Esther Bolton, OECD Statistics Directorate
GDP growth always gets a lot of attention, but when it comes to determining how people are doing it’s interesting to look at other indicators that focus more on the actual material conditions of households. Let’s focus on a few alternative indicators to see how households in Ireland are doing.
GDP and household income
Real household disposable income per capita grew at the same pace as real GDP per capita in Q4 2016, both increasing 2.3% from the previous quarter. However, that does not mean that real GDP and real household income always grew in tandem as shown in chart 1. Real household income levels in Ireland only recently returned to their pre-crisis level (the index was 103.5 in Q4 2016 from a baseline value of 100 in Q1 2007 before the economic crisis), following more than 7 years below that level. On the other hand, real GDP per capita is up more than 27% since Q1 2007 (the index was 127.3 in Q4 2016) due to the remarkable growth rate seen in Ireland in Q1 2015.
What occurred in Ireland in 2015 reflects the growing importance of global value chains, combined with the increasing importance of “intangible assets” used in production, as multinational enterprises (MNEs), in particular, have sought to maximise profits and minimise costs, including through optimisation of their global tax burden, by (re)allocating some of their economic activities in different parts of the world. In 2015, MNEs relocated intangible assets to Ireland, where these assets are being used by Irish enterprises (including Irish affiliates of foreign MNEs) to generate value added.
This is an excellent example of why GDP should not be interpreted as an indicator of the purchasing power or the material well-being of a country. GDP is primarily a gross measure of economic activities on the economic territory of a country, and of the income generated through those activities. High levels of GDP thus do not necessarily mean high levels of income flowing to the residents nor does it mean that their growth rates will be similar(read this post for an explanation on Irish GDP large increase in 2015). A major reason is that some of the income generated by production may be repatriated to non-residents, for example in the case of income generated by affiliates of multinational enterprises.
The divergence between GDP and household disposable income can clearly be seen in Chart 1 with real GDP per capita growing sharply (by 21.3% in Q1 2015 from the previous quarter), while real household income increased by only 1.6%.
The presence of a significant number of foreign affiliates of MNEs (responsible for around half of Ireland’s business sector GDP, that is to say, excluding agriculture, most self-employment, the public sector and some financial services activity) is not the only reason why there can be a divergence between the growth of household income and GDP. Government interventions can also play a role.
As GDP was contracting throughout the quarters of 2008, household income was sustained by increased unemployment benefits and other social benefits received by households. As a result, between Q1 2008 and Q4 2008, the net cash transfers to households’ ratio showed a sharp increase; see Chart 2. Since Q4 2010 the ratio has trended down.
Confidence, consumption and savings
Household disposable income is a meaningful way to assess material living standards, but to get a fuller picture of household material well-being one may also want to look at households’ consumption behaviour.
Consumer confidence (chart 3) trended upward, from a low seen in Q1 2009, until Q4 2015 when it reached its peak (104.7). Since then it has been declining to 103.0 in Q4 2016, yet still 10 points higher than Q1 2009.
Despite the recent downward trend in consumer confidence, the increase in household income helped boost real household consumption expenditure per capita (chart 4), which rose 0.5% in Q4 2016 from the previous quarter (from 95.7 in Q3 2016 to 96.2 in Q4 2016). Since Q1 2013 real household consumption expenditure per capita has increased in line with developments in real household income. However, Irish households are still buying less goods and services than before the crisis.
Because household income increased more than final consumption expenditure, the households’ savings rate (chart 5), which shows the proportion that households are saving out of current income, increased 1.2 percentage points to 13.5% in Q4 2016. The ratio has been trending up since Q1 2016, suggesting that households remain cautious about their future income.
Debt and net worth
The households’ indebtedness ratio, i.e. the total outstanding debt of households as a percentage of their disposable income, may reflect (changes in) financial vulnerabilities of the household sector and provides a useful yardstick to assess their debt sustainability.
