GDP AS A MEASURE OF THE STANDARD OF LIVING

Every nation has a different economic status and therefore the

population in each country has its own unique standard of living.
For academic and economic purposes it is necessary to measure the
standard of living. This helps to form a comparison basis and also
to evaluate the progress in the standard of living of the people.

The standard of living is directly linked to the economic growth of

the nation as a whole. By traditional definitions, economic growth
is an increase in national income over a period of time. Although
national income does rise every year the rate at which it grows is
different for different years and is affected by a variety of factors
natural and man made. The most common of measure of the
standard of living is ‘gross domestic product’ (hereto referred to as
GDP). However a growth in national income does not necessarily
mean a better standard of living. The argument for this can be
substantiated by observing the fact that economic growth does not
always mean economic development for the people.

The purpose of this essay is to evaluate the shortcomings of using

GDP as a measure of standard of living. First the concept of GDP
is explained and then the limitations and alternative measures are
discussed.

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GDP – FACTORS CONSIDERED

GDP is an indicator of the economic activity which includes

production and exports of a nation. The most popular view on GDP
was put forward by J.M Keynes. The economist has suggested two
approaches which are the Demand and Supply Approaches.

THE DEMAND APPROACH

Keynes argued that national income is the sum effect of the

expenditure totals in certain areas by governments. The formula
put forward by Keynes is:

GDP = C + I + G + (x – m)
(Source: www.bos.frb.org)

In the above formula ‘C’ stands for increase in consumer

expenditure, ‘I’ stands for an increase in investment expenditure
and ‘G’ stands for an increase in government expenditure and ‘X’
for export expenditure, ‘M’ stands for import figures. The excess
of exports over imports is often seen as a general indicator of
economic growth.

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Consumer expenditure is the amount the people spend on goods
and services. Two important considerations in the calculation of
the consumer expenditure are the marginal propensity to consume
(MPC) and the marginal propensity to save (MPS). As a matter of
national policy it has been suggested by various economists that
increasing the propensity to consume will decrease the propensity
to save and will therefore increase consumer expenditure.

Investment expenditure consists of mainly three factors- private

investment, public investment and household investment. The rates
of private and public investment depends on subsidies given to
businesses and interest rates etc. household investment depends on
interest rates on mortgage payments and tax policy. This has a
direct impact on the disposable income available to both the
individual and also businesses.

Government expenditure is mainly composed of spending by

central and local authorities on employment and government
services. A good example for this in the United Kingdom is the
expenditure pattern adopted for the National Health Service- NHS.
Expenditure on roads, public transport, defence, police etc are all
major factors in this direction.

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Export expenditure is influenced by how competitive and modern
the industries and companies that are in the export sector are. This
is in turn affected by the overall infrastructure in a nation such as
reliable goods delivery channels and power supply and political
situations. Research and development spending and innovations in
goods and services all affect the export arena in the modern
business place.

THE SUPPLY APPROACH

The three main components of the supple approach are Increased

Productivity, Technological Progress and Employment patterns.

Increased productivity can be related to increase in labour due to

decrease in wage rates, capital investment etc. Also prevalent is the
increase in land supply. This does not mean a literal increase in the
volume of land. The increase in land means a decrease in land
prices due to factors such as government subsidies which would
allow investment in manufacturing concerns.

Technological progress has the effect of increasing the output for a

given industry for a given amount of investment. The rate of
technological progress and innovations has a direct impact on the

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rate at which output is generated. Advanced machinery helps to
produce better products at a faster and more economic rate. This
increases the supply figures for the industry.
Employment patterns also affect the supply curve. Unemployment
benefits along with direct tax policies may increase the incentive of
the population to work. This means an increased use of the
resources. Also important is the mobility of the work force. Skilled
labour may not always be available on site or near the company.
Therefore factors such as transport methods such as motorways
and fast train services are directly linked to the employment
patterns effect on the supply curve.

GDP does have advantages in that many nations use it to gauge

standard of living and therefore there exists a comparison platform.
Also an inherent advantage is the GDP can be measured at basic
prices or market prices.

The sum total of all the above factors was traditionally used to
gauge GDP. The problem with the above factors is that the world
ahs changed dramatically and certain new factors such as pollution,
natural resource depletion etc has been lately proven to be
important in the calculation of a more realistic measure of standard
of living.

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GDP – INADEQUACIES AS A TRUE MEASURE

Accurate reflection of the standard of living is often attained due to

the variety of factors involved in the calculation of the standard of
living. Through the following points we shall analyse the factors
which GDP do not take into account and why it is important to
include them to accurately calculate the standard of living.

