POVERTY THE WORLD BANK REDUCTION AND ECONOMIC MANAGEMENT NETWORK (PREM) Economic Premise AUGUST 2010 · Number 28 56297 Measuring National Income and Growth in Resource-Rich, Income-Poor Countries Kirk Hamilton and Eduardo Ley GDP, the leading economic measurement, is outdated and misleading. . . . It's like grading a corporation based on today's cash flow and forgetting to depreciate assets and other costs. ­ Joseph Stiglitz, "Good Numbers Gone Bad," Fortune, October 2, 2006 In the decade leading to the recent commodity boom, which Adjusted net savings (ANS) = aNNI ­ [Consumption] peaked in 2007­08, several resource-rich, low-income coun- + [Foreign transfers] + [Education expenditures] tries displayed high rates of GDP growth while social indi- Let's start by showing that the measures being contrast- cators did not improve significantly. It is well known that, in ed--GDP and aNNI--behave quite differently empirically. itself, the widely tracked GDP may not be the most relevant Figure 1 presents a scatter plot of annual rates of real growth summary of aggregate economic performance in all places at of GDP against aNNI. The figure shows that these rates of all times. This note suggests that for countries with signifi- growth scatter very widely around the 45-degree line. They cant exhaustible natural resources and important foreign-in- are unequal more often than not, and can diverge substan- vestor presence, adjusted net national income (aNNI), can tially for some countries in specific years. usefully complement GDP to assess economic progress.1 This divergence in growth rates can also be seen over As will be explained below, aNNI includes a charge to net time. Figure 2, which displays average growth rates for Sub- national income for the depletion of natural resources. Given Saharan Africa, shows that growth rates of real aNNI are not that "what gets measured gets managed," there is a strong systematically lower than growth rates of real GDP. If any- case for routinely monitoring aNNI--and its related meas- thing, there is a countercyclical tendency, with aNNI grow- ure of adjusted net savings--especially in low-income, re- ing faster than GDP during a bust and slower during a source-rich economies, like many countries in Sub-Saharan boom--reflecting the underlying changes in the quantity of Africa. resource extracted and the unit resource rents. It is useful to start with a preview of the different aggre- Turning to levels, data for Sub-Saharan Africa (figure 3) gates that will be discussed in this note: show that aNNI can give a strikingly different picture of Net national income (NNI) = GDP + [Net foreign economic performance when compared with GDP.2 The fig- factor income] ­ [Depreciation of fixed capital] ure shows that African countries have been consuming more than their incomes since 1990, and particularly so through Adjusted net national income (aNNI) = NNI ­ much of the current resource boom. These facts suggest that [Depreciation of natural capital] overconfidence in the future of resource-rich economies 1 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK www.worldbank.org/economicpremise Figure 1. Rates of Growth of Real GDP versus Real aNNI, 1990­2008 a. By income level b. By geographic region 20 20 10 10 real GDP growth real GDP growth 0 0 ­10 ­10 ­20 ­20 0 0 0 10 20 ­2 ­1 0 0 0 10 20 ­2 ­1 real aNNI growth real a NNI growth low-income countries East Asia and the Pacific high-income OECD countries Europe and Central Asia high-income non­OECD countries Latin America and the Caribbean lower-middle-income countries Middle East and North Africa upper-middle-income countries South Africa Sub-Saharan Africa Source: World Bank 2010. Note: OECD = Organisation for Economic Co-operation and Development. may need to be revisited because it may be largely unjusti- sources. All three types of capital--produced, human, and fied under current policies. natural--are key inputs to sustaining economic growth. However, as the Stiglitz quote on the first page of this From GDP to National Wealth note points out, GDP does not account for the depreciation of assets. Drawing down assets (of any kind) implies dissav- The key to increasing future consumption and thus the stan- dard of living lies in increasing national wealth, including not only the traditional measures of capital (such as produced Figure 3. Consumption, GDP, and aNNI in Sub-Saharan Africa, and human capital), but also natural capital. Natural capital, 1990­2008 in turn, comprises assets such as land, forests, and subsoil re- Constant 2000 US$ 12,000 11,000 Figure 2. Growth Rates of GDP and aNNI in Sub-Saharan Africa, 10,000 1991­2008 millions of US$ 9,000 8 8,000 6 4 7,000 percent 2 6,000 0 5,000 ­2 4,000 ­4 90 92 94 96 98 00 02 04 06 08 19 19 19 19 19 20 20 20 20 20 ­6 07 05 03 01 99 97 95 93 91 year 20 20 20 20 19 19 19 19 19 GDP year final consumption expenditure real GDP growth real aNNI growth adjusted net national income (aNNI) Source: World Bank 2010. Source: World Bank 2010. 