Welfare Versus GDP: What Makes People Better Off

IMF Blog, March 7, 2018

Source details

The index is a consumption-equivalent measure that:
- Measures welfare derived from consumption,
- Adds the value of leisure (or home production),
- Subtracts costs related to inequality,
- Multiplies the annual result by life expectancy to obtain average expected lifetime welfare.
The index follows the approach proposed by Charles Jones and Peter Klenow (American Economic Review, 2016) combining consumption with three non-market factors—leisure, excessive inequality, and mortality.
The authors updated and extended this work in their working paper Welfare vs. Income Convergence and Environmental Externalities, attempting to include measures of environmental effects and sustainability.

There is a close relationship between per capita welfare and per capita income or GDP across 151 countries in 2014.
Most countries align fairly well along the 45-degree line comparing relative welfare and income per capita, indicating correlation but with significant differences.
Distributional patterns by income quintile:
- The top fifth of countries based on income has a combined welfare index almost 7 percent below the US benchmark.
- The bottom fifth’s index is about 95 percent lower than that of the US.
Consumption explains most of the difference in welfare between countries at different income levels.
Richer countries in the top two-fifths benefit from higher life expectancy and lower inequality.
Poorer countries in the bottom three-fifths have lower life expectancy and higher inequality, contributing to lower welfare.
Welfare grew more quickly than income during the recent global financial crisis, especially for countries hardest hit in Western Europe and North America.
- The only exception cited is Asia, which had an impressively high level of growth in both income and welfare.

Per capita income or GDP captures the main component of well-being despite being an imperfect measure.
Non-market factors—life expectancy (health), leisure, and inequality—meaningfully adjust measured welfare relative to income.
Health is a key component:
- Poor health leads to lower life expectancy and imposes a significant welfare cost on poorer countries.
- Health improvements directly elevate welfare and also support higher incomes and future welfare through higher productivity and reduced employment disruptions.

Continue focusing on policies that increase income and production efficiency:
- Promote macroeconomic and financial stability.
- Implement structural reforms to improve the efficiency of markets.
Prioritize health-improving policies to raise welfare, including:
- Improving access to healthcare, nutrition, and clean water.
- Improving the quality of care.
- Taxing unhealthy behaviors such as smoking.
Recognize that health improvements generate a virtuous cycle by raising welfare directly and supporting higher incomes and future welfare gains.

Source: Welfare Versus GDP: What Makes People Better Off — IMF blog, March 7, 2018