The household indebtedness ratio dropped considerably since the crisis, by nearly 75 percentage points, from its highest point in Q4 2009 (230% of disposable income, compared with 155 % of disposable income in Q4 2016). This corresponds to the largest drop in the debt ratio seen amongst OECD countries. The decline was driven by a decrease in loans (primarily mortgages) and rising household income.
When assessing households’ economic vulnerabilities, one should also look at the availability of assets, preferably taking into account both financial assets (saving deposits, shares, etc.) and non-financial assets (for households, predominantly dwellings). Because information on households’ non-financial assets is generally not available, financial net worth (i.e. the excess of financial assets over liabilities) is used as an indicator of the financial vulnerability of households.
In Q4 2016, households’ financial net worth was stable at 214 % of disposable income (chart 7). Since Q1 2009, it has been trending up driven primarily by the reduction in household debt (as seen in chart 6) and increasing financial assets (mainly pension assets and currency and deposits). Between 2009 and 2016, household financial net worth increased by around 145 percentage points. However, some caution is needed interpreting this figure since financial net worth does not take into account housing assets which saw spectacular growth due to a bubble in house prices until it burst in 2007 followed by sharp declines afterwards.
The unemployment rate and the labour underutilisation rate (chart 8) also provide indications of potential vulnerabilities of the household sector. More generally, unemployment has a major impact on people’s well-being. The unemployment rate was 7.1% in Q4 2016, pursuing the downward trend observed since Q1 2012 when it reached a peak of 15.1%. The labour underutilisation rate takes into account the share of underemployed workers and discouraged job seekers. Since Q4 2015, this rate has been twice the size of the unemployment rate, compared with around one and half time pre-crisis, indicating higher slack in the labour market.
Overall, the last quarter of 2016 saw a continued increase in Irish households’ material wellbeing with income and consumption per capita continuing to expand, a further decline in debt, an increase in financial net worth (although total net worth still remains below its pre-crisis level ) and a fall in the unemployment rate. However, the savings rate increased in line with declining consumer confidence (although consumer confidence is now much higher than its pre-crisis level). And despite the continued fall in the unemployment rate, many workers would prefer to work more, as indicated by the remaining high level of the underemployment rate.
One should keep in mind that households’ income, consumption and savings may differ considerably across various groups of households; the same holds for households’ indebtedness and (financial) net worth. The OECD is working on these distributional aspects and preliminary results can be found here and here.
To fully grasp people’s overall well-being, one should go beyond material conditions, and also look at a range of other dimensions of what shapes people’s lives, as is done in the OECD Better Life Initiative.
“Are the Irish 26.3% better off?”, OECD Insights post, 5 October 2016
For many years, OECD has been focusing on people’s well-being and societal progress. To learn more on OECD’s work on measuring well-being, visit the Better Life Initiative.
Interested in how households are doing in other OECD countries? Visit our household’s economic well-being dashboard.
In your baseline scenario, GDP growth across the OECD countries is projected to slow from 1.9% this year to 1.6% in 2012, before recovering to 2.3% in 2013. In some economies, especially the euro area, a mild recession is projected in the near term. Why are you so pessimistic?
The global economy has deteriorated significantly since our previous Economic Outlook. Advanced economies are slowing and the euro area appears to be in a mild recession. Concerns about sovereign debt sustainability in the European monetary union are becoming increasingly widespread. Recent contagion to countries thought to have relatively solid public finances could massively escalate economic disruption if not addressed. Unemployment remains very high in many OECD economies and, ominously, long-term unemployment is becoming increasingly common.
Emerging economies are still growing at a healthy pace, but their growth rates are also moderating. In these countries falls in commodity prices and slower global growth have started to mitigate inflationary pressures. More recently, international trade growth has weakened significantly. Contrary to what was expected earlier this year, the global economy is not out of the woods.
What factors underpin this assessment?