2 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK www.worldbank.org/economicpremise ing. A recurring theme in this note is that national wealth Adjusted Net Savings in Sub-Saharan Africa shrinks if the proceeds from drawing down an asset are not versus East Asia: Divergence, Big Time invested. Because increasing national wealth requires investment, As figure 3 hints, a worrisome fact is that most resource-rich national savings--possibly complemented by foreign savings countries in the Sub-Saharan Africa region display small or neg- transferred as aid--must be available to finance this invest- ative adjusted net savings, even in the recent boom times. A ment.3 Here is where aNNI comes in, because it is the ulti- decade ago, Hamilton and Clemens (1999) noted the following: mate source for funding these investments. First, national in- come rather than domestic product is a more appropriate The comparison of adjusted savings rates [across devel- income measure in countries where largely foreign-operated oping regions] reveals a disappointing trend for the extractive industries are substantial because payments to countries of Sub-Saharan Africa[. . . ]. Equally impor- foreign-owned factors are often considerable.4 Second, in tant, negative adjusted savings rates have been accom- resource-rich countries, national income must be adjusted panied by persistently low regional indicators of hu- by offsetting a part of the credits for resource extraction man welfare, including education, nutrition, and with the corresponding depletion costs--these costs are sim- medical care[...].The savings analysis highlights the fact ilar to capital depreciation.5 that the situation with regard to future well-being is worse After adding net foreign factor income to GDP, and sub- than might otherwise be thought: not only has Sub-Saha- tracting the consumption of fixed and natural capital, we ob- ran Africa performed badly by conventional measures, it tain the country's aNNI. This is a better measure of the is clear that the wealth inherent in the resource stocks of available income that can be consumed or invested to in- these countries is being liquidated and dissipated (p. 344; crease the nation's future consumption.6 emphasis added). Recognizing that resource depletion and environmental degradation are types of depreciation--whereas education Figure 4 updates Hamilton and Clemens (1999), showing expenditures increase a country's human capital--Hamilton a persistent downward trend in adjusted savings in Sub-Saha- and Clemens (1999) propose a measure of genuine savings. ran Africa, with negative rates indicating wealth dissipation This concept is formalized in the measurement of adjusted through much of the recent resource boom. Total net wealth net savings, which subtracts consumption from aNNI, adds creation in Sub-Saharan Africa was effectively zero from 1990 foreign transfers, and reclassifies education expenditures to 2007, a period when population grew by 60 percent.7 from consumption to investment. See box 1 for illustrative Figure 4 also suggests a substantial regional divergence in calculations. saving rates--one that may drive future regional divergence The policy implications of measuring adjusted net savings in income levels. East Asia is increasing national wealth sub- are quite direct: sustained negative savings lead to decreased stantially more rapidly than is Latin America, while Sub-Sa- national wealth and diminished social welfare. haran Africa is becoming poorer. Figure 4. Adjusted Net Savings as a Percentage of GNI for Selected Regions, 1970­2007 35 30 25 percent of GNI 20 15 10 5 0 ­5 70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 19 19 19 19 19 19 19 19 19 19 19 19 19 19 19 20 20 20 20 year East Asia and the Pacific Latin America and the Caribbean Sub-Saharan Africa Source: World Bank 2009b. 3 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK www.worldbank.org/economicpremise Many resource-rich countries display very low (and often source-rich countries need to (1) capture an efficient and negative) rates of adjusted savings. In these cases, current fair share of the resource rents for the government, and (2) macroeconomic trajectories are unsustainable because they invest that share effectively to increase the nation's wealth imply shrinking national wealth. To reverse this trend, re- (see box 2).8 Box 1. Illustrative Examples--Computing National Wealth and Adjusted Savings National