Part 7 (2/2)

-BENJAMIN DISRAELI

It would be an understatement to say that the world today is a very different place than it was just 20 years ago.Throughout our discussion, we've described, from trunk to tail, the tremendous opportunities and challenges presented by the new elephant in our living room: globalization. Its ripple effects have touched virtually every facet of our daily lives-from how we feed ourselves to what we do for a living, and from how we teach our children to what we aspire to be, have, and do.

Down but Not Out In the Macro Quantum world, greater cross-border exchange and the rise of emerging powers and NSAs have reshaped the face of the global economy. To continue to survive and thrive in this ecosystem, we've discussed how the United States must adapt from a unipolar to a multipolar (or what Richard Ha.s.s calls a ”nonpolar”) system where dozens of players-states and NSAs alike-exercise power and influence. 1 1 One popular adage on Wall Street is, ”the trend is your friend,” meaning you profit by trading with the market not against it.While the United States once was One popular adage on Wall Street is, ”the trend is your friend,” meaning you profit by trading with the market not against it.While the United States once was the the market, the market now has many players that America cannot control. And before we let other countries control, or even corner, the market, it is in our collective interest to solidify the rules and sanction the referees of the globalization game. This will require not only acknowledging but actually welcoming new players through more inclusive multilateral architecture and policy stances. Cultivating a multilateral ”strength in numbers” att.i.tude will be key to avoiding the calamities of unchecked globalization that befell the world in the early twentieth century. market, the market now has many players that America cannot control. And before we let other countries control, or even corner, the market, it is in our collective interest to solidify the rules and sanction the referees of the globalization game. This will require not only acknowledging but actually welcoming new players through more inclusive multilateral architecture and policy stances. Cultivating a multilateral ”strength in numbers” att.i.tude will be key to avoiding the calamities of unchecked globalization that befell the world in the early twentieth century.

The recommended adjustments in trade, energy, security, immigration, health, environment, and poverty policies aim to strengthen and modernize our current inst.i.tutional infrastructure-including NATO, the WHO, the WTO, the World Bank, and the UN, among others. Lately, many of these organizations have been left to languish, but with a little attention and extra funding, a revived multilateral system could shepherd the capitalist peace forward based on the rule of law not the law of the jungle. In addition to reforming such multilaterals, the United States needs to turn a critical eye to policies, att.i.tudes, lifestyle trends, and inst.i.tutions at home. Small adjustments at the domestic level could have quantum reverberations beyond our borders. But this will not be easy.

While the United States has lost economic ground to new players and tarnished its reputation abroad through its own knee-jerk unilateral reactions, it is still capable of evolving and thriving in the Macro Quantum world. Although American government has been slow to adopt the new thinking and policies necessitated by globalization, our private sector has been at the forefront of these megatrends for decades. The United States has topped the World Compet.i.tiveness Yearbook rankings for 15 straight years through 2008, a study that surveys 55 economies according to 331 criteria measuring how nations create and maintain conditions favorable to businesses.2 And despite the financial body blows it has taken recently, the United States still has arguably the world's most sophisticated economy and financial system. Moreover, the United States is the global vanguard of venture capital and technology as well as the leader in measures of individual productivity across many key industries. While the global credit crisis, bank failures, and mounting government deficits seem ominous, they are hardly intractable. The United States has a uniquely entrepreneurial and pragmatic culture, finding the means to reinvent itself even at the darkest hour. U.S. business has always been adept at Joseph Schumpeter's ”creative destruction”-the Darwinian process whereby visionary, radical innovation continuously propels the economy forward; this must become an integral feature of our government as well. And despite the financial body blows it has taken recently, the United States still has arguably the world's most sophisticated economy and financial system. Moreover, the United States is the global vanguard of venture capital and technology as well as the leader in measures of individual productivity across many key industries. While the global credit crisis, bank failures, and mounting government deficits seem ominous, they are hardly intractable. The United States has a uniquely entrepreneurial and pragmatic culture, finding the means to reinvent itself even at the darkest hour. U.S. business has always been adept at Joseph Schumpeter's ”creative destruction”-the Darwinian process whereby visionary, radical innovation continuously propels the economy forward; this must become an integral feature of our government as well.

