Illustration by Jack Dylan

In 2008, the global financial crisis hit the headlines almost every day, every week, for almost a year. The International Monetary Fund estimated the loss of financial capital to Wall Street and City of London firms at US$2.4 trillion. Around the same time, The Economics of Ecosystems and Biodiversity (TEEB), a global United Nations-backed study of the economics of nature, estimated the annual economic loss of the earth’s natural capital to be between US$2 trillion and US$4.5 trillion. In other words, the losses to ecosystem services each year are greater than the losses suffered through the financial crisis. However, scarcely a newspaper headline screamed this number.

The question begged to be asked is: Why not?

Was it because natural capital losses are losses of public wealth, and therefore less newsworthy than private wealth? Or was it because nature’s benefits are difficult to quantify and express in monetary terms, having no markets and no prices? Or perhaps it was because natural capital and its benefits—and losses—are missing from that ubiquitous measure of national economic performance, gross domestic product (GDP).

GDP is the most commonly used paradigm today for measuring human progress. Virtually all economic policy is currently oriented directly or indirectly towards maximizing GDP growth. It is so deeply ingrained that people forget that it is an entirely artificial construct created in the mid-20th century as part of the war effort and Marshall Plan recovery that followed.

Of course, rulers from ancient times have kept some record of economic activity for the purposes of taxation. However, national accounts as we know them were designed by economists Richard Stone and James Meade, with support from John Maynard Keynes, as a way to keep track of wartime economic activity. Given the circumstances, their framework was necessarily industrial in its essence. There was no space in it for niceties such as environmental degradation and socio-demographic developments. After the war, this framework was adapted to create the GDP number that is now used around the world.

Lost in the margins

In theory, GDP is a measure of the value added by an economy in a particular year; that is, the value of all outputs after deducting the value of all inputs. A simple method, yet in practice it has proved to be a limited and often arbitrary measure for three main reasons.

The first lies in the treatment of natural and environmental capital, both in depletion of natural capital (say, through mining) and in the production of environmental ills (such as pollution). For instance, if we cut down a pristine rain forest, we are clearly destroying value in terms of biodiversity, watersheds, carbon sequestration, flood control, non-timber forest produce, and so on. Yet, in the current system, this destruction of value will register as GDP growth from logging.

The second major drawback of GDP is that it is an inadequate measure of human well-being. It tells us little about issues such as security, leisure, social mobility, education and health, and other facets of social capital. In some cases, this is a methodological or computational problem, as these are difficult things to quantify, but in others it can be a fundamentally conceptual problem. For instance, the overall GDP number tells us little about income distribution or how it is affecting the well-being of the people.

The third major problem with GDP relates to its treatment of activities and transactions that happen outside the marketplace, both in ecological and social infrastructure. GDP ignores the work done by stay-at-home parents, including cooking, housekeeping and looking after children. There is clear value-addition from these services, but they do not enter the marketplace. Yet they would be included in national accounts if they were offered as market transactions. In this particular example, the problem is not conceptual but one of practicality (one has to draw a line somewhere). However, there are other areas where markets do not exist at all and are simply left out—in the case of carbon sequestration and other ecological services provided by a forest, for example.