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Dissecting GDP growth: Good news and bad news

Mortens Hansens
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The Central Statistical Bureau confirmed a few days ago what we all knew: That GDP also grew in the 4th quarter of 2019 (but not by much; just 1.1% year-on-year), implying uninterrupted growth for the past 36 quarters since the economy emerged from the recession following the financial crisis.

Here just a little dissecting of the growth performance of this century: Where did it come from and what can we expect as we go ahead? In figure 1 I show three sets of GDP data, all in constant prices of course: GDP itself (relevant as a measure of economic activity), GDP per employed person (relevant as a measure of productivity and its relation to wages) and GDP per capita (relevant as a measure of average income in society).

Figure 1: GDP, GDP per employed person and GDP per capita, constant prices, quarterly data, 2002-I – 2019-IV; 2002-I = 100

Source: Central Statistical Bureau and own calculations

GDP per capita has more than doubled (up by 119% to be precise), the 2nd highest such increase in the EU after Lithuania. The faster growth than in overall GDP is explained by fewer “capita” – details a bit later.

It is often instructive to perform the following dissection of GDP:

Or, in other words, the how the change in GDP relates to changes in productivity, population, employment, number of persons in the labour force and people in the (mostly) relevant age for potential work.

The following table describes the changes in these components for the whole period (2002 – 2019) and for the period following the financial crisis (end-2010 – 2019).

This provides both good and bad news; the latter in particular for the future. Since 2002 most of GDP per capita growth has been driven by GDP per employed. Good; it reflects growth of productivity. A bigger share of the labour force has also helped, especially since the financial crisis. Not strange – reflects a big fall in unemployment. Also good – but this barely can be a growth driver in the future since the unemployment rate has been squeezed very far down to about 6%. The labour force constituting a bigger share of the 15 – 74 year old has also helped. This is also good but also provides little room for further improvement. This so-called participation rate is already high by Latvian and international standards. And the 15-74 year olds as a share of the population has been a drag on growth and this will accelerate due to demographic changes – fewer 15 – 74 year old, more 74+ year old (demographic burden as it is often referred to).

In short, future growth rates will not be very impressive and must reply on productivity growth – anything that can help here should be most welcome, not least including labour-saving technologies. No need to be afraid of robots in this country!. Labour will become an increasingly scarce factor.

A last graph to visualize the issue, see figure 2.

Figure 2: Employment, labour force and 15 – 74 year olds, 2002-I – 2019-IV; in 1000s

Source: Central Statistical Bureau

A few observations:

The potential for the labour force i.e. the 15 – 74 years old are down by a staggering 21% since 2002.

Employment in Latvia peaked in 2007 Q4 with 1,080,000 persons at work. Today the labour force is less than a million – in short, Latvia will never again have a level of employment as before the financial crisis.

Wooing emigres back, robots, AI, increased retirement age etc. – all is welcome. But not enough.

Doomsday scenario? No; GDP per capita will continue to rise, Latvia will become steadily more affluent but it will also – as we all know – have to cope with some tough demographic issues.

 

Morten Hansen is Head of Economics Department at Stockholm School of Economics in Riga and a member of the Fiscal Discipline Council of Latvia

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