According to a survey conducted by Pew Research, the state of the economy was the most important concern voters had before this year’s midterms. Because the economy is so important, we should be able to understand whether or not it is doing well, right?
Unfortunately, “the economy” is a nebulous phrase and there is no definitive way to measure how it is doing. There are a variety of metrics and statistics that policymakers can look at to see how the economy is faring, and in today’s blog we are going to talk about a few of them that are overrated or underrated.
We should mention that these are just our thoughts on this issue. Certainly there is room for discussion and disagreement, but we hope this offers some new ways of thinking about the economy.
Overrated - GDP
If you ask a friend how they are doing, you probably wouldn’t expect them to respond by telling you how much stuff they have. While it is generally true that having more things often means that an individual has more access to resources, this is not the whole story of wellbeing. Similarly, because GDP only measures how much stuff is in an economy, it can sometimes miss the bigger picture of how people are doing in the economy.
Imagine two countries that each have the exact same GDP. Country A has high levels of poverty and extreme levels of pollution. Country B has low levels of poverty, and generates its production without the need for pollution. Clearly country B has a more sustainable economy, but GDP just doesn’t capture that.
Underrated - GPI
The Genuine Progress Indicator (GPI) is a relatively new alternative to GDP. GPI serves much of the same purpose as GDP, trying to measure how much economic activity is in a country, state, or local area, but it also takes into account things like how sustainable an economy is, or how educated the population is, recognizing that these have economic impacts that are not traded on formal markets.
One of GPI’s biggest advantages over GDP is that it measures the value of non-market activity such as at-home childcare and volunteering. There are lots of extremely valuable ways for people to spend their time that improve the economy even though no dollars change hands to make it happen.
Overrated - Stock Market
The stock market doesn’t get used as a signal for how the economy is doing as much as it used to, but the past two presidents have both mentioned it so it deserves some discussion here.
The main difference between the stock market as an indicator and an alternative like the yield curve is that the stock market doesn’t have a neat cutoff point where we can see something is wrong. If the yield curve is inverted, we know that people think the short term is riskier than the long term. If there is a 50% rise or fall in the stock market, that just means there was a change in the prices of stocks. Maybe it was due to variance, maybe it was due to fundamental shifts in the economy, but there is usually no way to know until much later.
Underrated - Yield Curve
The yield curve is often touted as one of the best recession indicators we have, but since we just talked about GDP being overrated we want to talk more generally about how the yield curve is beneficial outside that context.
The yield curve is the difference between the interest rates for 10-year treasury bonds and 2-year treasury bonds. In normal conditions, we should expect 10-year bonds to have higher interest rates, since it is riskier to hold bonds for longer periods of time where there is more uncertainty.
When the yield curve is inverted, 2-year bonds have higher interest rates than 10-year bonds, meaning the people who are buying and selling bonds are more nervous about short term economic trends than they are about long term trends. It becomes safer to hold money for 10 years rather than 2. It is always a bad sign when people are more nervous about the short term in the economy than the long term.
Overrated - U-3 Unemployment
The bureau of labor statistics reports six different unemployment measurements that each include different categories of people in the labor market. U-1 is the most optimistic, only accounting for people in the labor force who have been unemployed for at least 15 weeks.
In the middle of the spectrum is U-3 unemployment, what is considered the official unemployment rate. U-3 is the most straightforward measure of unemployment, calculating the percentage of the labor force that do not currently have a job.
U-3 is a useful unemployment measure, but it misses one crucial point that is critical to understanding the state of the labor force, underemployment.
Underrated - U-6 Unemployment
On the other end of the unemployment measure spectrum is U-6 unemployment. U-6 is often a more useful measure of unemployment than U-3 because it actually does account for underemployment.
If there is an economic downturn, employers are often faced with the need to cut costs. If they choose to cut costs by reducing the hours people work without laying them off, then other unemployment measures won’t capture the lost economic activity.
Overrated - Official Poverty Rate
The official poverty rate was created in the mid 1960s by economist Mollie Orshansky as a tool to measure progress in the War on Poverty. At the time, the average family in the United States spent a third of their income on food, so the poverty line was set at three times the cost of a “thrifty food plan” for minimum nutritional intake in the United States and adjusted to family size. This measure is updated every year by the Census Bureau to adjust for inflation.
The Official Poverty Rate has a lot of problems. One is that family budgets have changed significantly over the past half century since the Official Poverty Measure was first adopted. While food cost a third of a family budget in the mid 1960s, agricultural and supply chain advances have dropped that number to about an eighth today. Meanwhile, costs of housing and health care have increased precipitously. Add this to the fact that the Official Poverty Measure does not make geographic adjustments for cost of living and we have a potential for overestimating poverty in some parts of the country and underestimating it in other parts of the country.
Underrated - Supplemental Poverty Rate
Since 2010, the Census Bureau has been calculating an alternative poverty indicator called the Supplemental Poverty Rate. Starting from a basis of two-thirds of average spending, the Supplemental Poverty Rate then counts total income (including both wage income and public benefits) and makes adjustments for geography and work expenses. The Supplemental Poverty Measure gives us a more accurate picture of what poverty looks like in the United States over a half century after the War on Poverty.
Scioto Analysis calculates the Ohio Poverty Measure using a similar methodology to the Supplemental Poverty Measure, but using a larger dataset to allow for more geographic precision.
There is no perfect measure for how well the economy is “doing.” But a dashboard of GPI, the yield curve, U-6 unemployment, and the Supplemental Poverty Rate will give you a more accurate picture of what the economy looks like than a dashboard of GDP, the S&P 500, U-3 Unemployment, and the Official Poverty Measure. So next time when someone talks about “the economy,” don’t be afraid to ask “what do you mean?”