For much of the last decade, the United States' intoxicating post-Cold War confidence as the world's sole superpower deluded our government into believing that we could control globalization by sheer will. This has proven to be a myopic and unfortunate miscalculation. Now, the United States must begin to dismantle entrenched Micro Domestic att.i.tudes. Even if these strategies brought success 50 years ago, we must part with them in search of something more fitting for today's very different world. More important, these changes could serve as a model for the world to emulate. The United States is still in many ways the world's leader, but clearly the recent administration has misconstrued the source of this power. The esteem the United States has been afforded by the international community comes not from brute economic and military strength, as recent officials have believed, but the enduring admiration, trust, and respect its pioneering form has garnered during the twentieth century. The United States has long been viewed as both experiment and inspiration. Even as early as 1630, famous Puritan preacher John Winthrop told the members of the Pilgrim settlement in Ma.s.sachusetts that they would serve as a ”city upon a hill,” a standard for the rest of the world. As the United States settles into maturity after 230-plus years as an independent ent.i.ty, it must fight off the inertia of old habits and remember its role as a great innovator and leader. While global markets deal with the credit crisis triggered by America's subprime woes, United States leaders.h.i.+p on the financial front may be truly appreciated by the world.

One factor preventing the United States from abandoning the Micro Domestic paradigm is simply how charmed and effortless our lives have been under this old perspective. Few alive today remember firsthand the Great Depression or World Wars I or II. Postwar babies have grown up bathed in prosperity, free to pursue individual happiness, but this has sometimes translated into unsustainable instant material gratification, mountains of debt, and displays of angry, armed aggression. Today, the circ.u.mstances have changed. What if such att.i.tudes were to spread globally? How would we deal with a world where 6.7 billion people ”pursue happiness” through thoughtless consumption, and countries flex their military muscles to enforce their national agendas? Happiness is surely more than endless consumption with no regard for the true quantum costs to others. So what policies do we craft to achieve a more thoughtful, responsible happiness? To answer these questions requires new modes of thinking, and new ways of measuring where the United States stands, where it is going and how far it is from where it wants to be. Many critics have noted the structural flaws inherent in our economic metrics for measuring progress and failure. Our Macro Quantum world requires different ways to a.n.a.lyze root causes to problems, identify possible solutions, and monitor and evaluate policies and their outcomes.To move forward, we will need to view the world through radically different lenses and monitor ourselves on a new, multigauged dashboard. Driving with only a speedometer might tell us how fast we're going, but it doesn't tell us if we're going in the right direction or if we have enough fuel to get there.

Living by Numbers A man enters the lobby of an apartment building and greets his neighbor on her way out. ”What's the temperature like outside?” she asks. ”Feels like thirty-five or so,” replies the man. Without further context, this single number doesn't tell us much. Perhaps this exchange happens in New York, and the woman will turn back to grab a heavier coat. Or maybe it occurs in London, where she'll brace herself for the sweltering 35 degrees Centigrade (95 degrees Fahrenheit). Or it may be the case that (regardless of locale) the man's running a fever and his response may not accurately correspond with the actual air temperature.

While this particular ambiguity is readily dispelled, the scenario draws attention to perhaps the greatest Macro Quantum challenge-devising, gathering, and interpreting appropriate measurements and statistics. Specifically, what measures should we be using to judge well-being, success, wealth, progress, and happiness? Temperature is fairly objective and easy to quantify, but measuring complex phenomena like economic advancement is messier and more subject to distortion than one might imagine. How do we best collect and aggregate data? How can we account for observational error and intentional statistical manipulation? Can we compare figures across borders? And is just measuring GDP alone enough to give us the best barometer for advancement?

