Gross Imaginary Product: Welcome to the Brave New World

In the era of crypto-currencies, I propose a new economic statistic: Gross Imaginary Product (GIP). This can be defined as the total output at market prices of all products and services which do not actually exist.

Contrary to popular superstition, not all the $350 or so billion value (depending on the day) of crypto-currencies is imaginary. There are some real values there.

We should also be honest enough to acknowledge that, in the physical economy, in California, London, Japan and everywhere that “funny money” has distorted it, there are values that are deemed “real,” but that are in truth purely imaginary.

The historic dimension

Earlier instances of Gross Imaginary Product include the famous, though actually modest example devised by Charles Ponzi in 1920. He absorbed some $20 million of people’s savings in a scheme to make an arbitrage profit out of international postal coupons.

Despite this scheme’s fame, $20 million was only 0.022% of 1920’s U.S. GDP of $88 billion; GIP was not yet a significant factor in the economy.

In 1963, the Great Salad Oil swindle involved loans being issued against $150 million of salad oil when only $8 million worth was in the tanks. Inspectors were fooled by tanks filled with water, with just a little salad oil on top.

The GIP from this scheme alone was again about 0.022% of GDP of $650 billion. In other words, the U.S. GIP/GDP ratio had not increased significantly over the intervening 43 years.

The 2008 precursor

The 2008 financial crash saw an upsurge in GIP. In U.S. housing finance, there was a huge volume of “subprime” mortgages, loans to people who had neither the income nor the prospects to have any chance of repaying them.

Then there was the Bernie Madoff scam. Around $36 billion was invested in imaginary assets, with $18 billion repaid to early investors, some of whom got out with profits.

The GIP in 2008 appears to have amounted to $100 billion, counting Madoff, fictitious subprime loans and fictitious derivatives and CDO squared contracts. This represented about 0.7% of U.S. GDP, already 30 times the relative size in 1920 and 1963.

By 2008, the gross imaginary product (GIP) no longer simply consisted of Ponzi schemes, embezzlement and legal fraud. While Madoff’s activities constituted a Ponzi scheme, much of the remainder of GIP consisted in loans originated and made by reputable financial institutions. Corresponding derivatives contracts were created by Wall Street whizz-kids.

While the imaginary quality of the GIP remained unchanged, its sources were diversifying and extending themselves into the mainstream economy.

In fact, Wall Street has not stopped creating GIP to this very day. Indeed, much of the derivatives sector is pure GIP. It hedges risks that do not need to be hedged, thereby hopelessly obscuring the true economics of the business.

Now, GIP has exploded

Today, GIP has exploded. For a start, there are the crypto-currencies, by definition imaginary, in the sense that like all fiat currencies, they exist only at whim.

The difference this time around is that the whim is that of a bunch of basement-dwelling nerds, rather than that of a bunch of central bankers. The true anonymity of crypto-currencies allows them to replace Swiss banks as government-proof havens.

Silicon Valley and the GIP

In today’s market, crypto-currencies are by no means the only source of GIP. In Silicon Valley, for example, there are now many so-called zombie Companies.

They have received vast amounts of private equity funding at celestial valuations, but have no realistic hope of ever justifying those valuations, or even in many cases of making a profit.

Uber, for example, received funding at the top of the cycle at a $68 billion valuation. Now, Uber employees are reported to be selling out to Japan’s Softbank at a $10 billion valuation.

The valuation may decrease further, after the EU Court of Justice’s final decision to treat Uber like any other cab company in Europe. For now, that’s $58 billion in GIP, right there.

Uber aside, many Silicon Valley companies have existed for a decade or more without ever making a profit, while receiving endless private equity rounds from besotted over-funded capitalists.

It’s fair to assume that they have no near-term prospect of making a profit. Thus, because they are propped up by funny-money-created pools of money, they are GIP.

We can take a conservative estimate of the GIP in Silicon Valley today — at least $500 billion.

The global dimension

Globally, funny money in all rich countries has caused a tsunami of GIP wherever it has appeared. In Japan and China, for example, there are zombie companies that should have been bankrupt years ago. They are kept alive by endlessly prolonged loans from the banking system.

Not all the value of those companies is GIP, but the excess of their assets over the value of their earning capacity certainly is.

In Europe, houses in London have changed hands at a large multiple of what their inhabitants could afford, if they were buying them de novo. The currently still prevailing pricesrepresent a Gross Product that is entirely Imaginary.

Whether in the United States or elsewhere, Gross Imaginary Product has exploded everywhere real interest rates have been kept below zero.

Conclusion

The highest percentage of GIP may well be in Japan, which has had “funny money” policies for the longest period.

However, in the United States, from the very rough calculations above we can tentatively say that GIP is now some $1.3 trillion, or 7% of GDP. That is some 300 times its relative size in the halcyon days of 1920 or 1963.

Assuming the rate of increase is approximately logarithmic, we can expect the entire U.S. economy to be imaginary by around 2033. Reality in the U.S. economy needs to make a swift comeback.