Effective GDP: A Cross-Country Comparison

A large literature has developed around alternatives to gross domestic product (GDP) per capita for cross-country comparisons of well-being. Many of these studies point to non-economic factors that affect well-being but are not captured in the traditional GDP measure. With a comprehensive coverage of economies available through the World Bank's International Comparison Programme (ICP) databases at six-yearly intervals, this paper utilises the ICP 2011 Purchasing Power Parity (PPP)-based expenditures and builds upon it through an analysis of residuals from cross-country Engel curve regressions. The methodology draws on the idea that patterns in Engel curve residuals can reveal inter alia previously unmeasured aspects of human well-being such as optimism or pessimism. The paper demonstrates how a residual-based model of Revealed Optimism/Pessimism can be neatly integrated with PPP-based GDP to provide an extended measure of national well-being, referred to here as 'Effective GDP'. As a result, a wider disparity in well-being across economies is revealed than could be discerned simply from the ICP data. The results suggest that, in 2011, Effective GDP extends traditional PPP-based GDP estimates by around two per cent in the positive direction for apparently optimistic economies and as much as five per cent downwards for pessimistic ones.