Lecture 2 (Chap.1A) What is Development? Indicators and Issues Poverty and development Lecture 2 (Chap.1A) What is Development? Indicators and Issues Ichiro Sugimoto

Agenda Seven Dimensions of Development Incomes and Income Growth Poverty and Hunger Inequality and Inequity Review Discussion and Brief Lecture Exercises Assignments for the next class

1. Seven Dimensions of Development Review Lecture Discussion LTD Exercise 1. Seven Dimensions of Development Development is about the enhancement of human wellbeing. Wellbeing is a multidimensional concept implying priorities and trade-offs, with the consequence that defining development is a national and personal choice reflecting the social needs and aspirations of the corresponding individual, group, class, or nation.

Review Lecture Discussion LTD Exercise Review Questions 1 Development is a multidimensional concept. What are seven dimensions that would enter into a definition of development?

1.Seven Dimensions of Development Review Lecture Discussion LTD Exercise 1.Seven Dimensions of Development A good starting point to look for dimensions of development on which there is broad agreement is the Millennium Development Goals (MDGs) – a set of objectives defined by the UN in 2000 to be met in 2015 and formally endorsed by all 191 UN member states. WHY？

1. Seven Dimensions of Development Review Lecture Discussion LTD Exercise 1. Seven Dimensions of Development MDGs inevitably simplify the reality of development to just a few dimensions. MDGs help reveal broad international agreement on some of the fundamental aspects of development.

1. Seven Dimensions of Development Review Lecture Discussion LTD Exercise 1. Seven Dimensions of Development MDGｓ proposed to work with the following seven dimensions. 1. Income and income growth (MDG 1) 2. Poverty and hunger (MDG 1) 3. Inequality and inequity (MDG 3) 4. Vulnerability

1. Seven Dimensions of Development Review Lecture Discussion LTD Exercise 1. Seven Dimensions of Development Basic needs in education and health and in sanitation and housing. Environmental sustainability Quality of life: empowerment (MDG3) and a long list of other features associated with capabilities and happiness, service.

Review Lecture Discussion LTD Exercise Review Questions 1 How do definition of development correspond to the MDGs?

Millennium Development Goals (Video) Review Lecture Discussion LTD Exercise Millennium Development Goals (Video)

https://mdgs.un.org/unsd/mdg/Host.aspx?Content=Data/snapshots.htm

Review Lecture Discussion LTD Exercise

Next Assignments Access to Website “Milennium Development Goals Indicators” Choose One Country from the list Print the result of report (PDF format) Write down 5 major findings achievement of MDGs from the result of report. We will use in the next class. https://mdgs.un.org/unsd/mdg/Host.aspx?Content=Data/snapshots.htm

1. Seven Dimensions of Development Review Lecture Discussion LTD Exercise 1. Seven Dimensions of Development Broadly speaking, the MDGs indicate broad agreement about the importance of three goals: Poverty/ Income / Growth Basic needs in health and education Environmental Sustainability

1. Seven Dimensions of Development Review Lecture Discussion LTD Exercise 1. Seven Dimensions of Development Greater equality and equity Reduced vulnerability Improved quality of life These points are recognized but not given the same salience. Unevenly stressed across country programs, with a greater role for country preferences.

Review Lecture Discussion LTD Exercise https://www.youtube.com/watch?v=5_hLuEui6ww

2. Income and Income Growth Review Lecture Discussion LTD Exercise 2. Income and Income Growth The first and most broadly agreed upon dimension of development is the level and growth of per capita income. Income is what gives a household the monetary capacity to consume, invest or save. Income growth has to be a key instrument to achieve higher wellbeing. Growth directly contributes to raising the income of the poor. So, government and development agencies focus on growth as the key instrument to achieve development

2. Income and Income Growth Review Lecture Discussion LTD Exercise 2. Income and Income Growth What indicators could we use to characterize income and income growth? Measuring the Size of the Economy Country’s overall economic development was generally quantified as Gross Domestic Product (GDP).

