In making international comparisons, GDP and GNP have an additional--and purely economic--limitation, namely, that market exchange rates for a nation's currency often do not reflect that currency's true purchasing power at home.

In making international comparisons, GDP and GNP (as conventionally calculated) have an additional--and purely economic--limitation, namely, that market exchange rates for a nation's currency often do not reflect that currency's true purchasing power at home. Recently, it has become possible to compare national currencies based on purchasing power parity (PPP)--in effect, how much of a common "market basket" of goods and services each currency can purchase locally, including goods and services that are not traded internationally. (See Box 7.2.) The use of PPP currency values can dramatically change prevalent notions about a country's place in the world economy.

Consider, for example, the standard of living as measured by average per capita GDP in Japan and the United States. Market-based exchange rates represent the standard of living in Japan as having been higher than that in the United States since the early 1980s, when Japan's per capita GDP (measured in dollars)surpassed the U.S. per capita GDP. PPP-based currency values, however, provide a different perspective, suggesting that the U.S. standard of living is still significantly higher. (See Figures 7.1A and 7.1B.)

Reports of very rapid economic growth in China since the early 1980s have attracted international interest and investment. Market- based exchange rates give a growth rate averaging nearly 9 percent per year over the 1983-93 period. With PPP-based currency values, however, China's GDP growth rate for the same period is about 5 percent [5] [6].

India, in fact, shows a growth rate slightly higher than that of China for the same period, when calculated with PPP figures. (See Data Table 7.1.) Nonetheless, these PPP figures also indicate that China's economy is already much larger than conventional GDP figures suggest--larger than that of Germany and nearly as large as that of Japan.

Examples such as these illustrate how important the choice of indicators and calculation methods can be in shaping perceptions. Increasingly, international organizations are using PPP-based measures of economic activity in international comparisons. All figures given in the remainder of this chapter are PPP-based, unless otherwise noted.

References and notes

1. Robert Repetto et al., Wasting Assets: Natural Resources in the National Income Accounts (World Resources Institute, Washington, D.C., 1989).

2. Ernest Lutz and Salah El-Serafy, "Environmental and Resource Accounting: An Overview,"in Environmental Accounting for Sustainable Development, Yusuf J. Ahmad, Salah El-Serafy, and Ernest Lutz, eds. (The World Bank, Washington, D.C., 1989).

3. The World Bank, Monitoring Environmental Progress: A Report on Work in Progress (The World Bank, Washington, D.C., 1995), pp. 53-66.

4. Ibid., pp. 54-56.

5. According to the Penn World Table (Mark 5.6) (Robert Summers et al., The Penn World Table (Mark 5.6) , on diskette (University of Pennsylvania, Philadelphia, December 1994)), there is considerable uncertainty in PPP values for China. The values reported in this new edition of the Table reflect, among other extensive adjustments, a downward adjustment in growth rates of up to 40 percent, to reflect artificially high growth rates (or understated inflation rates) in China's official economic statistics.

6. Robert Summers et al., The Penn World Table (Mark 5.6) , on diskette (University of Pennsylvania, Philadelphia, December 1994 Methodology and table described in Robert Summers and Alan Heston, "The Penn World Table (Mark 5): An Expanded Set of International Comparisons, 1950-1988," Quarterly Journal of Economics, Vol. 106, No. 2 (1991), pp. 327-368.