Stockholm (NordSIP) – Over the last several years, a range of proposals falling under the heading of “degrowth” have come to gain prominence in sustainability circles, occasionally appearing in sustainable finance discussions. As recently as 2022, an article appeared in Nature advocating this approach.
The main focus of these proposals is that gross domestic product (GDP) and its growth are not particularly good measures of human development and social progress. Moreover, they argue, our focus on GDP growth has facilitated the conditions that create ecological overexploitation and collapse and social inequality. Instead, policy should focus on other variables, such as improving healthcare, education, research and other more meaningful pursuits than consumerism for its own sake.
The ills that degrowth proponents hope to treat are real, but how reasonable are their proposed solutions? Are they warranted? Research seems to be showing that they are not. As an economist, I want to hang on to the good old GDP and, ultimately, it seems to me that only catastrophic circumstances brought about by a climatic collapse would justify such policies.
From KPIs to Ghost Cities
As a starting point, it should be acknowledged that the degrowth proponent’s complaint that we focus too much on GDP is not entirely unreasonable. As Goodhart’s law (1984) argues, “when a measure becomes a target, it ceases to be a good measure”. It can alternatively be put as “any observed statistical regularity will tend to collapse once pressure is placed upon it for control purposes.”
A complementary concern was more plainly put by the 1979 adage of psychologist Donald T. Campbell that “the more any quantitative social indicator is used for social decision-making, the more subject it will be to corruption pressures and the more apt it will be to distort and corrupt the social processes it is intended to monitor.”
The wonkier reader may also note the similarity of these ideas to the 1976 Lucas critique according to which “any change in policy will systematically alter the structure of econometric models”, i.e.: policy reform changes a model’s coefficients or introduces new ones.
Admittedly, this is not a point specific to GDP, but rather one that is applicable to any key performance indicators (KPIs)1. Nevertheless, the criticism still holds. The ghost cities of China can be seen as an example of the aforementioned laws. The country was so focused on the role of infrastructure and real estate development as fuels of GDP growth that it ordained the construction of entire urban areas that never became real, populated cities.
What is GDP?
The purpose of GDP is to measure the value of all new goods and services produced within a specific jurisdiction (normally a country) during a given period of time. There are three ways of calculating it2 and much effort is put into avoiding double counting. It is worth noting that the market for second-hand goods is a particularly tricky issue, and one that is relevant for sustainable economic practices and concepts such as the circular economy. While sources on this topic are scarce, a rule states that, if a good (e.g.: a pair of shoes) is sold as second-hand and incurs sales taxes, refurbishing or repairs (both of which would add value), then it should be included in the GDP. Otherwise, not.
GDP is Central to Economics
Beyond the purpose of simply capturing the dimensions described above, GDP is a fundamentally useful variable. It has allowed us to compare the economic performance of different countries across time and has served, among other things, as a guide towards improving living conditions.
Since its invention, GDP has been a net-positive development for economics. While the profession has been under fire since the financial crisis of 2007-09, the truth is that economics does a relatively good job of understanding the relationship between complex social and market dynamics, such as inflation, unemployment, interest rates and trade dynamics. But GDP stands at the heart of it all, connecting our understanding of all these disparate variables. As the World Bank shows, understanding GDP has been key to decreasing the global poverty rate from close to 60% in 1950 to less than 10% in 2020.
Surely, the decreased incidence of war, the entrance of women into the workforce, the extension of educational coverage, technological progress, and developmental policies played an important role. But the existence of GDP as a formula for guiding the performance of a country matters. Returning to China, even as it built its ghost cities, the country is also responsible for the largest decrease in poverty in history.
The Effects of Degrowth and Asset Managers
To an extent, the mechanics underlying the practical issues of implementing degrowth policies are not beyond the most basic of introductory economics courses. All things being equal, a demand-led decrease in consumption, if left unmatched by an equivalent increase in another income variable, will inevitably lead to deflation (prices will decrease) and unemployment. As fewer goods are consumed, their price and the number of workers required for their production and distribution should fall. This in turn will lead to a decrease in profits, which will hurt investors.
