Gauging economic performance under changing terms of trade: real gross domestic income or real gross domestic product?(Report)

1 Introduction

By the June quarter of 2008 Australia's terms of trade had risen by 64% since the June quarter of 2002, to reach their highest level since 1950-1951. (2) What is the significance of this sudden surge? How is its impact best measured? To answer that question it is advisable to review the efficacy of standard measures of macroeconomic performance.

Gross Domestic Product (or one of its variants) has been the pre-eminent measure of macroeconomic performance for over sixty years. Yet many other measures of performance have been mooted, and some enjoy considerable support of statistical authorities. In 2001, the Australian Bureau of Statistics publicly called attention to several broader measures of 'progress' that were being supplied by the Australian System of National Accounts. Among these was Real Gross Domestic Income (RGDI), which takes into account changes in income from changes in terms of trade. The demerit of GDP in comparison with RGDI, the Bureau contended, was that "in periods of strong increases (decreases) in the terms of trade, focusing solely on GDP would not take into account the affect of increased (decreased) income available to Australian residents" (see ABS, 2004, 2006). Since 2001 data on RGDI have been regularly and prominently supplied as part of the Bureau's quarterly release of national accounts.

This ABS's copious and timely provision of RGDI data obviously assumes a particular significance in the light of the recent sudden improvement in Australia's terms of trade. It is on account of that increase that RGDI has grown more strongly than GDP in each year since the beginning of the present decade; and that the cumulative difference between the growth in the two aggregates since the beginning of the decade has now passed 10%.

 
TABLE 1 AUSTRALIAN GDP AND RGDI 
 
Growth over Previous Year, Per Cent 
 
                           GDP  RGDI 
 
2001-2002                  3.8   4.2 
2002-2003                  3.2   3.6 
2003-2004                  4.0   5.5 
2004-2005                  2.8   4.7 
2005-2006                  3.0   4.9 
2006-2007                  3.3   4.7 
2007-2008                  3.5   5.0 
June 2008 over June 2002  21.8  31.9 
 
Source: ABS Australian National Accounts: National Income, Expenditure 
and Product, June 2008, 5206.0. 

Nevertheless, real GDP remains the overwhelming focus of the reportage and analysis of macroeconomic performance.

This paper appraises the potential contribution of RGDI to the measurement and diagnosis of macroeconomic conditions. It investigates if, and how, RGDI might be more informative, and more explanatory, of variables of interest, including economic welfare, consumption, investment, and employment.