The Economy

At the end of October, the Bureau of Economic Analysis (BEA) is scheduled to release its 11th comprehensive revision of the National Income and Product Accounts (NIPA). Ordinarily such a development does not even rate a one-sentence mention, let alone an entire article. However, this time will be different, because the overall growth rate will be boosted substantially. The major shift is in the treatment of software, which will add $115 billion to GDP, according to the August 1999 Survey of Current Business. Since the creation of NIPA there has been a question about what to do with intermediate products purchased by business. If an automobile manufacturer buys steel for producing an auto body, that steel should not be counted twice. On the other hand, the machine tool used to stamp out that piece of metal should be included in investment. These are obvious cases, but software falls in the middle. Currently, software purchased by businesses isn't counted in GDP at all; it is simply treated as an intermediate good, whereas it ought to be considered investment. As a result, total GDP has been understated for years. BEA finally woke up to this fact, so starting in October it will boost GDP by the amount of software purchased by business. That change is likely to boost the real growth rate by about half a percentage point per year. It might initially appear that such a change is of interest only to government statisticians and economic forecasters who have nothing better to do than read BEA releases. But it is likely to have a significant effect on monetary policy and hence on overall economic activity. Alan Greenspan often has stated that while the Fed has been less worried about reemerging inflation because of the recent gains in productivity, as soon as those gains start to falter, the Fed might have to tighten. However, these revisions will boost reported productivity growth substantially. Another key factor in these revisions is that the quality-adjusted price of software has been declining rapidly. If software receives a larger weight in total GDP, as will certainly be the case with this adjustment, then the GDP deflator will rise less rapidly. That will give Greenspan another reason not to tighten, even though the economy is at full employment and continues to grow rapidly. The third key change is that the negative personal-saving rate, which has been questioned by many economists, should disappear. BEA is expected to announce that while consumers are not saving as large a proportion of their income as they used to, saving is still positive. The ratio of both saving and investment to GDP will be boosted by these revisions, which can provide the Fed with yet another reason not to tighten, since an increasing proportion of total output is being devoted to capital formation instead of current consumption. One could argue that monetary policy ought to be based on what is actually happening, not on artificial changes in real growth and inflation caused by changes in methodology at the BEA. In fairness to Greenspan, he has done more than previous Fed chairmen in identifying those areas in which the government figures are amiss, especially for inflation and productivity growth. Since many economists have long been aware of these statistical anomalies, they do not come as a major surprise. Nonetheless, the fact that the published figures for productivity will be higher, inflation will be lower, and saving and investment will be higher will give the Fed more leeway to keep the recovery going indefinitely. It is now becoming increasingly clear that the technological revolution has boosted productivity growth to the point where an underlying growth rate of 4% can be maintained. When the official NIPA statistics support this fact, the chances of a Fed-caused slowdown or recession will recede further. Michael K. Evans is president of the Evans Group and professor of economics at the Kellogg School of Business, Northwestern University, Evanston, Ill. His e-mail address is [email protected].