Review Questions 2 Please define GDP Review Lecture Discussion LTD Exercise Review Questions 2 Please define GDP

What is GDP? Gross Domestic Product (GDP) Review Lecture Discussion LTD Exercise What is GDP? Gross Domestic Product (GDP) Measures the total income of everyone in the economy Measures the total expenditure on the economy’s output of goods and services For an economy as a whole Income must equal expenditure

Recommendation for Further Readings Review Lecture Discussion LTD Exercise Recommendation for Further Readings https://www.youtube.com/watch?v=GQSLxw8f8zc

Creators of SNA (Nobel laureate) Review Lecture Discussion LTD Exercise Creators of SNA (Nobel laureate) Simon Kuznets “for his empirically founded interpretation of economic growth which has led to new and deepened insight into the economic and social structure and process of development” (1971) Wassily Leontief “for the development of the input-output method and for its application to important economic problems” (1973) Sir Richard Stone “for having made fundamental contributions to the development of systems of national accounts and hence greatly improved the basis for empirical economic analysis” (1984)

The measurement of GDP Circular-flow diagram – assumptions: Markets Review Lecture Discussion LTD Exercise The measurement of GDP Circular-flow diagram – assumptions: Markets Goods and services Factors of production Households Spend all of their income Buy all goods and services Firms Pay wages, rent, profit to resource owners

The Circular-Flow Diagram Review Lecture Discussion LTD Exercise The Circular-Flow Diagram Households buy goods and services from firms, and firms use their revenue from sales to pay wages to workers, rent to landowners, and profit to firm owners. GDP equals the total amount spent by households in the market for goods and services. It also equals the total wages, rent, and profit paid by firms in the markets for the factors of production.

GDP-Value Added Approach Review Lecture Discussion LTD Exercise GDP-Value Added Approach https://www.youtube.com/watch?v=9FPOjE_T4YI

The Components of GDP Y = C + I + G + NX Identity Y = GDP Review Lecture Discussion LTD Exercise The Components of GDP Y = C + I + G + NX Identity Y = GDP C = consumption I = investment G = government purchases NX = net exports

The Components of GDP Consumption, C Review Lecture Discussion LTD Exercise The Components of GDP Consumption, C Spending by households on goods and services Exception: purchases of new housing Investment, I Spending on capital equipment, inventories, and structures Household purchases of new housing Inventory accumulation

The Components of GDP Government purchases, G Review Lecture Discussion LTD Exercise The Components of GDP Government purchases, G Government consumption expenditure and gross investment Spending on goods and services By local, state, and federal governments Does not include transfer payments

The Components of GDP Net exports, NX = Exports - Imports Exports Review Lecture Discussion LTD Exercise The Components of GDP Net exports, NX = Exports - Imports Exports Spending on domestically produced goods by foreigners Imports Spending on foreign goods by domestic residents

Review Lecture Discussion LTD Exercise Table 1 GDP and Its Components This table shows total GDP for the U.S. economy in 2012 and the breakdown of GDP among its four components. When reading this table, recall the identity Y = C + I + G + NX.

Review Questions 2 How to adjust GDPpc (GDP per-capita) for inflation? Lecture Discussion LTD Exercise Review Questions 2 How to adjust GDPpc (GDP per-capita) for inflation?

Real versus Nominal GDP Review Lecture Discussion LTD Exercise Real versus Nominal GDP Total spending rises from one year to the next Economy - producing a larger output of goods and services. And/or goods and services are being sold at higher prices Nominal GDP Production of goods and services Valued at current prices

Real versus Nominal GDP Review Lecture Discussion LTD Exercise Real versus Nominal GDP Real GDP Production of goods and services Valued at constant prices Designate one year as base year Not affected by changes in prices For the base year Nominal GDP = Real GDP

Real versus Nominal GDP Review Lecture Discussion LTD Exercise Real versus Nominal GDP The GDP deflator Ratio of nominal GDP to real GDP times 100 Is 100 for the base year Measures the current level of prices relative to the level of prices in the base year Can be used to take inflation out of nominal GDP (“deflate” nominal GDP)

Real versus Nominal GDP Review Lecture Discussion LTD Exercise Real versus Nominal GDP Inflation Economy’s overall price level is rising Inflation rate Percentage change in some measure of the price level from one period to the next

Table 2 Real and Nominal GDP Review Lecture Discussion LTD Exercise This table shows how to calculate real GDP, nominal GDP, and the GDP deflator for a hypothetical economy that produces only hot dogs and hamburgers.