Deleveraging in the financial and government sectors remain with us. Likewise, imbalances within the euro area, which reflect deep-seated fiscal, financial and structural problems, have not been adequately resolved. Above all, confidence has dropped sharply as scepticism has grown that euro area policy makers can deal effectively with the key challenges they face. Serious downside risks remain in the euro area, linked to the possibility of a sovereign default and its cross-border effects on creditors, and loss of confidence in sovereign debt markets and the monetary union itself.
Another serious downside risk is that no action will be agreed upon to counter the pre-programmed fiscal tightening in the United States, which could tip the economy into a recession that monetary policy can do little to counter.
If this is the “baseline” scenario, are the others?
Alternative scenarios are possible, and may be even more likely than the baseline. A downside scenario would be characterised by materialisation of negative risks and the absence of adequate policy action to deal with them. An upside scenario could arise if policy action were successful in boosting confidence and no significant negative events occurred.
In the downside scenario, the implications of a major negative event in the euro area depend on the channels at work and their virulence. The results could range from relatively benign to highly devastating outcomes. A large negative event would, however, most likely send the OECD area as a whole into recession, with marked declines in activity in the United States and Japan, and prolong and deepen the recession in the euro area.
Unemployment would rise still further. The emerging market economies would not be immune, with global trade volumes falling strongly, and the value of their international asset holdings being hit by weaker financial asset prices.
What would be required for an upside scenario to materialise?
A credible commitment by euro area governments that contagion would be blocked, backed by clearly adequate resources. To eliminate contagion risks, banks will have to be well capitalised. Decisive policies and the appropriate institutional responses will have to be put in place to ensure smooth financing at reasonable interest rates for sovereigns. This calls for rapid, credible and substantial increases in the capacity of the European Financial Stability Facility together with, or including, greater use of the European Central Bank’s balance sheet. Such forceful policy action, complemented by appropriate governance reform to offset moral hazard, could result in a significant boost to growth in the euro area and the global economy.
An upside scenario also requires substantial and credible commitment at the country level, in both advanced and emerging market economies, to pursue a sustainable structural adjustment to raise long-term growth rates and promote global rebalancing. In Europe, such policies are also needed to make progress in resolving the underlying structural imbalances that lie at the heart of the euro area crisis.
Deep structural reforms will be instrumental in strengthening the adjustment mechanisms in labour and product markets that, together with a robust repair of the financial system, are essential for the good functioning of the monetary union. By raising confidence, lowering uncertainty and removing impediments to economic activity, rapid implementation of such reforms could raise consumption, investment and employment.
If combined, stronger macroeconomic and structural policies might raise OECD output growth by as early as 2013. The largest benefits would be felt in the euro area, though these could take some time to emerge. Stronger activity and trade, and the consequent rise in asset values in the OECD economies, should boost activity in the emerging market economies as well.
What is your advice to policy makers?
In view of the great uncertainty policy makers now confront, they must be prepared to face the worst. The OECD Strategic Response identifies country-specific policy actions that need to be implemented if the downside scenario materialises. The financial sector must be stabilised and the social safety net protected; further monetary policy easing should be undertaken; and fiscal support should be provided where this is practical. At the same time, stronger fiscal frameworks should be adopted to reassure markets that the public finances can be brought under control.
The difference between the upside and the downside scenarios reflects the impact of credible, confidence building policy action. Such action, as we have seen, requires measures to be implemented at the euro area level as well as at the country level throughout the OECD, especially in the structural policy domain. In the case of a downside scenario, policy action would clearly be needed to avoid the worst outcomes. But then the question arises of why policy efforts are not taken to deliver the upside scenario even if the worst case does not materialise. Why, in other words, should we settle for less?
The global recovery is firmly under way, but taking place at different speeds across countries and regions, according to the OECD’s latest Economic Outlook.
Historically high unemployment remains among the most pressing legacies of the crisis. It should prompt countries to improve labour market policies that boost job creation and prevent today’s high joblessness from becoming permanent.
World gross domestic product (GDP) is projected to increase by 4.2% this year and by 4.6% in 2012. Across OECD countries GDP is projected to rise by 2.3% this year and by 2.8% in 2012, in line with the previous forecasts of November 2010.