Wealth--Table B.1 shows estimates of national wealth cludes full credit for education expenditure as a proxy for human for Peru, a middle-income, resource-rich country. Natural capital capital investments. The scale of resource rents as a share of GNI is a relatively important component of Peru's wealth, constituting in Uzbekistan is the most salient difference with respect to Zam- 13 percent of total wealth--almost as much as produced capital bia's adjusted savings calculation. The size of resource rents that accounts for 16 percent. Intangible capital (including hu- tends to be more extreme in oil-rich countries than in mineral- man and social/institutional capital) accounts for 74 percent. rich countries. This pattern is qualitatively similar to the pattern found in many The depletion figures for Zambia do not include soil depletion resource-rich countries. because information is not available. A large portion of Zambia's economy, however, depends on agricultural land resources: agri- Adjusted Savings--Figure B.1 displays the calculation of adjusted culture accounts for more than 15 percent of GDP. Deforestation savings in Uzbekistan in 2008. The starting point is gross nation- does not result in net forest depletion as a result of the natural al savings, which includes net factor foreign income and net cur- growth of a very large forested stock. rent transfers (that is, remittances and aid). Consumption of fixed capital is subtracted to obtain net national savings. Then public current operating expenditures in education (including Figure B.1. Calculating Adjusted Savings for Uzbekistan, 2008 wages and salaries and excluding capital investments in build- depreciation depreciation of fixed educational of natural ings and equipment) are added as investments in human capital, 45 capital expenses resources before charges for the depletion of resources and pollution dam- 35 ages are applied to obtain adjusted savings. In table B.2, we explain the calculation of adjusted savings in 25 percent of GNI a mineral-rich economy. In the example we present, Zambia's 15 saving rate for 2007 declines by nearly 30 percentage points-- 5 from 26.2 percent to ­3.0 percent of gross national income (GNI) when depreciation of produced capital, depletion of natural 0 resources, and damage from global and local air pollutants are ­5 taken into account. Particularly noteworthy is the mineral deple- pollution ­15 tion figure because copper rents play a key role in Zambia's econ- damages omy. Depletion of the mineral reserves, together with physical gross net net savings adjusted adjusted savings savings + savings savings capital depreciation and damages from pollution, are not being educational excluding completely offset by the economy's saving effort--which in- expenses pollution damages Source: World Bank 2010. Table B.1. Wealth Estimates for Peru, 2005 Table B.2. Calculation of Adjusted Savings for Zambia, 2007 Per capita Percent of wealth (US$) total wealth Percent of GNI Total wealth 44,912 100 Gross savings 26.2 Natural capital 5,823 13 ­ Consumption of fixed capital 10.7 Subsoil assets 1,047 2 = Net national savings 15.5 Cropland 1,993 4 + Education expenditure 2.1 Pasture 568 1 ­ Energy depletion 0.1 Forest 1,611 4 ­ Mineral depletion 19.8 Protected areas 603 1 ­ Net forest depletion 0.0 Produced capital 7,160 16 ­ Carbon dioxide damage 0.2 Intangible capital 33,165 74 ­ Particulate emission damage 0.6 Net foreign assets ­1,235 ­3 = Adjusted net savings ­3.0 Source: World Bank 2010. Source: World Bank 2009a. 4 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK www.worldbank.org/economicpremise Policy Implications between aNNI and consumption or more broadly as adjust- ed net savings. There is a long tradition of using GDP growth as a key per- The wealth analysis suggests that a range of policies is formance indicator; and during the recent commodity needed to ensure that mineral wealth is parlayed into sus- boom, it has led to over-optimism in many low-income, re- tainable growth. These policies include macroeconomic poli- source-rich countries. In these countries, however, aNNI is a cies that encourage saving, fiscal policies that capture re- better indicator of performance because it accounts both for source rents, public investment programs that put resource factor payments abroad and for depletion of natural re- revenues to their best use (including investment in human sources. Moreover, the strongest policy messages for re- capital), and resource policies that lead to dynamically effi- source-rich countries are often linked to the question of net cient rates of extraction. Failure to implement sound policies wealth creation, measured either narrowly as the difference risks the "resource