Calculating change over time: compound annual growth rates Review Lecture Discussion LTD Exercise Calculating change over time: compound annual growth rates Growth rate computed between two dates Measure g (the average annual growth rate) from an initial value y0 in year 0 and a final value yT in year T. yT= y0(1+g)T …..(1) g=(yT/y0)1/T-1 …….(2)

The method of deriving Compound Annual Growth Rates (CAGR) Review Lecture Discussion LTD Exercise The method of deriving Compound Annual Growth Rates (CAGR) The compound annual growth rate (CAGR) is the mean annual growth rate of GDP over a specified period of time longer than one year. To calculate compound annual growth rate, divide the value of an investment at the end of the period in question by its value at the beginning of that period, raise the result to the power of one divided by the period length, and subtract one from the subsequent result. This can be written as follows:

The method of deriving Compound Annual Growth Rates (CAGR) Review Lecture Discussion LTD Exercise The method of deriving Compound Annual Growth Rates (CAGR)

Calculating change over time: compound annual growth rates Review Lecture Discussion LTD Exercise Calculating change over time: compound annual growth rates Compute compound annual growth rates between two dates. Please refer to attached file in Portal site. Chapter 1 exercise

Calculating change over time: compound annual growth rates Review Lecture Discussion LTD Exercise Calculating change over time: compound annual growth rates Growth rate computed over the whole period If we have a continuous time series data, the average annual growth rate should not be calculated using only the initial and terminal years. Obtain the fitted log linear trend across the whole time series. ln yt= ln y0 + ln(1+g)T …..(1) Let　　 ln y0 = α　ln(1+g) = β Using Excel

Calculating change over time: compound annual growth rates Review Lecture Discussion LTD Exercise Calculating change over time: compound annual growth rates Growth rate computed over the whole period

Calculating change over time: compound annual growth rates Review Lecture Discussion LTD Exercise Calculating change over time: compound annual growth rates Compute compound annual growth rates over the whole period Chapter 1 exercise (Q)

Comparisons over time: the need to adjust for inflation Review Lecture Discussion LTD Exercise Comparisons over time: the need to adjust for inflation

Review Lecture Discussion LTD Exercise Review Questions For a given growth rate of income how to measure the number of years it will take for income to double?

Time to double at a given growth rate: the 70 years rule Review Lecture Discussion LTD Exercise Time to double at a given growth rate: the 70 years rule The rule of 70 is a way to estimate the number of years it takes for a certain variable to double. The rule of 70 states that in order to estimate the number of years for a variable to double, take the number 70 and divide it by the growth rate of the variable. This rule is commonly used with an annual compound interest rate to quickly determine how long it would take to double your money.

Time to double at a given growth rate: the 70 years rule Review Lecture Discussion LTD Exercise Time to double at a given growth rate: the 70 years rule

How do you compute rule of 70? Review Lecture Discussion LTD Exercise How do you compute rule of 70?

Review Questions 2 Please define PPP-adjusted GDP. Review Lecture Discussion LTD Exercise Review Questions 2 Please define PPP-adjusted GDP.

Review Lecture Discussion LTD Exercise Comparison across countries: the need to bring income figures into a single Comparing income across countries requires measuring it in the same monetary unit, i.e. the same national currency. There are two options for this. The first is to use the official exchange rate that tells us how many local currency units (LCU) are needed to acquire 1US$. The other is to use an exchange rate that reflects the purchasing power of the local currency relative to the US dollar, taking into account price differences across countries, called the Purchasing Power Parity exchange rate (PPPe).

Review Lecture Discussion LTD Exercise Comparison across countries: the need to bring income figures into a single Comparisons at the official exchange rate Define the official exchange rate as e = number of LCU/US$1. Thus e is the price of the US dollar for a foreign national—a Mexican citizen, say. In August 2010, the official exchange rate for the Mexican peso was 12.8 pesos/US$. This is the number of pesos the Mexican citizen needs to pay to acquire one US$. Levels of GDPpc can be compared across countries by transforming the GDPpc measured in LCU into GDPpc measured in US$ at the official exchange rate.

Review Lecture Discussion LTD Exercise Comparison across countries: the need to bring income figures into a single This is done by dividing GDPpc measured in LCU by the exchange rate: The problem with this approach is that movements in the exchange rate will create changes in GDPpc$ even if there has been no change in GDPpcLCU

Review Lecture Discussion LTD Exercise Comparison across countries: the need to bring income figures into a single Comparisons at the PPP-adjusted exchange rate There are typically large differences in prices across countries, so $1 may buy more in, say, India, than it does in the US. For example, you could buy a haircut in India for $1 that is of the same quality as you get for $10 in the US.

Review Lecture Discussion LTD Exercise Comparison across countries: the need to bring income figures into a single To account for price differences in comparing GDPpc across countries as a measure of wellbeing, we need to adjust for the relative purchasing power of currencies—and the adjustment can make a big difference in assessing relative levels of wellbeing. To make cross-country comparisons of GDPpc that reflect relative wellbeing while prices differ, we can define an exchange rate that adjusts for the purchasing power of a dollar in the two countries.

