EXPLAINED | GDP calculation: Old vs New; here’s how India measures economic growth

June 12, 2019 1:09 PM

GDP is a measure primarily used as a yardstick to gauge the growth of a country. Our government has stressed the GDP growth as one of the measures of its success.

Falling NPAs can give a 60-bps booster shot to GDP this fiscalA globalized economy produces a variety of products that are classified as primary, secondary, and tertiary.
  • By DR Naliniprava Tripathy, Harsh Alipuria

GDP is a measure primarily used as a yardstick to gauge the growth of a country. Our government has stressed the GDP growth as one of the measures of its success. Incumbent NDA government has frequently mentioned that India is the fastest growing economy and has surpassed France and has Britain in its sight. However, with doubts over its accuracy, and expert opinion that it is not a be-all, end-all measure, the government is also under fire. Gross Domestic Product or GDP is the total of the output of a country. However, it is very tough to accurately calculate all of the products and services produced in a country together. To make such a summation possible, it is essential to define what production is and what it is not. Secondly, it is equally necessary to have useful statistics, which are not always easy to gather. Thirdly, it requires a sophisticated system that can add it all together.

A globalized economy produces a variety of products that are classified as primary, secondary, and tertiary. Along with sectoral segmentation into agriculture, manufacturing, and services, the calculation of GDP becomes an arduous task. Now, with India, there is a bigger problem of a largely unorganized sector and a considerable black market. Generally, agencies exist which record the data, estimate it to a more realistic number, and then that number added to the GDP. Now not every farmer goes up to an agency and reports his output, for that several estimation techniques, are in play, one such devised by UN, National System of Accounts, which India is trying to implement.

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In 2015, a new series announced to calculate the GDP by upgrading the methodology with new data sources to meet UN standards and ever since there have been doubts over the suitability and accuracy of the measure. In the latest series, the base year changed from 2004-05 to 2011-12, and a new data series used for the organized private sector, MCA-21. It included the data of all the companies registered with the ministry of corporate affairs, and each company was given a unique 21-digit code, hence MCA-21. Also, the new database is much more comprehensive covering financial institutions and regulatory bodies’ like- SEBI, PFRDA, and IRDA. Local organizations and institutions are well represented in this series.

So in essence, two things changed in the new series, the base year as well as the database. Change of base year is a common occurrence and is done to take into consideration the changing times and the outlook of the economy. Therefore, the transformation of the base year is prepared keeping in mind the composition of the economy, and what it is producing. Also, change in a base year generally leads to a jump in the absolute number of the GDP, but we are typically concerned with the growing number, so that is adjusted well. Some doubts have crept in regarding that, considering the absolute number has gone down with the change of base year this time.

The base year is simple for calculations for a subsequent year, but it is very tough to calculate it backward using the new base. However, The National Statistical Commission (NSC) used the CMIE corporate database to back calculate from 2010-11 as a proxy of MCA 21. The problem cropping up was that the old method measured actual output of the manufacturing sector, crop production, and employment of the services sector while MCA-21 database considers balance sheet data of individual company and gathering the performance of the sector after adjusting for inflation.

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The new method is statistically more robust since it estimates more indicators such as consumption, employment, and the performance of enterprises, and incorporates factors that are more responsive to current changes. To collect the data from the unorganized sector, a survey is carried out every five years, and in between those five years, a proxy is used based on the organized sector data. Now that data accepted as a good yardstick considering there are no significant economic shocks, which India has faced twice in the last three years. Demonetization and GST have influenced the economy in no small measure, and calculation through a proxy is not valid anymore.

Throw in the mix the storm brewed by the National Sample Survey Office (NSSO) report, which says that 36% of active companies (Companies, which have filed financial statements once in last three years) in the MCA database, were untraceable or are incorrectly classified. Concisely, 36% of companies of the sample taken were shell companies. Now big companies to siphon off their profits and to save up on tax, create shell companies. Also, sometimes part of the output of a big company is shown on the books of a shell company. A complete picture would emerge if these companies added to the calculation, but sometimes shell companies or “benami” companies are merely a conduit to channel money without actually contributing to the production. Adding such companies would needlessly pump the growth figures.

It would be even more telling if blowing up factor is applied to these MCA-21 companies. Ultimately, the problem lies with using a data series, which was not tested or comprehended in the fullest. Earlier data for established companies were taken from the Annual Survey of Industries (ASI) or RBI’s sample of large companies for estimating corporate savings or investment.

The government and the office of Finance minister has vehemently denied these reports and have said that such discrepancies will not affect the final GDP numbers. The ministry has said that out of 36% companies, 21% of them are out of coverage, meaning they are not operating in the non-financial service sector but are involved in other economic activities like manufacturing. Thus, it is justifying to inclusion in the calculation. Balance 0.9% have not been considered in the estimate, and the balance companies are non-traceable, a number, which will continue to fall as the updates, are made to the database.

The experts have had mixed opinions on this news, with some claiming that this will adversely affect the growth numbers while others maintaining a marginal effect would be seen at best. The severe doubts raise from the different corner on the reportage of the MCA database and its reliability and credibility. Also, unlike previous regimes, the government has not made the methodology of the GDP calculation public, raising doubts over its accuracy and validity. Ultimately, it can be said with election results on the horizon; these are some uncertain times for the country, and the next few months will have much more far-reaching consequences than previously believed.

Dr Naliniprava Tripathy is Professor (Finance) at IIM Shillong and Harsh Alipuria is an IIM Shillong Alumnus, working with a Consulting Firm. The views expressed are the authors’ own.

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