curse." Atkinson and Hamilton (2003) Box 2. The Hartwick Rule In the context of resource-rich countries, the Hartwick (1977) ent, with a counterfactual capital stock that is higher than the rule dictates that the rents from natural-resource extraction actual capital stock. These countries experienced declines in real should be invested in reproducible capital to enjoy a constant per capita income from 1970 to 2000--a tendency that is borne stream of consumption. The Hartwick rule is a reminder of the out in recent research by Ferreira, Hamilton, and Vincent (2008). old-fashioned obligation to "maintain capital intact." When ad- Using panel data on savings and consumption, they show that justed savings are negative, however, national capital is shrink- adjusted savings is robustly correlated with future changes in ing. Atkinson and Hamilton (2003) find that countries that es- consumption.1 caped the resource curse used resource rents as a source of Note investment rather than a source of public current expenditure. These countries have been transforming natural capital into pro- 1. Ferreira and Vincent (2005) show, however, that the treatment duced capital. of human capital in adjusted net savings is not robust (presumably Relating to this transformation of natural capital into pro- because it measures gross rather than net investment and implic- duced capital, World Bank (2006) poses the following question: itly assumes that each dollar of government expenditure on edu- How rich would countries be in the year 2000 had they followed cation creates one dollar of human capital). They also show that the Hartwick rule since 1970? Figure B.2 plots resource depend- the correlation between savings and future changes in consump- ence against the percentage difference between actual capital tion holds for developing countries, but not for high-income coun- accumulation and counterfactual capital accumulation. Coun- tries. This finding arguably reflects the larger roles of knowledge tries in the top-right quadrant of the figure are resource depend- and technological change as sources of wealth in rich countries. Figure B.2. Resource Abundance and Capital Accumulation (Standard Hartwick Rule) 400 low resource high resource percent increase in produced capital if 350 G Nigeria dependence dependence standard Hartwick rule is followed G Zambia 300 G Venezuela, R. B. de 250 200 G Trinidad and Tobago 150 G Guyana G Bolivia G Mauritania 100 G Ecuador G Gabon 50 Jamaica South Africa G Algeria G G Congo, Rep. of low capital G Ghana G G Peru accumulation G Zimbabwe Mexico G 0 G G G G G Chile G G GGG Egypt, Arab Rep. of G Indonesia high capital ­50 G GG G G India G G G G G G Brazil G China accumulation G Malaysia G Thailand ­100 Korea, Rep. of ­150 0 5 10 15 20 25 30 35 share of resource rents in GDP (average 1970­2000) (%) Source: World Bank 2006, figure 4.1. 5 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK www.worldbank.org/economicpremise show that countries with high resource abundance and neg- However, because direct employment is often of very little ative rates of adjusted savings have suffered severely negative significance and of poor quality, the taxation of rents is key growth consequences. to transforming domestic production into national income. In practice, indicators of economic performance set the 5. These costs of depletion are now routinely reported in stage for the policies that are considered. In resource-rich the World Bank's World Development Indicators. The "About countries, moving away from GDP-growth complacency the Data" endnote to table 3.16 (World Bank 2010) pro- and focusing on aNNI and adjusted savings measures can vides a succinct summary of the methodology employed to improve the focus of the policy discussion. When it is recog- estimate depletion of natural resources. nized that negative adjusted savings dissipates national 6. Moreover, income- or consumption-based measures are wealth and translates into a poorer future, it becomes clear more relevant for welfare than are production-based indica- that sustainable growth must be grounded on preserving and tors (Nordhaus and Tobin 1972). increasing national wealth. 