Review Lecture Discussion LTD Exercise Comparison across countries: the need to bring income figures into a single This is the PPPe, defined as the number of LCUs required to buy the same amount of goods and services (of equal quality) as US$1 in the US. In this case, GDPpc measured in US$ with the same purchasing power as in the US is:

Review Lecture Discussion LTD Exercise Comparison across countries: the need to bring income figures into a single The PPP index is calculated for a particular basket of goods. If we want to compare poverty across countries using the PPPe, we would need to use the consumption basket of the poor, or of people around the poverty line. This is, however, typically not done, meaning that the PPP adjustment is only approximate for the comparison of interest.

Review Lecture Discussion LTD Exercise Review Questions 2 In poor countries, is PPP-GDPpc larger or smaller than GDPpc measured at the nominal exchange rate? Why?

Review Lecture Discussion LTD Exercise Comparison across countries: the need to bring income figures into a single The importance of the PPP adjustment to GDPpc can be visualized in the following two figures. In Figure 1.1, the horizontal axis measures the rank of each country in GDPpc in 2011. The vertical axis measures the country’s PPPe relative to its official exchange rate. The horizontal line at 1 is, by definition, the PPPe relative to the official e for the US. PPPe is below the official exchange rate, e, in most countries with a GDP inferior to that of the US.

Review Lecture Discussion LTD Exercise Comparison across countries: the need to bring income figures into a single Figure 1.1 PPP vs. Official Exchange Rate across countries.

Review Lecture Discussion LTD Exercise Copmarison across countries: the need to bring income figures into a single Consequently, as can be seen in Figure 1.2, in low- income countries,PPPGDPpc$>GDPpc$ , (eg.) GDPpc in dollars measured at the PPPe (the wiggly line), is higher than GDPpc in dollars measured at e (the smoother line). In India, for example, PPP GDPpc was $2,149 compared to a GDPpc of $450. In the US, PPPGDPpc$=GDPpc$ by construction, equal to $30,600 in that same year.

Review Lecture Discussion LTD Exercise Comparison across countries: the need to bring income figures into a single In high-income countries such as Japan and Germany, PPPGDPpc$<GDPpc$ . In Japan, for example, PPPGDPpc was $24,041 compared to a GDPpc at the nominal exchange rate equal to $32,230. Taking into account price differences, which tend to be lower in poorer countries for a same-quality product or service, thus tends to reduce differences in wellbeing when measured as GDPpc.

Review Lecture Discussion LTD Exercise Comparison across countries: the need to bring income figures into a single Figure 1.2 GDPpc at PPP vs. at official exchange rate across countries, 2011

Genuine Progress Indicator (GPI): accounting for non-marketed services Review Lecture Discussion LTD Exercise Genuine Progress Indicator (GPI): accounting for non-marketed services Measuring a country’s income should take into account the value of all goods and services, including those that are not transacted in the market. GPI= GDP + Value of unpaid work – Costs of crime and social breakdown – Cost of environmental damage.

Development issues with income and income growth Review Lecture Discussion LTD Exercise Development issues with income and income growth Generally speaking, there is a broad agreement that income and income growth are fundamental for development. However, explaining growth remains one of the most difficult and weak aspects of development theory.

Development issues with income and income growth Review Lecture Discussion LTD Exercise Development issues with income and income growth Big Question Why the GDPpc of some countries is converging with that of the industrialized countries, while it is diverging for others.

Development Issues with income and income growth Review Lecture Discussion LTD Exercise Development Issues with income and income growth It is important to understand the following five points (1)what makes growth more or less “pro- poor”, i.e. effective for poverty reduction (2)what the role of spill over effects is across firms in inducing productivity growth, and the consequent role of clusters of economic activity in industrialization strategies.

Development Issues with income and income growth Review Lecture Discussion LTD Exercise Development Issues with income and income growth (3)under what conditions rising wages become an engine of growth increasing domestic effective demand, thus reconciling growth and equity. (4)whether more equality and less poverty can themselves be sources of growth. (5) whether the process of income generation in itself can be a source of wellbeing as opposed to a cost, i.e. whether work itself can be a source of happiness.

3. Poverty and Hunger Measuring poverty Review Lecture Discussion LTD Exercise 3. Poverty and Hunger Measuring poverty Reducing poverty is central to development because growth can make poverty reduction. Measuring poverty requires, 1. Choosing an indicator of wellbeing. Income or Consumption. 2. Comparing this indicator to a threshold- a particular poverty line. A household will be categorized as poor if its per capita income or consumption falls below the poverty line.

Progress in poverty reduction across the world Review Lecture Discussion LTD Exercise Progress in poverty reduction across the world Low GDP per person According to the latest global poverty data, in spite of rapid economic growth and the stunning success of some countries in reducing poverty, poverty remains staggeringly high in developing countries.