In the US, activity is projected to rise by 2.6% this year and by a further 3.1% in 2012. Euro area growth is forecast at 2% this year and next, while in Japan, GDP is expected to contract by 0.9% in 2011 and expand by 2.2% in 2012.
The recovery is becoming self-sustained, with trade and investment gradually replacing fiscal and monetary stimulus as the principal drivers of economic growth. Confidence is increasing, which could add further buoyancy to private sector activity.
But there are downside risks, including the possibility of further increases in oil and commodity prices, which could feed into core inflation; a stronger-than-projected slowdown in China; the unsettled fiscal situation in the United States and Japan; and renewed weakness in housing markets in many OECD countries. Financial vulnerabilities remain in the euro area, in spite of strong adjustment efforts underway in some countries.
“This is a delicate moment for the global economy, and the crisis is not over until our economies are creating enough jobs again,” said OECD Secretary-General Angel Gurría. “There is also some concern that if downside risks reinforce each other, their cumulative impact could weaken the recovery significantly, possibly triggering stagflation in some advanced economies.”
The top challenge facing countries continues to be dealing with widespread unemployment, which affects more than 50 million people in the OECD area. Governments must ensure that employment services and training programmes actually match the unemployed to jobs. They should also rebalance employment protection towards temporary workers; consider reducing taxes on labour via targeted subsidies for low paid jobs; and promote work-sharing arrangements that can minimise employment losses during downturns.
Stronger competition in retail trade and professional service sectors could also lead to greater job creation, and should be considered as part of wider structural reform programmes in advanced and emerging economies alike.
In advanced economies structural reforms can play a greater in role in boosting growth as governments are forced to withdraw fiscal and monetary stimulus launched in reaction to the crisis.
In emerging-market economies, structural reforms have the potential for making growth more sustainable and inclusive, while contributing to global rebalancing and enhancing long-term capital flows.
Emerging economies must also pay particular attention to the danger of overheating, which is increasing inflationary pressures, and in some cases, widening current account imbalances.
Countries must also make progress toward their fiscal consolidation goals, which are increasingly urgent. Government debt is set to rise to close to 96% of GDP average in the euro area this year and to just above 100% of GDP in the OECD as a whole. This is about 30 percentage points above the pre-crisis level. “High public debt levels, which have been shown to have a negative impact on growth, must be stabilised and then reduced as soon as possible, especially if one considers the likely impact of ageing in the next few decades,” Mr Gurría said.
Recovery from the Great Recession is proving to be stronger than expected and is finally becoming self-sustained, meaning it’s less and less reliant on government support, according to the OECD.
“The outlook for growth today looks significantly better than a few months back,” says Pier Carlo Padoan, the OECD’s chief economist. He attributes that to a number of factors, including increasing business confidence and a global pick up in trade.
According to forecasts in the latest OECD interim economic assessment, released this morning in Paris, the G7 countries could see annualised growth of around 3% in the first half of this year. But, unusually, these G7 figures do not include Japan. The dreadful human cost of the earthquake and tsunami has been all too apparent, but there will also be an economic price. However, says Mr. Padoan, it’s “still too early to assess the impact both on the Japanese economy and the global economy”.
There are other uncertainties too: The impact of unrest in North Africa and the Middle East on oil prices, for example, and inflation, which, although still low, is tending to creep up. And, of course, there’s unemployment: On the bright side, it’s been falling in both the United States and Europe (more so in the former than in the latter), but it still remains relatively high and looks set to stay that way for some time to come.
