Last year I did not believe my ears when heard from TV that devastation caused by hurricanes is a boon for economy. The guy radiated happiness while explaining: many houses, roads, etc were destroyed; there will be need in rebuilding; consequently the demand for contruction materials will increase; and this in turn will bring about a higher output by manufacturers; as a result the GDP and employment will jump.
The logics seemed to be irrefutable, that caused me to suspect that GDP is not the completely relevant measure of the strength of economy. The search on the internet revealed that I was not the first to come to such a conclusion. Back in 1995 The Atlantic Monthly published a paper by Clifford Cobb, Tad Halstead and Jonathan Rowe titled "If the Economy is Up, Why is America Down ?" It promoted a view that GDP became irrelevant because it includes too much garbage. "The gross domestic product adds up everything Americans spend and declares that as the total good. As a result, the hundreds of billions of dollars that Americans spend to cope with crime, the lawyers, and social breakdown costs, is all GDP -- car crashes, febder benders ... give this country a real boost" .
This is, of course, true, but not only garbage makes GDP irrelevant. The fundamental flaw of GDP is that it does not take into account the existing assets and wealth. If a flood destroyed all your cars and you have money to buy just one new, GDP will definitely grow, but it will not make you richer.
What is the limit to assets destruction that would not cause GDP to shrink ? - I wondered. Suppose that all assets are either goods or the means of manufaturing. Suppose that the total value of all assets before destruction was V and after destruction became kV (where k < 1). Suppose that the means of manufacturing are uniformely distributed over the country, and that there is a uniform excesive production capacity of all means of manufacturing, and that if they were used to the full extend then GDP before destruction would have been gdp +Δgdp, where gdp was the actual GDP before destruction. Then after destruction the maximum attainable GDP would be k(gdp + Δgdp). In order for destruction to cause a jump in GDP the following relationship has to hold:
gdp < k(gdp + Δgdp),
from which it follows that
1 > k > 1/(1+Δgdp/gdp)
Thus, destruction cannot be greater than (Δgdp/(gdp+Δgdp))x100% in order for GDP to jump.
But in order for the country to become richer, i.e.
V + gdp/p < k(V + (gdp + Δgdp)/p),
destruction cannot be greater than
1/(1+(Δgdp/(pV + gdp))),
where p is the share of GDP that is spent on buying the lasting assets.
(to be continued)