Progress in poverty reduction across the world Review Lecture Discussion LTD Exercise Progress in poverty reduction across the world Low GDP per person

Progress in poverty reduction across the world Review Lecture Discussion LTD Exercise Progress in poverty reduction across the world Observations Total number of poor declined between 1981 and 2010 from 1.9 to 1.2 billion, with most of the decline coming from China. Most of the extreme poor are now located in South Asia (42%), Sub-Saharan Africa (34%) East Asia (21%).

Progress in poverty reduction across the world Review Lecture Discussion LTD Exercise Progress in poverty reduction across the world As poverty is increasingly located in “hard” places- with open conflicts, post-conflict conditions, and failed states – this will make the task of using foreign aid for poverty reduction particularly challenging.

Progress in poverty reduction across the world Review Lecture Discussion LTD Exercise Progress in poverty reduction across the world E = % change in poverty headcount ratio ___________________________________________ % change in mean per capita income or consumption Eg. E=-3 This mean that a 1 percent increase in mean income or consumption expenditures reduces the share of people living in poverty by 3 percent. World Development Report (2000) finds considerable heterogeneity across countries, with values ranging from - 1.5 to -5.

Development issues relating to Development issues relating to poverty Review Lecture Discussion LTD Exercise Development issues relating to Development issues relating to poverty There are a number of issues in the development poverty relationship that will be of concern to us. It is better to think about poverty in absolute terms. It is necessary to understand the behavior of “Poor Economics” to design potentially effective anti-poverty policies and program.

Development issues relating to Development issues relating to poverty Review Lecture Discussion LTD Exercise Development issues relating to Development issues relating to poverty The lowering poverty can itself be a source of growth. Poverty is not only chronic, but also for many transitory, associated with exposure to specific uninsured shocks. What are the pathways out of poverty, and what are the policy instruments that can be used to make these pathways more effective?

4.Inequality and Inequity Measuring inequality and inequity Review Lecture Discussion LTD Exercise 4.Inequality and Inequity Measuring inequality and inequity Inequality is an ex-post concept, describing how aggregate income is distributed across a population after income has been achieved. Inequality varies widely across countries. Equity is an ex-ante concept. It measures the degree of equality in opportunities to generate future income or to achieve other development objectives such as education and health.

4.Inequality and Inequity Measuring inequality and inequity Review Lecture Discussion LTD Exercise 4.Inequality and Inequity Measuring inequality and inequity Equity is equality in the distribution of “capabilities” i.e. What people can do or their opportunity set, which is largely determined by their asset endowments and the context in which these assets are used. (Sen, 1985)

Why be concerned with inequality in development? Review Lecture Discussion LTD Exercise Why be concerned with inequality in development? In as much as there is agreement on the importance of poverty reduction for development, why should we be concerned with equality and equity? Since there is broad agreement that growth is the main engine for poverty reduction, a powerful argument in favor of concerns with equality and equity would be that they are instruments for faster growth.

Why be concerned with inequality in development? Review Lecture Discussion LTD Exercise Why be concerned with inequality in development? But, then, what are the channels through which greater equality could be a potential determinant of faster growth? We will examine this issue in Chapter 6.

Growth, poverty and inequality, the development triangle Review Lecture Discussion LTD Exercise Growth, poverty and inequality, the development triangle Growth, poverty and inequality are related through a “development triangle”. Each is influenced by the others and can be an instrument to affect the others. Of the five channels that link them, as represented in Figure 1.3 “Growth is good” to reduce poverty (Dollar and Kraay, 2001), particularly growth in agriculture on which most poor people depend for their living. A lower initial incidence of poverty is likely to favor higher growth, a regularity recently identified by Ravallion (2012).

Growth, poverty and inequality, the development triangle Review Lecture Discussion LTD Exercise Growth, poverty and inequality, the development triangle As seen above, inequality acts on growth through multiple channels, making the net effect ambiguous, but is generally believed by development agencies to stifle growth beyond a certain level. Growth may overall be neutral for inequality, but rapid early growth, as in Vietnam and China, is strongly associated with rising disparities. Greater inequality enhances poverty at a given income level, while poverty reduction may or may not reduce inequality.

Review Lecture Discussion LTD Exercise The development triangle: five channels linking growth, poverty, and inequality

Next Assignments Read Textbook (pp.52-74) Write the answer the following Review Questions (p.74) -Question 3. -Question 5. -Question 6. Please type answers in A4 paper. You will use your work during small discussion. You need to submit your work after the class.