7. Chapter 5 of World Bank (2006) presents per capita Botswana provides the example of the most successful wealth accumulation figures in detail. mineral-based economy in Africa. As Lange and Wright 8. To a certain extent, a natural resource fund coupled (2004) report, the Ministry of Finance and Development with an effective public investment management system has Planning uses a "sustainable budget index" to ensure that re- the potential to address the three main problems associated source revenues finance investments rather than consump- with natural resource wealth: (1) the Dutch disease (because tion. But Botswana's success is based on more than imple- public investment increases the productivity of capital), (2) menting the Hartwick rule. The government has paid close volatility (because the resource fund enables a countercycli- attention to absorptive capacity and is willing to hold finan- cal fiscal policy), and (3) political-economy issues (because cial assets in a resource fund when competitive domestic in- a transparent, rules-based system prevents mismanagement vestments are not available. The resource fund also helps of resources). buffer Dutch disease effects and provides the basis for gov- ernment to run counter-cyclical fiscal policies to smooth out About the Authors booms and busts. Finally, it is important to avoid the mechanical use of any Kirk Hamilton is lead economist in the Development Economics indicator in policy formulation. Increasing savings implies Research Group (DECEE), and Eduardo Ley is lead econo- belt tightening, and cutting some government programs may mist in the Economic Policy and Debt Department (PRMED), be especially harmful to poor people in the poorest coun- World Bank, Washington, DC. The authors thank Rabah Arez- tries. Reforms that boost returns on existing assets must be ki, Antonio Estache, Pooja Kacker, Glenn-Marie Lange, Tuan- part of the policy prescription in these countries, generating Minh Le, Chris Papageorgiou, Mona Prasad, Gäel Raballand, a virtuous cycle of growth in income that can increase both and Julio Revilla for useful comments; and Gianni Ruta for the consumption and saving in the future. materials on Zambia. Additional information concerning the World Bank's work Notes on comprehensive wealth accounting may be found at http://go.worldbank.org/VLJHBLZP71 and http://go.world- 1. The Stiglitz-Sen-Fitoussi report (2009) has strongly bank.org/RRCQLBZMX0. recommended developing alternatives to GDP, including more comprehensive measures of income and product, bet- References ter measures of well-being, and measures of net wealth cre- ation to reflect the sustainability of income and well-being. Atkinson, G., and K. Hamilton. 2003. "Savings, Growth and the Resource Curse Hypothesis." World Development 31 (11): 1793­807. 2. Note that Nigeria is excluded from figure 3 because of Ferreira, S., K. Hamilton, and J. R. Vincent. 2008. "Comprehensive Wealth data problems, and that not all countries in Sub-Saharan and Future Consumption: Accounting for Population Growth." World Africa are rich in resources. Bank Economic Review 22 (2): 233­48. 3. In contrast, whereas foreign investment may increase Ferreira, S., and J. R. Vincent. 2005. "Genuine Savings: Leading Indicator of domestic wealth, it cannot directly increase national wealth Sustainable Development?" Economic Development and Cultural Change 53 (3): 737­54. (although the indirect wealth effects of foreign investment Hamilton, K., and M. Clemens. 1999. "Genuine Savings Rates in Develop- may sometimes be substantial). ing Countries." World Bank Economic Review 13 (2): 333­56. 4. That is not to say that extractive activities cannot con- Hartwick, J. M. 1977. "Intergenerational Equity and the Investing of Rents tribute to national wealth; indeed they can, by adequately from Exhaustible Resources." American Economic Review 67 (5): 972­74. sharing rents with the government and employing national Lange, G.-M., and M. Wright. 2004. "Sustainable Development in Mineral factors (mostly labor), and through economic spillovers. Economies: The Example of Botswana." Environment and Development Economics 9 (4): 485­505. 6 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK www.worldbank.org/economicpremise Nordhaus, W. D., and J. Tobin. 1972. "Is Growth Obsolete?" Discussion Pa- World Bank. 2006. Where Is the Wealth of Nations: Measuring Capital for the per 319. Cowles Foundation, Yale University, New Haven, CT. 21st Century. Washington, DC. Stiglitz, J., A. Sen, and J.-P. Fitoussi. 2009. "Report by the Commission on ------. 2009a. The Little Green Data Book 2009. Washington, DC. Measuring Economic Performance and Social Progress." Paris. http:// ------. 2009b. World Development Indicators 2009. Washington, DC. www.stiglitz-sen-fitoussi.fr/en/index.htm. ------. 2010. World Development Indicators 2010. Washington, DC. The Economic Premise note series is intended to summarize good practices and key policy findings on topics related to economic policy. It is produced by the Poverty Reduction and Economic Management (PREM) Network Vice-Presidency of the World Bank. The views expressed here are those of the authors and do not necessarily reflect those of the World Bank. The notes are available at www.worldbank.org/economicpremise.