Why India Changed Its GDP Calculation Method: An In-Depth Analysis

Introduction

India officially changed its GDP calculation method in 2015 to adopt a new methodology based on the recommendations of the National Statistical Commission (NSC) and the broader practices of international statistical organizations, such as the World Bank and the International Monetary Fund (IMF). This change aimed to provide a more accurate representation of the country's economic status, reflecting the increasing complexity and digitalization of the Indian economy. This article delves into the reasons behind this significant shift and its implications.

Improved Accuracy

The new GDP calculation method sought to enhance the accuracy of economic data by incorporating a wider range of data sources. One significant change was the utilization of the Goods and Services Tax (GST), a comprehensive indirect tax levy that replaced multiple earlier taxes. The integration of the GST into the GDP calculation method allowed for a more comprehensive and up-to-date assessment of economic activities. Additionally, the government introduced improved data collection methods, ensuring that the GDP figures more accurately reflect the true economic performance of the country.

Base Year Revision

The base year for calculating GDP was changed from 2004-05 to 2011-12. This alteration aimed to provide a more contemporary reflection of economic activities and structural changes in the Indian economy. By utilizing a more recent base year, the GDP figures better represent the current state of the economy, making them more relevant for policy formulation and planning.

Inclusion of New Sectors

The updated methodology also included previously underrepresented sectors, such as the digital economy. This inclusion is crucial for a more comprehensive view of economic performance. The digital economy has rapidly grown and now contributes significantly to India's GDP. By including it, the new method provides a more accurate reflection of the overall economic landscape.

Alignment with International Standards

The change in GDP calculation method is also aligned with international standards set by organizations such as the World Bank and the IMF. This alignment enhances the comparability of India's economic data with that of other countries, making it easier to conduct cross-country analyses and assessments. The alignment with international standards is particularly important in the context of global trade and economic integration.

Reflecting Economic Growth

Perhaps the most visible impact of the new GDP calculation method is the higher growth rates it has shown. The new figures capture the dynamism of the Indian economy, particularly in the services sector. This higher growth rate is seen as a reflection of the economic transformation that India has undergone, moving towards a more service-oriented economy.

Economic Policy Formulation

A more accurate GDP calculation is crucial for better policy formulation and economic planning. The government can now make informed decisions based on reliable data, which is essential for sustaining and accelerating economic growth. The improved accuracy in GDP figures helps in identifying economic challenges and opportunities, enabling policymakers to design effective strategies.

Shift to Market Prices

Another significant change in the GDP calculation method was the switch from using factor costs to market prices. This shift is more in line with global practices and specifically aligns with the recommendations of the System of National Accounts (SNA) 2008. By using market prices, the new method takes into account the gross value addition in goods and services as well as indirect taxes and subsidies. This change adds taxes and reduces subsidies, providing a more accurate reflection of the economy's true value addition.

Commentators generally agreed that this shift reflects a move away from the state-driven, manufacturing-focused economy of the Nehruvian Fabian socialist era. Tim Worstall of Forbes called the previous system of factor costs a relic of the state-driven manufacturing-focused approach.

While the change was intended to improve accuracy and representation, it also faced criticism regarding the reliability of the new data and the methods used. Nonetheless, the shift to a more modern and comprehensive GDP calculation method is undoubtedly a step towards a more informed and data-driven approach to economic policy formulation and planning in India.