Modified Domestic Demand is not a measure of Irish Economic activity

The impact of multinationals on Irish GDP has in recent years prompted the CSO to publish other measures which are deemed to better capture ‘real’ economic activity and income in Ireland. Although not recognised internationally, these concepts are now often used by the Department of Finance, the Central Bank and some private sector forecasters in their projections.

One such measure is Modified Domestic Demand (MDD) but it is not a useful or indeed meaningful concept in terms of the output and income of the Irish economy.. Lets start with domestic demand itself, which is simply the total spending on goods and services by consumers and the government plus capital formation. The latter captures spending on construction, investment by firms on machinery and equipment, plus what is termed Intangibles, defined as spending on R&D and the creation of Intellectual property. This spending used to be seen as a cost but under revised National Accounts definitions is now included in the GDP figure as a source of capital creation.

To give some context, taking figures for 2020, personal consumption amounted to €100bn, government consumption was €40bn and capital formation €148bn giving a total of €288bn. The value of stocks produced but not sold is also added (€5bn), so MDD amounted to €293bn in that year. Note though that the stock component is small but is a production rather than a spending figure, unlike the other three.

Yet some of that domestic spending went on imports (i.e. goods and services produced elsewhere) which is precisely why total imports are deducted from the GDP figures to avoid inflating the amount of goods and services produced here. To say , therefore, that domestic demand will rise by 10% tells us nothing about where that demand is met from- will there be a huge boost to Irish firms or will that demand be satisfied by firms abroad. Similarly no account is taken of exports. It is one thing to argue that some multinational exports help to overstate Irish income and output but another to ignore all exports from whatever source, be it from indigenous firms or multinationals; €150bn of exports in goods alone were shipped out of this country in the first eleven months of last year.

Then comes the modified bit. The capital formation figures, as noted , include spending on Intangibles, which in Ireland are dominated by multinationals, extremely volatile even on an annual basis and exceptionally large. They boost capital investment but in effect have little impact on total GDP because most are service imports ( and hence take a negative sign in the GDP sum). While other imports are ignored the CSO modify the domestic demand figure by deducting R&D and Intellectual property imports, amounting to €100bn in 2020. One final deduction is made, which is the value of aircraft relating to leasing , although much smaller in impact, at €9bn in 2020. As a result modified capital formation drops to only €38bn (from €148bn) so MDD in total is reduced to €183bn from the original €293bn. GDP in that year was €373bn.

One argument put forward in defense of MDD is that it is highly correlated with employment, which is true, but the correlation between employment and GDP over the past decade is also very high, at 0.97. It is simply not a measure of output or income in Ireland, or even the output of the domestic economy. One final point: forecasting Irish GDP is difficult enough, but good luck in projecting spending on intangibles, which is the main modification in the MDD concept.