New figures cast shadow over Bank poverty reduction claims

1 February 2008

Preliminary recalculations of global economic output excluding differences in domestic prices and currencies, released by the World Bank in mid-December, may undermine the much-trumpeted claims that globalisation has reduced the number of people living in extreme poverty.

The aim of the World Bank-led International Comparison Program (ICP) is to provide more accurate comparative data on economic growth based on the analysis of purchasing power. Measuring the economies of India or Mexico in US dollars at market exchange rates will seriously underestimate their ‘value’. To capture this difference, price surveys of a broadly equivalent bundle of goods and services are carried out in each country to calculate the real purchasing power of a unit of currency. This is then used to calculate a purchasing power parity (PPP) exchange rate in order to convert the economic output in each currency into a common measure (US dollars).

The first such survey was conducted in 1970, and the last major one in 1993. The recalculations released in December are based on numbers gathered in 2005. The Chinese government declined to participate in any of the surveys until 2005. The government of India participated in 1985, but declined to participate subsequently until 2005. As a result, past figures for the all-important Chinese and Indian economies had a large element of guesswork, muddying the global picture.

not 'updated' or 'more accurate', but differently distorted

In the latest survey in 2005 for Asia, the ICP used calculations made by the Asian Development Bank (one of the regional lead organisations in the ICP). These were released without fanfare in the summer of 2007. For China, the ADB used figures from the Chinese National Bureau of Statistics, which gathered price data in eleven large, mostly prosperous Chinese cities. The data collectors selected goods and services in line with the ICP prescription that they be “internationally comparable”. Prices in rural areas at the fringes of the 11 cities were surveyed, but not from rural areas proper, in which approximately 60 per cent of China’s population live.

Unsurprisingly, the survey found that prices ‘in China’ were much higher than had been previously guess-timated, and therefore the purchasing power of the yuan was much lower. Consequently, the Bank shrank its estimate of China’s 2005 output (in PPP terms) by a remarkable 40 per cent – to $5.3 trillion from $8.8 trillion. Similar calculations in India resulted in a revised estimate of India’s 2005 output of $2.3 trillion from $3.4 trillion. Such colossal revisions to fundamental global statistics are rare.

Eswar Prasad, former China division chief at the IMF and now at Cornell University, warned: “The notion that China is suddenly a much smaller part of the world economy should be taken with a huge degree of caution.” Some analysts have pointed out that it is in China’s political interest both to have its currency be viewed as less undervalued, and to understate the size of its economy.

Fred Vogel, the World Bank economist who oversaw the ICP, said that the China calculation “depends on a basic assumption that prices from the rural areas of the 11 administrative areas are representative of rural China.” He defended this by noting that most countries measure prices mainly in urban areas. Bank president Robert Zoellick tried to downplay the significance of the new figures, saying he suspected that “as more price data is taken into account, there will be more adjustments.”

Dodgy metrics, MDGs at risk?

While newspaper headlines have fixated on the meaning of the new calculations for the size of the Chinese and Indian economies relative to the US and Japan, the development story lies in what these numbers will mean for assessing the Bank’s poverty reduction efforts.

A number of economists have consistently slated the Bank’s approach to measuring poverty (see Update 29). Columbia University economist Sanjay Reddy argues that the Bank’s use of a $1 per day international poverty line is not meaningful because it “does not correspond to the real cost of achieving basic human requirements”. Reddy concludes therefore that the new poverty estimates for India and China “cannot be considered ‘updated’ or ‘more accurate’, but differently distorted”.

Reddy and fellow researcher at Columbia Thomas Pogge have proposed an alternative methodology: the use of a set of common criteria related to the possession of local resources sufficient to achieve basic human requirements. This approach remains untested, “despite being wholly feasible” according to Reddy and Pogge.

The Bank itself says in the report that “PPPs provide a measure of the overall price level of an economy, but they may not reflect the expenditure patterns of the poor”. A second report due out end February will show more detailed data for food, clothing, health and other items, though Vogel is “not expecting any significant revisions resulting from the additional analysis”. A separate exercise to estimate poverty levels is to be published “at a later time to be determined”.

Why is this so important? Simply put, it determines the number of people who fall below the poverty threshold and therefore the ‘effectiveness’ of poverty alleviation policies. Based on this figure the Bank pronounces success or failure on the first Millennium Development Goal to “reduce by half the proportion of people living on less than a dollar a day”.

According to the Bank’s previous estimates, the global number of poor people fell by approximately 150 million between 1990 and 1999 (the proportion falling from 28 to 22 per cent). This was due to some 150 million people supposedly leaving the ranks of the poor in China. Outside of China, reductions in the number of poor in other Asian nations were offset by increases in Eastern Europe, Central Asia, Latin America and especially Sub-Saharan Africa. So any major change in the Chinese picture could turn a net positive picture into a negative one.

The evaluation of World Bank research led by Princeton University’s Angus Deaton (see Update 54), while casting doubt on the independence and reliability of Bank research, argued for greater attention to bread-and-butter statistical work. The attention generated by the ICP controversy should make it clear that it is time to develop a measure of extreme poverty which is based on the real cost of meeting basic human needs. Until then, there will continue to be uncertainty about whether poverty reduction efforts are going forwards or backwards.