Question

Suppose that the Gross National Income (GNI) per capita for Benin was about 475,000 West African Frank (XOF) in 2020. People in Benin, on average, spend 55% of their income on food. Answer the following questions while considering the exchange rate is 1USD = 600XOF. (Hint: GNI is defined as the total amount of money earned by a nation's people and businesses.)

10. What is the dollar value of annual food and non-food expenditure for an individual in Benin in 2020, on average? Show your work. (5 pts.)

11. If the earnings increase by 10 percent in Benin, people would spend $450 of their income for food. Calculate the new income level and the income elasticity of demand for food in Benin. Determine the type of food based on the income elasticity. Show your work. (9 pts.)

Answer 1

This week, the Government released a slew of statistics. The government expects GDP growth in 2012-13 to be higher than 7.2%, but not close to potential 8.6%. Per capita income crosses Rs 50,000 for first time in 2010-11. As a layman, what should you make of these numbers?

Let’s start with the GDP

GDP or Gross Domestic Product is the value of economic output of a country. For beginners, here’s a simple example. Take a family of 6 brothers, A, B, C, D, E and F. Here’s what each of them does for a living:

A: Furniture maker. His full year sale is Rs 5 lakh

B: Makes and sells steel utensils. His full year sale is Rs 3 lakh

C: Operates a tiffin service. His full year sale is Rs 2 lakh

D: Manufactures steel sheets. His full year sale is Rs 1 lakh. Out of this Rs 1 lakh, he has sold steel sheets for Rs 25000 to B.

E: Produces and sells rice. His full year sale is Rs 50,000. Out of this Rs 50.000 he has sold rice for Rs 20000 to C.

F: A teacher who earns Rs 1 lakh per year.

(Sale value in all these cases includes cost of raw materials, labour plus owner’s profits.)

Let’s calculate their total GDP.

Step 1: Calculate total sales. This works out to Rs 12.5 lakh.

Step 2: Calculate overlapping sales, called intermediate consumption, that is, sale of one person that becomes raw material for another person. This works out to Rs 45,000.

Step 3: Reduce the total sales by intermediate consumption to eliminate double counting (for instance, the sale value of B includes the cost of steel sheets purchased from D). This works out to Rs 12.05 lakh.

The GDP for this family of 6 brothers is Rs 12.05 lakh. Now instead of 6 brothers, when this exercise is done for the entire country, we arrive at the GDP of a country.

The rate of growth of GDP reflects the pace of the economy. For instance, a slowdown in the US economy has led to the GDP of the US growing at a snail’s pace of 1-2% in the last several years, sometimes slipping into the negative territory. By contrast, India clocked a GDP growth of 7-8% in the past few years. And the Govt is projecting it will clock 7.2% in 2012-13.

While 7.2% sounds great, especially in this weak global environment, especially when compared to 1-2% growth rates elsewhere, it really does not translate into too much for India’s standard of living. Not at least in the near future. And this is where GDP per capita and Gross National Income (GNI) per capita comes into play.

GDP per capita and Income per capita

GDP per capita is nothing but GDP per person; the country’s GDP divided by the total population. In our example, it would be Rs 12.05 lakh divided by the total number of people including the workers who work at each of the 6 brothers’ factories. Because the GDP is divided by the total number of workers, the GDP per capita very closely reflects the ‘average’ revenue per person in the economy. As GDP grows it is assumed that everyone in the chain will benefit and the growth will have a trickledown effect on the population, thus improving standard of living. If you earn more, you are able to pay more for your domestic help, thus improving their standard of living. Of course, the growth must be more than inflation.

I must go over a few more explanations before I get to the key point. So do bear with me. Gross National Income, GNI, is slightly different from the GDP. While the GDP measures only the production and services within a country, GNI also includes net income earned from other countries. Per capital GNI or per capita income is the GNI divided by the population.

Now, according to the Government, India’s per capita income has crossed Rs 50,000 for the first time in 2010-2011. It is at Rs 53,000 or around USD 1,000. This is at current prices or market prices. The same works out to USD 790 at constant prices, that is, after factoring inflation.

Statistics mean nothing in absolute terms. So let’s get to some serious global comparison. According to this HSBC report, in 2010, here is how these countries ranked in terms of GDP:

#1 US

#3 China

#8 India

In the same year, this is how per per capita incomes looked:

US: $36,354

China: $2,396

India: $790

Okay so that was when India was rank 8. Let us look into the future. The report projects the top economies by 2050.

Accordingly, in 2050, this is how the countries will rank:

#1 China: GDP at USD 24.6 trillion

#2 USA: GDP at USD 22.3 trillion

#3 India: GDP at USD 8.1 trillion

And here are the projections of per capita income in 2050:

China: USD 17,372

US: USD 55,134

India: USD 5,060

In terms of income per capita, among the countries that will be the top 30 biggest economies in 2050, India ranked last in 2010 and will also rank last in 2050. China ranked at 27 in 2010 but will jump to rank 20 by 2050. The report also projects that India’s population will beat China’s by 2050.

Making sense

So why is India’s per capita income so dismally low?

– Because our GDP is just not big enough for the large population base

By the time the huge GDP trickles down, there is not much left. For almost the same population, look at China’s GDP in 2050. The US has the highest GDP in absolute terms but also has a lower population as compared to China and India. China is ranked next to the US in terms of absolute GDP but the large population drags down the GDP to much below the US. But because the GDP itself is large, per capita GDP is better than India’s.

– Because our GDP is not growing fast enough

HSBC in its report has projected India’s average growth rate for the next 4 decades to be in the range of 5-6% (average growth between 2000 and 2009 was 5.5%). That growth rate looks good when developed countries are growing at just 1-2%. But it is obviously not enough for our population base. The country needs to be far more aggressive for any kind of growth to even make a difference to average income levels quickly. A 7-8% maybe alright for now but India has to maintain it and that too consistently if it has to beat HSBC’s assumption of 5-6% average over the next 4 decades. Just because we are better off at 7% as compared to 3-4% in the past, it does not make us good. We need to look at the future and not the past.