Myth, Truth and the Future…
Nominal Vs PPP Adjusted GDP values...
Nominal GDP per capita (per person) can be considered a widely used economic indicator in the world. The amount of impact this data indicator has on a country is enormous. The Multilateral Agencies, Investors, Governments & Individuals would be making hundreds of critical decisions every day based on this very primary indicator. Yet have we ever thought of the importance of the impact of Purchasing Power Parity on GDP values? How much of a GDP value is hidden?
A solid example of the wide variance between Nominal GDP vs PPP Adjusted GDP is Sri Lanka.
The South Asian Nation has a Nominal GDP value of USD 3,828 (2023). As per the international categorization of world bank on income levels Sri Lanka belongs to lower middle-income threshold.
However, as per the GDP per capita adjusted for PPP – Purchasing Power Parity, Sri Lanka stands at the edge of a High-Income level country with USD 14,455 (2023). Sri Lanka also stands with unique club of countries with significantly higher gaps between Nominal Vs. PPP per capita. Table below provides a snapshot of few countries with such higher variance. (Note the list is not exclusive).
Country | GDP Nominal per capita | GDP PPP per capita | % of PPP per capita / Nominal per capita |
Bangladesh | $1,564 | $6,603 | 422% |
Sri Lanka | $3,828 | $14,455 | 378% |
Nigeria | $2,005 | $7,215 | 360% |
Pakistan | $1,584 | $5,691 | 359% |
India | $2,640 | $9,300 | 352% |
Egypt | $4,158 | $12,019 | 289% |
China | $12,696 | $23,432 | 185% |
As per the above table the income categorization levels of Bangladesh, Nigeria, Pakistan, India & Egypt must be uplifted, if their PPP adjusted GDP to be considered. Notably the Chinese GDP has to be uplifted by 85% of its current nominal levels.
One common factor among these countries with higher variance between the two bases is that relatively low minimum wage levels. Which may significantly impact the cost of the goods and services produced in an economy.
This brings us to the question - what is the base of Purchasing Power Parity?
The concept of Purchasing Power Parity (PPP) was introduced by the Swedish economist Gustav Cassel in the early 20th century, specifically in his work during the 1920s, theory that compares different countries' currencies through a "basket of goods" approach. The theory provides a like to like basis for comparison of living standards between two countries
However, much of the data and the practical implementation was possible when this emerged as an initiative in 1968 known as International Comparison Program (ICP) driven by World Bank to collect and analyse data on the purchasing power parity (PPP) of various countries.
What can cause this Purchasing Power Parity Gap among Nations?
- Price Level Variations: The cost of goods and services can vary significantly due to local market conditions, taxation, and supply-demand dynamics.
- Currency Exchange Rates: Fluctuations in nominal exchange rates can affect the relative purchasing power of currencies, leading to discrepancies in PPP.
- Consumption Patterns: Different countries have varying consumption habits and preferences, affecting the types of goods and services purchased, which can skew PPP calculations.
- Quality Differences: Variations in product quality, availability, and brand perception can lead to differences in prices that aren't accounted for in simple price comparisons.
- Market Structure: Monopolistic or oligopolistic market structures in some countries can lead to higher prices compared to more competitive markets.
- Transportation Costs: Costs associated with moving goods can differ based on geography and infrastructure, impacting local prices.
- Labour Costs: Differences in wages and productivity can influence the cost of services and goods, affecting overall price levels.
- Economic Policies: Government interventions, such as tariffs, subsidies, and regulations, can distort prices and influence the relative cost of living.
- Inflation Rates: Different inflation rates can lead to divergent price levels over time, impacting PPP calculations.
- Cultural Factors: Local customs and traditions can influence what goods are available and their prices, contributing to PPP differences.
The amount of Global GDP is hidden due to PPP?
The Global GDP can argue to be hidden to a greater extent due to nominal measurement thereby the PPP measurement shed a light on the reality.
Below data depicts Global GDP values from 2015 to 2023 which are actuals and values from 2024 to 2027 which are projected. The ratio between the Nominal and the PPP adjusted value are also calculated to show the relative size of the hidden GDP amounts.
Year | Global GDP Nominal Value | Global GDP PPP | % of PPP per capita / Nominal per capita |
2015 | $74.16 | $126.25 | 170% |
2016 | $75.21 | $127.57 | 170% |
2017 | $80.74 | $135.87 | 168% |
2018 | $85.81 | $141.88 | 165% |
2019 | $87.75 | $144.95 | 165% |
2020 | $84.54 | $140.73 | 166% |
2021 | $94.93 | $155.65 | 164% |
2023 | $104.81 | $164.25 | 157% |
2024* | $113.45 | $175.12 | 154% |
2025* | $122.06 | $185.00 | 152% |
2026* | $130.88 | $195.09 | 149% |
2027* | $139.85 | $205.22 | 147% |
(Source: GDP data from World Bank)
Interesting field would-be last column where PPP per capita to Nominal ratio has been declining on a slow but a continuous basis. And the predictions suggest the PPP to Nominal % will continue to reduce across next 3 years as well.
This is in-fact inline with the overall narrative which is that Global Markets in general are getting more open and trade barriers are removed. (Though there can be fewer exceptions to general narrative in the news topics).
Can there ever be a world where Nominal GDP equals PPP based GDP calculation – A Parity Free World?
Whilst there are many schools of thoughts. Globally the trade reforms and trade liberalization can wipe-out the parity gap to a significant level. However, there would still be gaps among the countries due to inherent realities like the differences in transportation costs, exchange fluctuations, government interventions and labour costs etc.
Though the dream of a Parity free world is far away, World will surely be a place with lower parity gaps within the next century.
by Panchama Pannilarathne - Guest Author
(Disclaimer: The ideas /opinions in the article are fully private and personnel in nature and does not represent the organizations or institutes which the writer may have any connection in terms of employment, education or professional bodies that he may form part of. There by any liability is held strictly with the writer)
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