Managing what you measure

Nobel prize-winning economist Joe Stiglitz has an interesting essay in the current Fortune about the deficiencies of gross domestic product as a measure of economic health. Lots of people have been criticizing GDP these days: Some focus on the inability of economic numbers to reflect true well-being. Others worry that our methods for measuring inflation are skewing real GDP growth either upward or downward.

Stiglitz takes aim at the failure of GDP to factor in the depletion of resources. A country can boost GDP by strip-mining with abandon or cutting down all its trees, even though both actions probably leave it less well-off.

The alternative that Stiglitz endorses is "green net national income," a measure you can learn more about here. The idea is to incorporate financial and physical assets, and the depreciation thereof, into national accounting--as is already done in corporate financial accounting.

The upshot is supposed to be better decisionmaking. As Stiglitz writes: "A government focused on GDP might be encouraged to give away mining or oil concessions; a focus on green NNP might make it realize that the country risks being worse off." Sounds reasonable.

There would be a certain irony, though, in moving from cash-flow-based national economic accounts to a measure modeled on corporate earnings. It is, after all, pretty standard investing advice to ignore earnings and focus instead on cash flow, because earnings are so colored by estimates and assumptions and thus easy to manipulate. Would "green NNP" be any different?

The lesson here is that any single measure of a country's or a corporation's well-being is bound to be deeply flawed. Since most of us are prone to fixating on just one, we should of course try to arrive at the best single measure possible. But truly intelligent economic decisionmaking will always require looking beyond it.