Inflation – Over the years the prices of goods and services have
increased and while the increase in production is considered in
GDP calculation, prices rises are not incorporated. The effect of
inflation is that while the figures go up the actual purchasing
power of the individual goes down. In other words national income
may seem to rise but the actual standard of living actually is
declining or staying still. What a product costed two years ago is
not necessarily what it costs today. There are two sides to this
coin, for example while transportations costs and consumerables
such as food may incur price rises, electronic goods may see price
falls depending on level of technological progress in the industry
e.g.;- laptops and computer technology.

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Distribution of income - Not every region in a country has an
even spread of economic prosperity. GDP figures do not represent
the distribution of income in a nation and only show an average of
the whole nation. In effect this conceals problems such as regional
poverty. A good example for this is China. While the GDP of
China shows a very good rate of increase, it does not reveal the
fact that a vast majority of the rural areas still suffer from poverty
and lack of development.

Black Economy – The existence of black economies in countries

are never revealed through GDP figures. GDP is the representation
of the figures that have been reported by the various agencies and
government departments. Therefore GDP is often underestimated
because of the existence of the black economy and the percentage
of the value of transactions that are not officially reported. A Black
Economy is the portion of the economy where tax evasion exists.
When individuals evade tax the actual value of goods or services
rendered are not taken into calculation for GDP purposes. This
portion includes product not sold at market prices, barter trade and
even self consumption. Black economy in many nations is a very
serious fact. For example a recent report by The Economist
revealed that countries like Nigeria and Thailand have a black
economy worth more than 70% of the official economy. In the

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United Kingdom Blackpool in Hull is considered to be the main
hub of the black economy.

Population Increase – GDP figures can never include the

population rise over the years. For example if ten years ago a GDP
of 100 GBP was spread over 10 people, now a GDP of 200 GBP
would have to be spread over 15 people. This shows a remarkable
decline in the amount available to each individual. Factors that
affect this are immigration patterns. For example asylum seekers
may have to be provided for but do not always contribute to the
economy.

Quality of Goods and Services – the technology and performance

of the products available in the market also has an impact on the
standard of living of the people. The best example of this is the rate
at which information technology in the form of computers have
increased. Every household is now able to access technology
which was not available ten years ago, although at that time the
GDP figures might have suggested a better standard of living. This
misleads the reader of the GDP figures. The quality of the goods
and services add to the individual’s quality of life although the
figures may not represent these attributes.

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Social Welfare – measures undertaken by the government to
provide for safer and healthier communities also are a key
consideration not included in GDP calculations. For example one
of the reasons that the United Kingdom is seen as one of the best
countries in terms of standard of living is that it is primarily a
welfare state. The government allocates enormous amounts of
money towards provisions for clean streets, better healthcare
facilities and lately the recycling revolution also has become
embedded in the minds of the citizens.

In this regard the expenditure on education and public transport is

also not fully integrated into the GDP calculations. These are
aspects of everyday life that make a remarkable difference in the
quality of life in the short as well as long term. The combination of
the welfare measures is perhaps equally as important as disposable
income because citizens need to feel enriched, secure and
committed to the society to have an excellent standard of living.

A key factor in the above argument is that the amount spent on

welfare measures does not guarantee a higher standard of living.
Let us consider two countries A and B. Let us assume that country
A has higher GDP than country B and also that country A has a
significantly bigger budget for the police department. This,
although it adds to the GDP figures, does mean that it is necessary

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for country A to have a greater police presence than country B. In
such a case it means that the people do not feel as safe in country
A as they do in country B. This is a purely qualitative aspect of
standard of living that GDP figures cannot reveal.
Pollution levels – A factor ignored in the calculation of the
standard of living of a people is the environment they live in and
the impact of modernisation and economic development. Natural
resources are being depleted at a rapid pace and many developing
nations have opted for rapid industrial growth at the cost of the
natural environment. Clean cities and preserved natural areas
contribute significantly to the individual’s well being. Many of the
modern day diseases are the result of man made pollution. The
biggest cities in the world such as London, New York etc have
emphasised the need for green spaces and spend millions on public
parks within cities.

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ALTERNATIVE MEASURES OF STANDARD OF LIVING

So far we have discussed the major shortcomings of using GDP as

an accurate representation of the standard of living. From the turn
of the century up until the 1970’s GDP would have sufficed
because of the relatively lower number of factors that has an effect
on the well being of the people. Since the increases in world
population, advances in science and globalisation the number of
factors have almost quadrupled. Ideally an alternative measure of
standard of living would take into account the maximum number
of factors that have an economic as well as qualitative impact on
the individual standard of living.

