Why It's Bad When a Country's GDP Grows More Than the Income of Its People

10/03/2014 05:15 EDT | Updated 12/03/2014 05:59 EST

The advanced economies experienced significant increases in their national economies in the past few decades. While the gross domestic product of the developed countries increased substantially, the income growth of the average person did not match that increase. It seems that there has been a divergence in the GDP growth and income growth of the average person in the developed countries. At the same time, the number of people living below the poverty line has increased or remained the same in some of these countries.

The GDP of the United States increased significantly between 1967 and 2010. According to the Bureau of Economic Analysis, the US had a GDP of US $4.4 trillion in 1967 in chained 2009 dollars. By 2010, the GDP had increased enormously to US $14.8 trillion in chained 2009 dollars. An increase in GDP by US $10.4 trillion means that GDP grew by a compound annual growth rate (CAGR) of 2.9 percent. During the same period, CPI-adjusted median income increased from US $43,558 in 1967 to US $52,646 in 2010 according to US Census Bureau data. This yields a CAGR of 0.44 percent. It means that while GDP grew on average by 2.9 percent per year, CPI-adjusted median income increased by only 0.44 percent per year. There has been clearly a divergence in GDP growth and median income growth. This demonstrates that while GDP grew and the country became richer, median income increased at quite a low rate. The slow growth of median income indicates that the middle class who primarily have median income, have been struggling to maintain their standard of living. Again, it has been particularly difficult for people who belong to the lower income group. The people who belong to the lower income and middle class have not proportionally enjoyed the expansion in GDP.

During the 1967-2010 period, poverty level hovered between 12 to 15 percent in the US, according to US Census Bureau. While the country became richer and continued its economic status as the largest economy in the world, the poverty level did not decrease. It further demonstrates that GDP growth by itself does not necessarily lead to a decrease in the poverty level. The number of people living below the poverty line actually increased from 27.8 million in 1967 to 46.3 million in 2010. The growth in the size of the economy was corresponded by an increase in the number of people living below the poverty line. It must be mentioned that not all people living below the poverty line are unemployed. Many people are employed and still live below the poverty line as their earnings are not sufficient to push them above the poverty line.

The same trend is observed in other advanced countries. According to a report by Poverty and Social Exclusion in the United Kingdom (PSE), the number of people living in poverty in the UK has increased significantly even though the size of the UK economy expanded. The study mentions that in the early 1980s, 14 percent of the population lived below the minimum standard of living. Currently, this has more than doubled to 33 percent of the population. It defines living below the minimum standard of living as foregoing three or more basic necessities of life. During the same period, the GDP of UK doubled. While the economy of the UK grew at a rapid pace, the percentage of population living below the minimum standard of living significantly increased. People living below the minimum standard of living certainly did not have enough income to rise above the threshold level. Their income did not grow at the same pace as the economy grew, leading to an increase in the poverty level. This indicates that there has been a divergence in GDP growth in UK and the income growth of its citizens, especially those who are in the lower and middle income groups.

According to a report by Joseph Rowntree Foundation, the UK has more working families living in poverty than non-working ones. The report found that over half of the 13 million people living below the poverty line came from a working household. It stated that low pay and part-time work had led to a fall in the standard of living. This indicates that employment does not necessarily lead to a person moving out of the poverty threshold.

The middle class and people belonging to the lower income group are under pressure in other developed countries too, including Canada. Again, recession usually has a larger impact on the poor and the middle class. Moreover, a recession may push people in the low income group below the poverty line. This may increase the poverty level and the number of people living below the poverty line.

Various problems may appear when there is a divergence between the GDP growth of a country and the income growth of its average citizens. It may lead to social instability and less social cohesion. Also, crime rates may increase that is undesirable for any country. Again, it may lead to a decrease in upward mobility in the society. In the long run, economic growth may not be sustainable and viable if significant number of people are living below or close to the poverty line.

There are some ways that policy makers can ameliorate this problem. One important step is education and skill development. Enhanced education and skills would help the poor to benefit from higher income and move out of poverty. Subsidized education and skills development courses can certainly make a difference. Again, an increase in minimum wages may help the poor to move out of poverty. Also, the idea of guaranteed minimum income may be explored. As a country becomes richer and some people are left behind, guaranteed minimum income may help to alleviate issues like poverty and reduce inequality. Government policies to create more full-time work that pay decent wages could be an effective policy. Finally, earned income tax credit program that offers tax refunds to workers earning below a certain level may also be used to improve the conditions of the economically vulnerable. A combination of these various strategies may be used to decrease the divergence between GDP growth and income growth. Then, GDP growth will be more inclusive and sustainable in the long run.


Countries With Largest Income Inequality Across OECD Countries