Immigrants were key drivers behind the economic boom, as they added skills and productivity to lift performance. Now, almost everywhere migrants are feeling the brunt of the crisis. Immigrants are particularly vulnerable during prolonged economic downturns, and this crisis has had the effect of throwing many immigrant workers out of work at a higher rate than for native-born workers. One reason is that immigrants tend to work in sectors which are sensitive to swings in the economic climate, that is, where demand for workers rises sharply in good times and drops fast during bad. (more…)
According to the latest OECD Employment Outlook, released last week, the impact of the recession on jobs “appears likely to end up being comparable to the deepest earlier recession in the post-war period, namely, that following the first oil price shock in 1973.” A quick reminder about the scale of the problem: From very low levels before the crisis, unemployment has risen by half to around 8.7% in OECD countries, adding up to an extra 17 million people out of work. But even that number may not represent the true picture.
Over the course of long slowdown, people may give up looking for work or may find themselves working part-time when they’d prefer to be fulltime. Take all those people into account, and the true level of unemployment may well be about double the official number.
Will things get better? Eventually, but it will take time. OECD countries are recovering only slowly from the recession and, in any case, unemployment is a “lagging indicator” of economic downturns – it starts rising only after economies have begun slowing and improves only once they have begun strengthening. As a result, even by the end of next year, unemployment is unlikely to be much below 8%, meaning OECD countries will face a jobs gap of 15 million – the number of jobs they would need to create to get back to pre-crisis levels of employment.
But as a number of commentators have noted, some countries could face special problems in reducing unemployment, in particular the United States. The Economist, for instance, is warning that “the American jobs machine has stalled badly”.
Quite what’s happening is a subject of intense discussion among economists at the moment. The debate is a little technical, but it centres around what’s known as Okun’s law, which – to complicate things even further – is not a law but a rule of thumb. In very simple terms, it’s a description of the relationship between changes in employment and changes in economic growth. According to some observers, the law hasn’t held up well during the current crisis in the U.S. – unemployment, they argue, rose too high and is now falling too slowly. Others, such as Freakonomics, disagree.
In the face of the tragedy that unemployment represents, such a debate might seem a little removed from reality. But it has important consequences for the real world. For instance, as Dave Altig of the U.S. Federal Reserve suggests, anomalies in U.S. jobs data could reflect a “mismatch between skills required in the jobs that are available and skills possessed by the pool of workers available to take those jobs”. In other words, the jobs are there but the right kind of workers aren’t there to fill them.
It will take some time before we know if that’s really the case. If it is, it could suggest that the crisis has created – or, perhaps more likely, accelerated – a structural shift in the U.S. economy and, possibly, other OECD economies. Old-style jobs in manufacturing, for example, may be gone not just for the duration of the recession but forever. Workers in those sectors, many with relatively low levels of education, could face a difficult transition to lower-paid jobs or, worse still, long-term unemployment.
By the end of next year, around 15 million new jobs will be needed to get OECD countries back to pre-crisis levels of unemployment. That’s the “jobs gap” .
Paradoxically, there’s also a “skills gap” – a shortage of qualified people to fill job vacancies. According to David Arkless of Manpower Inc., companies in Europe have around three million unfilled vacancies. Why? Despite high unemployment, they still can’t find the right people.
The debate offered a fascinating insight into the skills shortage at a moment when the issue is being eclipsed by unemployment. But as OECD Secretary-General Angel Gurría pointed out, “thinking about skills now is an act of foresight”. If we wait to act until economies recover, it will be too late.
Education and training as an investment in the future will be key. But, as Sharan Burrow, head of the international labour body ITUC, warned, this could be at risk as governments seek to cut back on spending. “If we don’t invest in education, we’ll be having this same debate in 10 years,” she said.
Just days before the release of the OECD’s annual survey of international migration, the panel also discussed whether countries should ease migration for skilled workers. Manpower’s Arkless pointed out that, in many cases, “the people who can fill jobs are in the wrong place with the wrong skills”. So, does it make sense to let them move more freely to the right place? In theory, yes. But in practice, as presenter Nik Gowing pointed out, that can face real political obstacles: “How do you persuade politicians to argue for skilled immigration in a time of unemployment?” he asked his panellists.
To hear what they had to say, tune in this weekend to The World Debate on BBC World at these times.