A 2012 article on the issue goes as far as to suggest that the economic collapse brought about by degrowth would be so vast that “the economy would implode, which would eventually allow for a new rapid growth cycle, given the likely extraordinary fiscal and monetary policy response during the implosion. Thus, […] degrowth as an explicit strategy option is economically unsustainable and unfeasible.”
For asset managers, economic growth is also a fundamental (although not exclusive) driver of asset value. Ignoring the easily vilified speculators that populate financial markets (many of which actually perform an important role in price discovery), global degrowth would be a fundamental issue for pension funds and insurance companies, who rely on investments to match their liabilities. This is crucial since these are some of the investors most responsive to climate change concerns on both their assets and their liabilities. In short, employees would lose their jobs, companies would default and institutional investors would struggle to meet their liabilities, leaving a growing older population destitute.
The proponents of degrowth would argue that I’m counting profits as the world is falling apart due to ecological collapse. However, I feel that that would oversimplify the matter. First, we can hope that the efforts that are underway will have some success in preserving our ecological habitat. And second, although inaction or slow reaction might accelerate climate change, it does not mean that the only alternative is to anticipate this accidental collapse by a purposeful chaos of our own making. Some might argue that this is nothing more than status quo bias. But when the radical alternative has unclear outcomes and doesn’t offer much in the way of an improvement in our quality of life, would a more progressive, rather than revolutionary, solution be so bad?
Degrowth as a Post-Capitalist Utopia?
It should also be understood that degrowth did not emerge as a proposal ex nihilum. It is the fruit of considerations that criticise the very structures of our modern society, such as property, wage labour, credit, and market forces. These are valid concerns that are worth exploring. There is perhaps some solar punk society out there in our technological possibility frontier that we will all come to embrace in the future. But for now, the proponents of degrowth, or those considering it, should at least be aware that this is a package deal, from the perspective of this approach.
As Giorgios Kallis argues, “while this is a complicated debate, the crucial question here is whether the capitalist, market economies in which the majority of us live today can conceivably degrow voluntarily and stabilise into a steady-state. I think not. More than likely this will only be possible with such a radical change in the basic institutions of property, work, credit and allocation, that the system that will result will no longer be identifiable as capitalism”.
The same author also highlights a fundamental problem I faced when considering what such a degrowth world would look like. “There is a problematic vagueness in the degrowth proposal in so far as the post-capitalist alternative to which it hints is not specified.” If we have to undo capitalism, what system are we left with? Degrowth doesn’t really know.
Utopias, whatever their political flavour are interesting theoretical constructs. But whether on the left or on the right, history is filled with examples of how their practical implementation appears to lead to no end of human suffering and devastation as reality’s inability to measure up to the dream causes obstacles to be eliminated. Perhaps, this is not a path we want to follow once again.
Degrowth is Not the Only Option
Fundamentally, I cannot understand why a refocus on specific environmental or social factors needs to be done at the detriment of, rather than in parallel to, the use of GDP. There are levers at the disposal of governments that can be used to a larger or lower extent to achieve environmental and social goals, such as emissions trading markets, regulations, tax cuts and subsidies.
Of course, we need to stop destroying our planet. That entails sacrifices but also innovation. Education, research but also sound and well-oiled governments and administrative services and even exceptional craftsmanship can be achieved without consuming additional natural resources or emitting more CO2. They will, however, be essential to the circular economy and will be counted in the GDP.
As Obama put it, we can walk and chew gum at the same time.
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1 While one might consider these warnings as undermining sustainable finance, given its focus on targets (particularly instruments like sustainability-linked bonds), it should be noted that there are 17 UN Sustainable Development Goals (SDGs), which can be decomposed into 231 indicators. The dispersed attention that this panoply of indicators creates might go some way to avoid the concerns mentioned above.↩
2 As defined by the system of national accounts, GDP can be calculated in three ways, depending on the manner this flow of money is considered. The expenditure approach to GDP is the most common one that people will be familiar with and aggregates consumption, investments (including changes in inventories), government expenditure and the balance of trade flows. The income approach takes the other side of this perspective and considers not the money that is spent, but the money that is received, which should be the same, of course. It includes wages, profits, rents, taxes and subtracts subsidies. Finally, the output approach, considers the value added of goods produced in an economy.↩