While Adam Smith is often considered the father of modern economics, English economist and philosopher William Petty actually tried to get a scientific handle on the country's economic health almost a century before Smith and made some of the first estimates of national accounts (an accounting measure of the entire country's income and output) in 1665. Petty, Oliver Cromwell's chief economist and a.s.sistant to philosopher Thomas Hobbes, was one of the first thinkers to note that a country's wealth was larger than its sum of gold and silver. In trying to estimate the size of Britain's economy, he discovered that England's stock market was worth more than all its hard a.s.sets-land, metals, and livestock-and the difference must be the ”value of people”-human capital.3 Petty was one of the first to recognize money in circulation and the velocity of it changing hands had much to do with economic value. It was here that the basic notion of a.n.a.lyzing and quantifying a country's economic activity was born. Petty was one of the first to recognize money in circulation and the velocity of it changing hands had much to do with economic value. It was here that the basic notion of a.n.a.lyzing and quantifying a country's economic activity was born.

The next major breakthrough in national accounting didn't come until the early twentieth century, as Ted Halstead and his colleagues describe: In 1931 a group of government and private experts were summoned to a congressional hearing to answer basic questions about the economy. It turned out they couldn't; the most recent data were for 1929, and they were rudimentary at that. In 1932, the last year of the Hoover administration, the Senate asked the Commerce Department to prepare comprehensive estimates of the national income. Soon after, the department set a young economist by the name of Simon Kuznets to the task of developing a uniform set of national accounts.These became the prototype for what we now call the GDP.4

Since the implementation of a formal system of national income and production accounting in the depression era, economic activity, whether tallied as gross national product (GNP) or as gross domestic product, has been the premiere measure of economic well-being. GDP, defined as the total market value of all final goods and services produced in a country in a given year, has become the most accepted standard and has changed forever how we look at public policy. Before the advent of national accounting, economists rarely had been consulted on public policy. Equipped with powerful new statistical tools, they became the the policy authorities of the postwar era. policy authorities of the postwar era.

Yet even the forefather of national accounting realized the limitations of GDP. Already in 1934, Kuznets warned that, ”the welfare of a nation can scarcely be inferred from measurement of national income.” He wrote again in 1962: ”Distinctions must be kept in mind between quant.i.ty and quality of growth, between its costs and return, and between the short and the long run. Goals for more growth should specify more growth of what and for what.”5 In other words, GDP and its components give us a measure of how much we produce and consume-but it doesn't reflect any of the qualitative aspects of the economy. It cannot answer essential questions: Are we consuming too much? Is some of today's registered consumption simply a waste? Will an increase in GDP today have a negative effect on GDP in the future? And, perhaps most important, are we producing goods and services that benefit society as a whole? Kuznets' critique has since been echoed by many prominent economists including n.o.bel laureates Joseph Stiglitz, Amartya Sen, and Muhammad Yunus. In other words, GDP and its components give us a measure of how much we produce and consume-but it doesn't reflect any of the qualitative aspects of the economy. It cannot answer essential questions: Are we consuming too much? Is some of today's registered consumption simply a waste? Will an increase in GDP today have a negative effect on GDP in the future? And, perhaps most important, are we producing goods and services that benefit society as a whole? Kuznets' critique has since been echoed by many prominent economists including n.o.bel laureates Joseph Stiglitz, Amartya Sen, and Muhammad Yunus.

