of a democratic country we must be aware of the ground realities before judging the government, its numbers, and its policies, and time will surely tell how accurately the new GDP numbers reflect the condition of our country and its economy.