GDP growth figures are economic nonsense

The GDP growth figure for the fourth quarter of 2010, which purports to show an annualized robust 7.8% GDP growth, is economically meaningless. It represents nothing, dazzles, and is liable to result in conclusions that are the opposite of what is needed.
In macroeconomic terms, growth figures for one quarter are irrelevant. Statistically, they indicate nothing about future economic growth trends. The more relevant figure is GDP growth for 2010 as a whole, which was 4.5%, after 0.8% growth in 2009.
In my opinion, Israel’s growth rate in 2010 was a kind of temporary compensation for the near complete halt in growth the year before, which means that the average growth for the two years was 3% a year – and that, in my opinion, is a very low rate for the Israeli economy.
Why doesn’t the public feel the rapid growth?
True, Israel’s growth rate in the 2000s was rapid in comparison with developed economies, but it was not rapid in comparison with emerging economies. Even the US, which brought the economic crisis upon itself in 2008, achieved 0.7% average annual GDP per capita growth in 2000s, compared with Israel’s rate of 1.2%. The result is almost no change in the relative standard of living: $28,500 GDP per capita in Israel and $46,000 in the US.
Even with one quarter of rapid growth, the Israeli economy is still far from achieving robust growth. To reach the US GDP per capita, Israel needs 7.8% growth not in one quarter, but for 40 quarters. Regrettably, we will not see the Israeli economy achieve this.
The self congratulations about the rapid growth rate has confused the public. Ostensibly, the figure shows rapid growth, but the public does not feel it. There is a popular argument that tries to settle the paradox, which says, “Rapid growth does not trickle down to the middle class.” The truth is much simpler: there is no rapid growth!
When there is rapid economic growth, the middle class feels it. Unemployment will be quite low, real wages will rise, investment will increase, tax revenues will rise, and the tax burden will fall. There would even be budget expansion, not cuts. If none of this is being felt on the ground, it is because the rapid growth does not exist.
How has the strong shekel affected production and competitiveness?
A key reason why the Israeli economy does not achieve its growth potential is insufficient investment. In the past 15 years, the proportion of GDP invested in industry has fallen from 16.5% to 12%. The reason is that it is not worthwhile to invest. The result is that no new sources of growth are developed, and the economy now lacks the potential for sustainable growth.
In the past five years, the shekel has strengthened 20% against the dollar. This is significant, because it depresses exports and investment. In 2005-08, the salary of industrial employees rose 40% in dollar terms – an average increase of 7%.
It is unreasonable to assume that worker productivity, in dollar terms, has increased at the same rate. It probably rose by less than half this rate. I therefore believe that the shekel’s appreciation must have hurt the competitiveness of Israeli industry, and not just on the export side, but also on the import substitution side.
Even though five years have gone by since the shekel’s appreciation began, there was nonetheless a $7 billion current accounts surplus in 2010. Ostensibly, it seems that the shekel’s appreciation did not affect exports or the current accounts, but I disagree.
Exports of goods and services peaked in the first quarter of 2008, two years after the appreciation began (there is a lag for its impact to be felt). In the 11 consecutive quarters from then until the fourth quarter of 2010, exports were stagnant in real terms, which could be expected from economic theory. Although there was impressive export growth in 2010, it followed a slump in 2009. In other words, 2010 was only a correction. In 2008-10, Israel’s GDP rose 8%, mostly because of growth in the trade and services sector, and an 8.6% increase in private consumption, but exports in real terms were flat.
It is presumably more difficult to export nowadays, in the aftermath of the global economic crisis, but the 20% appreciation of the shekel exacerbates the problem. Because exports account for a high 45% of total GDP, it is not possible to achieve sustained rapid growth without an increase in exports.
Anyone who thinks that the shekel’s current exchange rate is the right rate, should remember one painful fact: real wages, in terms of the Consumer Price Index (CPI), have not risen in ten years.
In order to cope with global competitiveness when the shekel was strong, industry chose to erode salaries (Israel’s productivity is no higher than global productivity), or to close down. Low technology industries have shrunk, and high-tech industries are struggling. Fortunately, we have Teva Pharmaceutical Industries Ltd’s (Nasdaq: TEVA; TASE: TEVA) Copaxone, Israel Chemicals Ltd’s (TASE: ICL) potash, Intel Corporation’s (Nasdaq: INTC) Fab 28 at Kiryat Gat, which have saved Israeli exports in the past few years. But they cannot save Israeli industry forever.
What can be done?
I do not think that the fourth quarter GDP figures portend developments in 2011, but rather conclude the private consumption shopping spree of 2010. While rapid economic expansion is possible, it won’t be at the current profit margins of exports. Expansion of economic activity requires either a weakening of the shekel or high unemployment and a reduction in Israeli salaries.
I believe that a weakening of the shekel is preferable over erosion of salaries. The mechanism for achieving higher profit margins through unemployment and eroded salaries is the worst mechanism for the economy, because it causes great suffering, wastes potential output, and above all, it is much slower and much less effective.
Published by Globes [online], Israel business news – www.globes-online.com – on February 20, 2011