All the points outlined in the previous section suggest that we should be very careful indeed if we use national product or national product per capita or per head (total national product divided by the number of people in the country) figures for the purposes of measuring living standards. We should take particular care when we make comparisons between countries with different economic and social systems, or attempt to measure changes over long periods of time.
Imagine an extreme case – an attempt to compare average living standards between 1888 and 2008. There was no radio, television, mobile phones, personal computers, portable music players such as iPods, or motor cars and aircraft in 1888! These are so fundamental to the pattern of life today that we cannot really even begin to make any sensible
comparison. At best, we can only compare different aspects of life, e.g. working conditions, for particular groups of workers.
Moreover, when we talk about the standard of living, there are important aspects that cannot be measured in terms of economic activity. A person may have a higher real income if employed in 2008 than their father had in 1988, but if they are unemployed and have little prospect of employment, is their standard of living any higher? Opportunities for travel, for changing employment, freedom of speech and religion, freedom to walk the streets without fear of violent crime, arbitrary arrest or political coercion, all these are elements in the standard of living which are not included in any gross national product calculations. The matters of working hours and leisure time are also ignored. There is also the environment.
Some countries attach great importance to protecting their environment and preventing pollution and other actions that degrade the physical environment. In other countries the environment may be ignored in both private and government decisions, and the physical environment may be so damaged and polluted that it damages people's health and reduces living standards. Standard measures of national income take no account of environmental damage and differences in the quality of the environment between countries. Some countries today, such as China and India, are achieving very high rates of real economic growth using conventional measures of national income, but at the expense of large scale damage to their physical environments (including their supplies of water). Material living standards measured by real GDP per capita can increase at the same time as the quality of life deteriorates and the former is the cause of the latter.
Economists are sometimes accused of placing too much weight on measures of quantity and on money values, and not taking sufficient notice of quality and the values that money
cannot measure. Increasingly however, economists are recognising the limitations of the concepts and measures they use. As long as we bear these in mind, then we can make effective use of national accounts and recognise that these are an essential starting point for
any study of national economy. We would not expect a set of company accounts to tell the full story of a large business enterprise but equally, if we wanted to examine the enterprise, we would be foolish not to include in that examination a very close scrutiny of the company accounts. In the same way, we find a great deal of invaluable information in the national accounts of a country.
Table 9.4 summarises the factors that need to be taken into account when using official measures of national income or GDP to compare changes in living standards over time in a country or between countries at the same time:
Table 9.4: Key factors using official measures to compare changes in living standards
Income comparisons over time in a country
Income comparisons between different countries at the same point in time Correct for changes in the level of prices
over time – use real value measures by adjusting money values for
inflation/deflation.
Compare like with like and use real value measures of GDP or national income.
Allow for changes in the size of the population – use real income per capita measures by dividing real GDP or real national income by total population.
But need to recognise that real GDP per capita is an average measure and ignores how actual income levels per head are dependent on the distribution of income.
Compare like with like and adjust for differences in size of population by comparing real GDP or real national income on a per capita basis
But need to recognise that real GDP per capita is an average measure and ignores how actual income levels per head are dependent on the distribution of income.
Allow for changes in the distribution of income over time in making conclusion based on changes in real GDP per capita
Recognise that differences in the
distribution of income between countries affect conclusions based on a direct comparison of living standard measures such as real GDP per capita.
Allow for improvement in the quality of goods and services over time and the introduction of totally new goods and services.
Allow for differences in the quality of similar goods and services, and the availability of different goods and services, between countries at the same time.
Need to take account of changes in measures of the quality of life including health care, life expectancy, education and literacy, political freedom, press freedom, corruption, environmental pollution. For example, the Human Development Index.
Need to take account of differences in the quality of life between countries including health care, life expectancy, education and literacy, political freedom, press freedom, corruption, environmental pollution. For example, the Human Development Index.
Review Points
Before you begin your study of the next unit you should go back to the start of this one and check that you have achieved the learning objectives. If you do not think that you understand the aim and each of the objectives completely, you should spend more time rereading the relevant sections.
You can test your understanding of what you have learnt by attempting to answer the following questions. Check all of your answers with the unit text.
1. What is meant by the circular flow of income? How does the circular flow of income in a closed economy differ from that in an open economy?
2. Explain the output, income and expenditure approaches to the measurement of gross domestic product (GDP).
3. Describe the main components of total expenditure or demand in an economy.
4. Explain how indirect taxes and subsidies are accounted for when we calculate an economy's GDP at basic prices (or factor cost) from the components of total final expenditure.
5. Explain the distinction between real and current price (nominal) measures of national output, product and income.
6. What is the term used to distinguish real from current price (nominal) measures of national output, product and income in the UK National Accounts – Blue Book?
7. Why are measures of national economic performance such as GDP or GNI not necessarily good guides to the standard of living or well-being in a country?