In the following paragraphs we shall look at the alternative

measures put forward by academics in the field. Although the
different methods do take additional and/or different factors into
its’ calculation we should not forget that when it comes to
comparison between countries, cultural differences and religious
and political beliefs will always exist and there is no way to
homogenise all the people. Also the below list is in no way a
conclusive list. For instance a very widely acknowledged concept
is that of the Purchasing Power Parity – PPP. The PPP suggests
that a dollar should buy the same amount of product everywhere in
the world and this would make country wide comparisons easier

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and possible. But the PPP again only takes into account the
monetary factors and leave no space for inclusion of the qualitative
factors of a person’s life. For the purposes of this essay we shall
look at the measures which do take into account more than
economic aspects.

Human Development Index (HDI) – The United Nations

Development Program 1999 came up with a new annual report
named the HDI. The HDI took into account GDP, life expectancy
at birth, education etc. The inclusion of these social factors meant
that the HDI gave a better measure of the standard of living.
Although not a complete indicator of the true standard of living the
HDI is perceived to be better than the GDP. (www.undp.ord)

Genuine Progress Indicator (GPI) – A North American public

policy organisation based in California called ‘Redefining
Progress’ put forward the Genuine Progress Indicator – GPI in
1995. The GPI laid more importance to the qualitative situations in
societies. For example where the GDP treated public expenditure
on crime prevention as an addition to the standard of living the GPI
subtracted these costs in the logic that such costs added to
breakdown of the social fabric. A key characteristic of the GPI is
that the income disparities in the society are more aptly adjusted
for when measuring standard of living in a country. The GPI rises

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for a nation when the poorer sections of the society receive a larger
section of the national income thus presenting a more accurate and
all round picture of the true standard of living conditions. Further
advantages of using the GPI is that, where GDP counts pollution as
a double gain, once when it is created and then again when it is
cleaned up, GPI subtracts the costs of air and water pollution as
measured by actual damage to the human well being and also to
the natural environment. (www.undp.ord)

Index of Social Health – In 1987 Marc Miringoff and Prof.

Marque-Luisa Miringoff together developed the Index of Social
Health. The Index is published annually using government data for
16 social indicators. The Index uses a scorecard where countries or
even states within a country are ranked out of 100. The factors
included in the Index shows how important the inclusion of the
qualitative factors of life are sometimes more crucial than the mere
amount of disposable income. (www.undp.ord)

The Sixteen Indicators in the Index of Social Health

1. Affordable Housing
2. Child poverty
3. Infant mortality
4. Unemployment
5. Age 65 plus poverty
6. Health care coverage

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 7. Life expectancy
8. Violent crime
9. Alcohol related traffic fatalities
10.High school completion
11.Teenage births
12.Wages
13.Child abuse
14.Inequality in family income
15.Teenage drug abuse
16.Youth suicide

Human Poverty Index (HPI) – the HPI measures the different

percentages of people that are not expected to achieve specified
target levels of different economic and quality of life indicators.
The HPI model includes three separate indicators, P1, P2 and P3.

P1 is the percentage of people not expected to survive to age 40.

P2 is the percentage of adults who are illiterate.
P3 is the percentage of people who fail to attain a decent living
standard. P3 is then separated into three separate items which are:
P31 - % of people without access to safe water, P32 - % of people
without access to health services and P33 - % of people with
underweight children, P3 is then calculated as an average of these
three items.
P3 = (p31+p32+p33)/3 (www.undp.ord)

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CONCLUSION

In conclusion we can see that the GDP as a measure of true

standard of living is grossly inadequate and requires to be
combined with others forms of measures which include qualitative
aspects as well. With an increased number of factors which affect
the well being of the modern citizen it is not realistic to rely solely
on measures which are purely economic based. Sustainability
issues in an economy also need to be incorporated in to the
measure of standard of living. While it is not easy to formulate a
platform for this measurement there has to be some sort of
parameter where such factors are included.

The adoption of alternative measures is complicated because of the

inherent nature of changes in technology and cultural inclinations
of people in different countries. While the adoption of a combined
measure of standard of living may reflect a reasonably accurate
picture for a given nation, it is necessary from an academic point
of view for there to be a comparison base between countries.

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 Bibliography

1. Tony Buxton, Paul Chapman and Paul Temple, Britain’s

Economic Performance, 2nd edition, 2001

2. David Begg, Economics, 7th edition, 2004

3. Oxford Dictionary of Economics by John Black

4. www.undp.ord/hdr2003/faq.html21- Human Development

Report, 2003, FAQ’s on the Human development Indices

5. www.bos.frb.org/genpubs/ledger/ledger03/winter/measure.pdf-
The Ledger 2003, ‘’How do we measure standard of living’’?

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