GDP is a powerful indicator, but it is by no means a complete measure of socioeconomic activity. On the one hand, as economist and n.o.bel Laureate John Kenneth Galbraith reported, prosperity spread rapidly in the era after WWII in part thanks to ”little observed but spectacular improvements in the statistical measures of the current output of the U.S. plant.”6 But GDP is not a wholly accurate or objective measure. It excludes a number of factors that contribute to economic well-being, like the value of nonmarket goods and services (especially natural resources) and informal and unpaid activities.The contributions of stay-at-home mothers (or fathers) are ignored as well as in-kind trade.Yet anytime a dollar changes hands GDP is boosted, even if well-being or value is not created. If a housekeeper and lawn care company are hired to perform some domestic duties previously performed by a family member without pay, GDP is boosted. But GDP is not a wholly accurate or objective measure. It excludes a number of factors that contribute to economic well-being, like the value of nonmarket goods and services (especially natural resources) and informal and unpaid activities.The contributions of stay-at-home mothers (or fathers) are ignored as well as in-kind trade.Yet anytime a dollar changes hands GDP is boosted, even if well-being or value is not created. If a housekeeper and lawn care company are hired to perform some domestic duties previously performed by a family member without pay, GDP is boosted.

Since GDP includes all activities where money changes hands, it necessarily views cash-generating activities related to natural disasters and crime in terms of economic gains gains. For example, earthquakes and hurricanes register immense damage and disrupt thousands of lives, yet they also typically generate economic and labor expansion through rebuilding efforts. While disasters may raise GDP by causing money to change hands, they do not create well-being. French cla.s.sical liberal theorist Frederic Bastiat pointed out this faulty rationale nearly 160 years ago in his parable of the broken window.7 Bastiat describes a shopkeeper whose window is broken by a boy. Because repairing the busted window makes work for the glazier, who will then buy bread, benefiting the baker, who will then buy shoes, benefiting the cobbler and so on, the townspeople hail the mischievous boy as an economic benefactor, ignoring the opportunities the shopkeeper may have had if he had not been forced to spend his money on a new window. Perhaps he would have spent the money to hire a new worker for his store, or saved for his daughter's education. Likewise, GDP is unable to capture the fact that victims of floods, hurricanes, wildfires, and earthquakes are merely replacing destroyed property (if even possible), not adding to their wealth or happiness. By this equation, the most productive citizens for a national economy are ”terminally ill cancer patients going through a costly divorce,” because they generate a lot of economic activity. Bastiat describes a shopkeeper whose window is broken by a boy. Because repairing the busted window makes work for the glazier, who will then buy bread, benefiting the baker, who will then buy shoes, benefiting the cobbler and so on, the townspeople hail the mischievous boy as an economic benefactor, ignoring the opportunities the shopkeeper may have had if he had not been forced to spend his money on a new window. Perhaps he would have spent the money to hire a new worker for his store, or saved for his daughter's education. Likewise, GDP is unable to capture the fact that victims of floods, hurricanes, wildfires, and earthquakes are merely replacing destroyed property (if even possible), not adding to their wealth or happiness. By this equation, the most productive citizens for a national economy are ”terminally ill cancer patients going through a costly divorce,” because they generate a lot of economic activity.8 Figure 9.1 Figure 9.1 ill.u.s.trates some of the concepts-such as leisure, health, and satisfaction-that GDP cannot measure, as well as some concepts that are included in GDP but do not contribute to well-being, such as depreciation and ”regrettables” such as spending on crime and disaster remediation. ill.u.s.trates some of the concepts-such as leisure, health, and satisfaction-that GDP cannot measure, as well as some concepts that are included in GDP but do not contribute to well-being, such as depreciation and ”regrettables” such as spending on crime and disaster remediation.

