Economics of a Criminal Mind

Last-line-of-defense---statistics

Armenia is undergoing its worst recession since the devastating fall of its Gross Domestic Product (GDP) in 2009. Back then, the economy shrunk by 14.2 percent, one of the worst outcomes in the world, courtesy of Kocharian’s “laundered-money-is-good-for-business” economic model of the 2000’s and Sargsyan’s “will-kill-you-if-you-question-my-legitimacy” approach to investment promotion (showcased, most prominently, in March 2008).

Yet, some minds in the Armenian government—will call them for simplicity the “criminal minds”, as this very much reflects their modus operandi—have a surprise for you all. They plan to forge the numbers and show a positive GDP growth for 2015. How? Well, by treating the (compulsory) pension contributions of civil servants as income for the newly established pension funds…..as if the abnormal growth of revenues “reported” by casinos and night clubs (under “Services” sector) to boost GDP in recent quarters was not shocking enough! Voila, another trick and problem solved, or is it?

Not surprisingly, the eggheads at the Armenia’s National Statistical Service may have given green light to this “creative” approach spearheaded by the cabinet. For the rest of us, the 1987 Nobel Laureate Robert Solow remains the authority on this issue. He famously noted—and expressed in a simplified framework below, in level terms—that growth of GDP (Y) can be generated via labor (L) accumulation, capital (K) accumulation, or improvements in productivity unrelated to labor and capital (A, a.k.a. the “Solow residual”). The latter can be due to technological innovations, improvements in governance, or anything else that makes either capital or labor (or both) more productive.

Y=A*K*L

In growth terms, this implies that the growth rate of GDP equals the sum of growth rates of capital, labor, and the Solow residual.

“It’s the economy, stupid!” said one of Bill Clinton’s famous (internal) campaign slogans. You cannot make up statistics as you go, only because it fits your political agenda. Things should add up, and unfortunately for the government, they don’t add up in this case. Armenia is losing population (read, labor) at a rate of at least 50,000 per year, or around 3 percent of the current estimated stock of population. No one is investing (that includes the government/budget, whose public investment outlays are not even sufficient to cover capital depreciation), so the capital is not accumulating. If anything, oligarchs are taking money out of the country—after all, they are crooks, they are not stupid!

How about the Solow residual, you would rightfully wonder? Sashik Sargsyan, de facto President Serge’s notorious brother, is Armenia’s Solow residual. But you guessed it right—instead of contributing to growth he subtracts from it by making sure private entrepreneurship is dead before it takes off and that allegedly no one can set up a business without having him as a 50 percent owner of it. So when you add things up, there is simply no way one can get a positive GDP growth in Armenia under these circumstances.

Pension contributions by themselves cannot be treated as additional GDP. Expenses incurred by the pension funds as part of their operations—mostly wages and rent—could, but they will be very small compared to the inflows (of pension contributions) into those funds, which is what the government is contemplating of doing. Unless these inflows are invested in real projects in Armenia (buying Treasury Securities doesn’t count!), they also will not be contributing to the country’s GDP from the demand side.

So, to Armenia’s de facto Prime Minister and his team our advice would be to focus on doing their job properly instead of cooking the books and engaging in gimmickry. While falsifying economic statistics is consistent with their and their predecessors’ record of manipulating the results of presidential and parliamentary elections in the country (our election-related reports contain ample evidence of that over the years), this may become the proverbial straw that breaks the camel’s back. The social discontent may eventually catch up with them and they may be asked to answer in the court of law for their misdeeds—all of them, not just for cooking the books!

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