income as measure of development

 Income as a Measure of Development
Comparing countries in terms of their levels of per capita income is the most
common method used for assessing relative levels of development. This has the
advantage of being straightforward and – unlike some of other measures – the
necessary numbers are usually available. As discussed below, however, there are
important omissions built into this methodology.
An additional complication stems from the fact that the dollar itself may change in value
relative to other currencies because of changes in the American economy or in the its major
commercial partners. In real terms, measured in local currency, a foreign country might be
experiencing rapid economic growth but the dollar equivalent of its income may fall because
the dollar declined in value compared to other currencies. Trend data calculated on this basis
can be particularly misleading. The problem remains no matter what currency one uses to
convert local figures to an international standard. The World Bank and other sources seek
to smooth out fluctuations by using three-year averages and other devices. Still, exchange
rate fluctuations remain a problem for international comparisons.
Measuring Per Capita Income
Foreign Exchange Conversion Method. There are two basic ways that
per capita income can be measured. The first calculates a country’s per capita
income in local currency – dividing the value of its total income or its total output
by its population – and then converts that figure into U.S. dollars or another world
currency using the prevailing exchange rate. This facilitates the comparison of
countries at similar stages of development and provides a rough measure of the gross
disparities between rich and poor countries. In many countries, though,
determination of an accurate figure for the gross domestic product is difficult,
particularly when much economic activity is outside the money or formal economy.
In such situations, inter-country comparisons can be only approximate.
For most countries, the dollar GDP figure is simple to calculate. However, it
provides little information about living standards in most countries. Nobody can live
on a dollar a day in a dollar-based economy, but people often do survive in poor
countries on the daily local currency equivalent of a dollar, since the cost of most of
the items they purchase with local currency are comparatively low. The foreign
exchange value of a currency is set in the international sector of a country’s economy.
However, most of the things which people buy locally (particularly in developing
countries) are not traded in world markets (housing, local food, local services, etc.)
Imported goods or other traded goods, whose prices reflect the foreign exchange
value of the local currency, generallycomprise only a small share of their purchases.4
Purchasing Power Parity. The second method seeks instead to measure
the income people receive in their local currencies in terms of a common standard of
purchasing power. The purchasing power parity (PPP) method converts the prices
of common items in different countries into a common standard price, regardless of
their stated cost in local markets. An international dollar in a PPP comparison has
the same purchasing value in a country that a dollar would have when spent in the
United States. Thus, people with a per capita PPP income of $4,000 in a developing
country would have roughly the same standard of living they would have if they lived
in the United States with that income and they bought that basket of goods.
The PPP method allows analysts to compare more accurately the standards of
living that people in different countries can purchase with their local income. While
the conceptual case for using PPP rates of exchange is clear, practical issues remain.
The PPP method does not accurately reflect the actual dollar value of the income
people receive in developing countries. An item in the market basket might be valued
at $1, under the PPP system, for example, even though it may cost 50 Indian rupees
This can be observed in Table 1. Table 1 shows per capita national income by both the
exchange rate and PPP calculation, ranking countries by income groups. Normally, the PPP
figure is larger. In a few instances, though, a country’s PPP income is less than the exchange
rate total. This is true for many high income countries. In some developing countries with
similar income levels by the exchange rate method, the PPP disparities are very great.
Compare, for example, Poland and Lebanon, Tajikistan and Niger, Uzbekistan and Kenya,
Panama and South Africa, or Nigeria and Cambodia.
6 The World Bank emphasizes data showing countries’ Gross National Income (GNI) per
capita using both the foreign exchange and the PPP method. By contrast, the UNDP report
shows PPP data for countries’ Gross Domestic Product (GDP) per capita. The GDP figure
shows the value added or produced by the residents of a country plus any taxes (less
subsidies) not included in the total. The GNIfigure includes both the GDP and the net value
of any income derived from work or property abroad. GDP shows the productive capacity
of an economy whereas GNI measures the total income available to the its residents. The
World Bank and UNDP also often use different base years for their calculations.
United Nations. Statistical Yearbook, Forty-fifth Issue. New York: U.N., 2001, p. 3.
in the local marketplace. Those rupees would not likely be worth the equivalent of
$1 if the purchaser tried to spend them on a product which is not in the PPP market
basket. PPP data also take much time to calculate. From a practical perspective, all
countries cannot be surveyed annually. Therefore, it is difficult to use them for intercountry comparisons or to monitor ongoing changes in income levels.
Discussion. The PPP method and the foreign exchange method are both
useful for comparing the income levels that people receive in different developing
countries. They cannot be used interchangeably, however. Income levels measured
by one procedure cannot be accurately compared to the income levels determined by
the other methodology.5 The World Bank and United Nations publish annual data
calculating per capita income levels for most countries using the foreign exchange
and the PPP methods. Reference might be made, for example, to the World Bank’s
annual publication, World Development Indicators and the Human Development
Report issued annually by the U.N. Development Programme (UNDP). The income
numbers in the Human Development Report are calculated annually for the UNDP
by the World Bank. However, for data and procedural reasons, they are often not
directly comparable. 6

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