You can never know too much about GDP

GDP-bigIn its annual review of the U.S. economy, the IMF cut its forecast for U.S. economic growth this year to 2% (from 2.8%), citing a harsh winter, a struggling housing market and weak international demand for the country’s products. The fund maintained its 3% growth outlook for next year, saying a meaningful economic rebound is under way. Yet, the IMF said significant slack remains in the economy and U.S. officials must do more to stimulate growth in the near term.

At the same time, the U.S. must cut spending and raise revenue in the long term to avoid public debt overwhelming the country’s finances, the fund said. Well, there you go. All of that sounds so easy – stimulate growth but drastically cut government spending and raise taxes. That should be an easy agenda in a mid-term election year!

If you want to have your own fun with the GDP numbers, consider the following equation: MV=PQ. This is an important equation, right up there with E=MC2. M (money or the supply of money) times V (velocity – which is how fast the money goes through the system — if you have seven kids it goes faster than if you have one) is equal to P (the price of money in terms of inflation or deflation) times Q (roughly standing for the Quantity of production, or GDP). And you thought you would never use algebra again!

So what happens is this – if we increase the supply of money and velocity stays the same, and if GDP does not grow, that means we’ll have inflation, because this equation always balances. But if you reduce velocity (which is happening today) and if you don’t increase the supply of money, you are going to see deflation. So if inflation is 2% or less and the GDP is 2% play your own algebra games and see what the future hold – Enjoy!

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