March 5, 2021

On Economy, Raw Data Gets a Grain of Salt

Three months later, the government announced a small change. The economy, it said, actually had expanded at a pace of only 0.4 percent in the first quarter.

Instead of chugging along in reasonable health, the United States had been hovering on the brink of a double-dip recession.

How can such an important number change so drastically? The answer in this case is surprisingly simple: the Bureau of Economic Analysis, charged with crunching the numbers, concluded that it had underestimated the value of vehicles sitting at dealerships and the nation’s spending on imported oil.

More broadly, politicians and investors are placing a great deal of weight on a crude and rough estimate that has never been particularly reliable.

“People want the best information that we have right now. But people need to understand that the best information that we have right now isn’t necessarily very informative,” said Tara M. Sinclair, an assistant professor of economics and international affairs at George Washington University. “It’s just the best information that we have.”

The growth rate that the government announces roughly one month after the end of each quarter — news much anticipated in Washington and on Wall Street — has been off the mark over the period from 1983 to 2009 by an average of 1.3 percentage points, compared with more fully analyzed figures released years later, according to federal data.

The second and third estimates, announced at subsequent one-month intervals, are no more reliable. The first quarter this year offers a typical example. The government estimated the annual growth rate at 1.8 percent in May and 1.9 percent in June before issuing its most recent estimate of 0.4 percent.

Perhaps more important, the government underestimated the depth of the recession by a wide margin, initially calculating that the economy contracted by an annual rate of 3.8 percent in the last quarter of 2008. It now estimates the contraction rate at 8.9 percent. Instead of an annual growth rate of 0.2 percent from the fourth quarter of 2007 through the first quarter of 2011, the government now estimates that the economy contracted at an annual rate of 0.2 percent during that period.

The basic problem is easy to understand: More than half of the ingredients in the first estimate are based in whole or in part on projections from past months. The government doesn’t actually know how much people spend on their cellphone bills or how much companies spend on construction. It simply makes an educated guess based on past spending. Even in the third estimate, 22 percent of the data still comes from projections.

If basic assumptions start changing rapidly — business failures during a recession, start-ups during a recovery — the estimates can quickly lose touch with economic reality.

“When we most want timely information is when they’re least able to give it to us,” said Professor Sinclair. “That’s exactly when those historical patterns are breaking down.”

The Bureau of Economic Analysis, an arm of the Commerce Department, makes some efforts to warn users about these problems. It emphasizes transparency and is uncommonly open to public questions. It says it provides a valuable public service, but that the data reflects only the best available information. But policy makers, investors and the public continue to treat the data as highly significant.

“These are really not much more than educated guesses and yet the marketplace puts enormous weight on them because financial markets are high-frequency trading places based on immediate data,” said Madeline Schnapp, director of macroeconomic research at TrimTabs Investment Research.

A growing number of economists say that the government should shift its approach to measuring growth. The current system emphasizes data on spending, but the bureau also collects data on income. In theory the two should match perfectly — a penny spent is a penny earned by someone else. But estimates of the two measures can diverge widely, particularly in the short term, and a body of recent research suggests that the income estimates are more accurate.

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