If, for a moment, we set aside the philosophical issue of what we want to measure and consider GDP not as a proxy for well-being but simply as a measure of economic activity, there are still significant statistical challenges surrounding how GDP is actually measured. In his 1950 book On the Accuracy of Economic Observations On the Accuracy of Economic Observations, Princeton Economics Professor Oskar Morgenstern reminded us that national income may only be measured within a 10 percent margin of error, although economic policy advisers often propose policies based on adjustments in national income of 1 percent or less-a s.h.i.+ft that is statistically insignificant.9 Although data collection has become more sophisticated since Morgenstern's book was published, accuracy remains as elusive as ever. Many countries lack adequately trained professionals capable of observing economic data and rely instead on GDP estimates made by the Word Bank. Some developing countries are experiencing fundamental economic and social changes that bring more stakeholders into the market, changing the way people invest, get employed, earn money, and consume; statisticians may have a difficult time keeping up. Nor can aggregate statistics at a national level capture regional disparities within these states. Even in OECD countries, only within the last 70 years have government agencies and private economic researchers systematically collected economic data, and this data is still p.r.o.ne to manipulation and error. Although data collection has become more sophisticated since Morgenstern's book was published, accuracy remains as elusive as ever. Many countries lack adequately trained professionals capable of observing economic data and rely instead on GDP estimates made by the Word Bank. Some developing countries are experiencing fundamental economic and social changes that bring more stakeholders into the market, changing the way people invest, get employed, earn money, and consume; statisticians may have a difficult time keeping up. Nor can aggregate statistics at a national level capture regional disparities within these states. Even in OECD countries, only within the last 70 years have government agencies and private economic researchers systematically collected economic data, and this data is still p.r.o.ne to manipulation and error.

Figure 9.1 What GDP Does (and Does Not) Measure What GDP Does (and Does Not) Measure SOURCE: Deutche Bank. Deutche Bank.

Moreover, there may be strong incentive for governments to adjust, or even falsify, statistics. Improving economic performance can increase the responsible party's chances of staying in power. Consider China, where regional officials' performance is measured by provincial GDP growth.10 Rampant ma.s.saging of local growth figures has resulted. Statistical manipulation can also help to gain entry into international organizations, like when Greek government officials distorted budget deficit numbers in order to gain entrance into the European Monetary Union (EMU). Rampant ma.s.saging of local growth figures has resulted. Statistical manipulation can also help to gain entry into international organizations, like when Greek government officials distorted budget deficit numbers in order to gain entrance into the European Monetary Union (EMU).11 Up until 1995, Greece maintained high government deficits, often more than 10 percent of GDP. The number dwindled incredibly rapidly, and by 2000, Greece's deficit was below 3 percent making the country eligible for EMU members.h.i.+p. After Greece was accepted to the EMU, the Statistical Office of the European Communities refused to validate figures prepared by the National Statistical Service of Greece (NSSG). In reaction, the NSSG was forced to revise its debt estimate several times until the surplus became a deficit. Up until 1995, Greece maintained high government deficits, often more than 10 percent of GDP. The number dwindled incredibly rapidly, and by 2000, Greece's deficit was below 3 percent making the country eligible for EMU members.h.i.+p. After Greece was accepted to the EMU, the Statistical Office of the European Communities refused to validate figures prepared by the National Statistical Service of Greece (NSSG). In reaction, the NSSG was forced to revise its debt estimate several times until the surplus became a deficit.

Even the United States is not immune to such tampering. U.S. political commentator Kevin Philips notes: The use of deceptive statistics has played its own vital role in convincing many Americans that the U.S. economy is stronger, fairer, more productive, more dominant, and richer with opportunity than it actually is....The corruption has tainted the very measures that most shape public perception of the economy-the monthly consumer price index (CPI), which serves as the chief bellwether of inflation; the quarterly gross domestic product, which tracks the U.S. economy's overall growth; and the monthly unemployment figure, which for the general public is perhaps the most vivid indicator of economic health or infirmity. Not only do governments, businesses, and individuals use these yardsticks in their decision-making but minor revisions in the data can mean major changes in household circ.u.mstances-inflation measurements help determine interest rates, federal interest payments on the national debt, and cost-of-living increases for wages, pensions, and Social Security benefits. And, of course, our statistics have political consequences, too. An administration is helped when it can mouth ba.n.a.lities about price levels being ”anch.o.r.ed” as food and energy costs begin to soar.12 Philips believes most American presidents from John F. Kennedy through George W. Bush have made a variety of tweaks to the methodologies of inflation and unemployment that give Americans a distorted view of the economy. As a result, the U.S. economy can seem up even when average Americans are feeling pretty down.

