Discuss the usefulness of GDP as a measure of living standards, and as a way of comparing living standards i) across countries ii) across time. Gross Domestic Product (GDP) is the total market value of all goods and services produced in a country in a given year. It is equal to the total consumer, investment and government spending, plus the value of exports, minus the value of imports. The GDP report is released on the last day of each quarter and reflects the previous quarter.
However, GDP is to a certain extent only useful as a measure of living standards when converted into US$ / the same currency to enable helpful comparisons to be made, divided per capita and then put in real terms. When answering this question it is important to define exactly what do we mean by living standards? According to freedictionary. com it is; ‘A level of material comfort as measured by the goods, services, and luxuries available to an individual, group, or nation. ’ However on an alternative website, investorwords. om it is defined as; ‘The financial health of a population, as measured by the quantity of consumption by the members of that population. ’ These definitions do not entirely match up, proving living standards is a hard term to define, it can be interpreted differently from person to person. During this essay the pros and cons of using GDP to measure living standards will be considered and there will be further commentary into how and what is meant by living standards. When using the GDP as a measure of living standards we divide the GDP for the country by the number of people in the Country, and as a result we get GDP per captia.
This means that the number given is simply an average, and it does not represent the wide spread of income across the country. It does not show regional variations. A perfect example of this is the north and south divide in the UK. According to BBC news, people living in the south are more likely to be better educated and earn more money than people in northern counties. It was also discovered that southerners have more doctors and dentists, which plays a key role in the standard of living.
This proves that not only does GDP not cover all of what we mean when we talk about living standards, it shows that a country’s GDP or GDP per capita is not an entirely fair representation of how everyone in one country lives. A country GDP per capita may be high, but there could be a very large divide between the rich and poor throughout the country, there could be a rich minority and a poor majority, so it could potentially be misleading A key way in which international comparisons have been undertaken is by comparing the GDP per capita, which is seen as a measure of average income in different countries.
GDP covers material goods and services but may not capture other dimensions of the quality of life. It is fair to say that there is more to living standards than just GDP. This is where indicators such as HDI (Human Development Index) challenge the usefulness of GDP for measuring living standards. The HDI was designed to reflect three key components, firstly that people need resources, secondly people need the education to make good use of these resources, and thirdly that they need good health in order to live longer life.
The three indicators that were chosen to show these three factors were GDP, adult literacy, and life expectancy at birth. The GDP can often be a misleading picture of standard of living as it does not show low levels of health and education. This is why the multi dimensional HDI is often deemed to be a more appropriate indicator for comparing living standards across countries. South Africa is a good example of this. The country has a fairly average income, but has low levels of health and education.
There is high incidence of HIV/AIDS, which adversely affects life expectancy; highlighting HDI is a more helpful depiction of living standards. As discussed previously GDP can be a useful indicator for standards of living across countries. For comparison however, it needs to be converted into the same currency, this is usually US dollars. This means that exchange rates need to be considered. Around 25 years ago the economist magazine thought up the Big Mac index, it was a way of explaining purchasing-power parity, by comparing the prices of hamburgers in different economies.
The Big Mac index has been surprisingly accurate in predicting long term movements in exchange rates. When the Euro was launched in 1999, a good number of economic commentators believed it would immediately rise against the dollar, but the Big Mac index revealed that the euro was already overvalued. Today, the Big Mac index suggests that the Euro is again overvalued against other main currencies, and it highlights the euro area’s internal problems, showing that Greece, Italy, Portugal and Spain have lost competitiveness relative to Germany.
Also currency exchange rates may be distorted by domestic government policy, especially where currencies are tied to the US$. This can mean that comparing GDP per capita in US$ may be highly misleading. Therefore this shows the GDP is not always useful when comparing living standards across countries, as exchange rates can prevent the number from being entirely meaningful. Other points to consider include negative externalities. These occur when production and/or consumption impose external costs on third parties outside of the market for which no appropriate compensation is paid.
Examples of this can be environmental, for example air pollution from road use and traffic congestion. So although a large production of cars will boost the country’s GDP for example, there are also negative aspects of car production that will not be recognized by the GDP. Another example of this on a more social level is illustrated by the USA, one of the world’s richest countries with the highest GDP. Its workers have the longest working hours than others elsewhere and this impacts on their standard of living.
Longer holidays and shorter working hours increase an individual’s well being, and GDP does not reflect this bigger picture. This is evidence to prove that GDP is not always useful to compare living standards across countries, as hard work and making money are not the only things under the umbrella of living standards. The black market is an economic activity in which merchandise and/or services are bought and sold illegally. The black market gets its name due to the fact that its activity is conducted out of sight and often “in the dark,” outside the sight of law enforcement.
The black market can be illustrated by something as innocent as selling gum on the playground, or by something as serious as the sale of smuggled weapons or drugs. There are lots of this kind of dealing up and down almost every country, especially in countries where the government is corrupt. For obvious reasons the black market does not form part of the GDP, so therefore the GDP is not an accurate depiction of goods and services throughout each country. Even though it may appear as though a country may has very low living standards, in reality this may not be a truthful picture.
A positive aspect of the GDP is that we have records of the statistics and numbers that go back many years. This is extremely helpful when comparing living standards across time, as with the plentiful amount of data it is easy to notice trends and patterns. Another bonus, is it allows us to predict GDP forecasts for the future, as we have so much data we can piece together to make an accurate calculation. For example according to The Economist, it expects world GDP to increase by 4% in 2011 and 2012, and in countries such as China, it expects the GDP to increase by approximately.
GDP is a world-renowned indicator; making it an excellent way to compare living standards across countries, as every country has a measure for it. However returning to the original question, does GDP represent living standards? In conclusion to the discussion above, Gross Domestic product is an imperfect measure of improving living standards, primarily because it is incomplete. By excluding externalities in market goods like the quality of clean air and water, GDP measures the market value of goods and services produced within a nation, but excludes many important outputs that are not owned, traded, or easily valued.
The “P” stands for product, so GDP is an output measure, whereas living standards are a presentation of the goods and services we consume and of the income generated by those we produce. GDP does not measure happiness, or well-being. As a measure, it collects data for an area, ignoring important distributional questions. Andrew Oswald, (Professor of economics, University of Warwick) argues: “GDP is too narrow a measure of the things that truly matter to humans to be viewed as a valuable indicator in developed nations like ours in 2010. The alternative argument is the idea that if you asked a person to state what country they would live in, either country A with a higher GDP and Country B with a lower GDP, the majority of people would clearly chose A, proving GDP does contribute to living standards. In the same way if someone were to state that a country’s GDP has increased by 5%, and asked if the standard of living of that country had improved, they would almost always be right if they stated yes. Higher GDP means more tradable resources for individuals and governments with which to improve standards of living. To sum up the discussion, I believe that
GDP is a useful but an imperfect measure of comparing living standards across countries and across time, as it is incomplete. GDP is not the only indicator we should be measuring quality of life from across countries, as many different countries live their lives in different ways. However, it can be recognised that an increase of GDP does have a strong correlation with the increase in the standard of living in a country and across time – although living standards are simply more complicated than a solitary GDP statistic. It can certainly be used though in addition to other measures to form a useful comparison.