A second statistical concern surrounding GDP is its standardization across the globe. Even without manipulation, national income statistics are poor bases for international comparison due to different cla.s.sifications, definitions, price systems, population growth rates, and exchange rates, as well as different measurements of inflation between countries. Consider how just one small piece of the puzzle can throw off the whole picture, such as the varying accounting treatments of depreciation across countries. Since estimates of depreciation are made by corporations themselves and are guided by tax considerations and local regulations, the results can provide misleading ideas about the value of enterprises. For example, the same equipment may be worth more on the books under U.S. accounting rules as opposed to those of, say, Thailand. A useful indicator of national economic activity should be internationally comparable given that other countries are the benchmarks by which we measure our own progress. For example, in Chapter 6 we saw that Americans spend $2.3 trillion annually on health care. Without knowing that this is more than double on a per capita basis what most industrialized countries spend, that information would not tell us much. How can we adjust for statistical manipulation and cross-border differences? While the best we can do to combat manipulation is to enforce unified statistical standards and better monitoring, there are several methodologies currently employed to account for differences, including purchasing power parity comparisons and per capita adjustments.

Purchasing Power Parity The effect of exchange rates and varying living standards can also skew cross-border economic comparisons leaving us with a distorted worldview. In theory, market exchange rates should adjust perfectly so that the same good and service have the same price in different countries. But in practice, imperfect capital mobility (currency controls in the extreme case) and practical concerns such as transportation costs prevent exchange markets from working perfectly. Each year the World Bank gathers data from countries in their local currency and adjusts that to a base value relative to U.S. dollars. If a country's currency weakens, like Argentina's did in 2001, for example, the economy looks dramatically different from just a year earlier. Argentina's economy theoretically shrank by two-thirds in dollar terms from 2000 to the end of 2001. Does that mean that Argentina produced only one-third in 2001 of what it produced in 2000? No. It is likely the amount of food consumed and things bought were about the same. But in U.S. dollar terms, the ultimate ”value” was much less. Conversely, a country whose currency is gaining against the dollar will see its economy grow dramatically.

To avoid this, several organizations, including the World Bank, have opted to look at economies on a purchasing power parity (PPP) basis-a measurement that equalizes the purchasing power of currencies in their home countries for a given basket of goods. Of course, this causes concerns over what we include in this basket but still is probably more accurate than a GDP measurement at market exchange rates.13 By defining a set of comparable goods across countries and asking how many units of the local currency are needed to buy this in relation to a base currency (usually U.S. dollars), PPP helps to avoid the flaws of exchange markets. When GDP is adjusted by this recalculated exchange rate, the figure is effectively adjusted to mirror the real purchasing power. By defining a set of comparable goods across countries and asking how many units of the local currency are needed to buy this in relation to a base currency (usually U.S. dollars), PPP helps to avoid the flaws of exchange markets. When GDP is adjusted by this recalculated exchange rate, the figure is effectively adjusted to mirror the real purchasing power.14 To see PPP in action, consider that the 2006 GDP per capita of Germany in USD market prices is 17 times that of China ($35,000 versus $2,000). However, taking proper account of the fact that the products and services people need to sustain their standard of living are substantially cheaper in China than they are in Germany and adjusting the GDP figures by this we find that the PPP adjusted per capita GDP in Germany is only four times that of China ($31,000 vs. $7,600).21 Indeed, the result of a PPP adjustment will most commonly be a reduction of the spread between rich and poor countries in terms of GDP levels. Indeed, the result of a PPP adjustment will most commonly be a reduction of the spread between rich and poor countries in terms of GDP levels.

Population Growth and Per Capita GDP Another simple but overlooked issue with GDP relates to population growth: The more a population grows, the more GDP grows. Remember our earlier equation: GDP=Population Per Capita Output.When a government reports its country's GDP has expanded 3 percent this year, if the population has also increased by 3 percent, per capita GDP is a

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