Living standards | IGCSE Class 10 Economics Notes

This note covers living standards: how real GDP per head and the Human Development Index (HDI) measure living standards, what each is built from, their advantages and disadvantages, and why living standards and income differ both between countries and within a country.

What do we mean by "living standards"?

Living standards describe how well off the people of a country are: their income, health, education, housing and access to basic services such as clean water and sanitation.

Because living standards cover so many things at once, economists use single numbers, called indicators, to summarise them so that different countries, or the same country at different times, can be compared.

The two indicators used most often are real GDP per head and the Human Development Index (HDI). Real GDP per head is a purely economic measure of average income.

The HDI tries to capture a wider idea of wellbeing by combining income with health and education.

Data comparing India, China and Pakistan show how different these two kinds of measure can look even for countries that started their development at a similar point.

How does real GDP per head measure living standards?

Real GDP is the total value of all goods and services produced in a country in a year, adjusted for inflation so that only the change in actual output is measured, not the change in prices.

Dividing this total by the population gives real GDP per head (also called real GDP per capita), which is used as a proxy for the average income or output per person.

Definition: Real GDP per head. A country's real Gross Domestic Product divided by its total population, used as a measure of average income or output per person.

Real GDP per head = Real GDP ÷ Population

Comparisons are often made using purchasing power parity (PPP), which adjusts GDP figures so that a given amount of money buys a similar basket of goods in each country, making cross-country comparisons more meaningful.

On a PPP basis, China's GDP has been recorded as about $35 trillion, India's as about $15 trillion (roughly 42 per cent of China's) and Pakistan's as about $1.5 trillion, roughly one-tenth of India's GDP.

Worked example 1. Using estimated population figures of 1,411 million for China and 240 million for Pakistan, and PPP GDP totals of $35 trillion for China and $1.5 trillion for Pakistan, estimate real GDP per head for each country.

Answer: China: $35,000,000,000,000 ÷ 1,411,000,000 ≈ $24,805 per head. Pakistan: $1,500,000,000,000 ÷ 240,000,000 ≈ $6,250 per head.

China's estimated GDP per head is about four times Pakistan's, even though China's total population is much larger, showing that total GDP alone does not tell us about average living standards; population size must also be taken into account.

What is the Human Development Index and what does it measure?

The Human Development Index (HDI) is a composite indicator that combines three dimensions of wellbeing into a single value between 0 and 1: a long and healthy life, access to knowledge, and a decent standard of living. It was designed to go beyond income alone, because a country can have reasonable income per head but still perform poorly on health or education.

Definition: Human Development Index (HDI). A composite measure, with a value between 0 and 1, that combines indicators of health, education and income to rank countries' level of human development.

HDI = geometric mean of the health, education and income indices

Recorded HDI values place China well ahead of both its neighbours: China's HDI value is 0.797 (world rank 78), India's is 0.685 (rank 130) and Pakistan's is 0.544 (rank 168).

These rankings broadly match the pattern seen in real GDP per head, but, as the next sections show, the gaps are not identical once health and education are considered separately.

What are the components of real GDP and of the HDI?

Components of real GDP

Real GDP is built up from the output of the three broad sectors of an economy: agriculture (the primary sector), industry (the secondary sector) and services (the tertiary sector).

Recorded sector shares of GVA (gross value added, the modern name for the output measure once called GDP by sector) in a recent year show agriculture contributing 18 per cent in India, 8 per cent in China and 24 per cent in Pakistan; industry contributing 28, 38 and 21 per cent respectively; and services contributing 54, 54 and 55 per cent respectively.

Components of the HDI

The HDI is built from three dimensions, each measured by its own indicator: a health index based on life expectancy at birth, an education index based on measures such as mean years of schooling, and an income index based on GNI per capita (gross national income per head, adjusted for purchasing power).

Definition: GNI per capita. A country's total gross national income divided by its population, used as the income component of the Human Development Index.

GNI per capita = GNI ÷ Population

Notice that China is ahead of India and Pakistan on every single one of these components, which is why its overall HDI is also higher; the differences are consistent across income, health and education rather than being driven by only one factor.

What are the advantages and disadvantages of real GDP per head?

Advantages

• It is based on widely available national accounts data, so it can be calculated for most countries and compared over time.
• It is a single number, which makes it simple to rank countries or to track changes in a country's average income from year to year.
• Adjusting for purchasing power parity allows reasonably fair comparisons of the real buying power of income between countries with very different price levels.

Limitations

• It is only an average, so it says nothing about income distribution: a country can have a high GDP per head while most of that income is held by a small part of the population.
• It ignores non-market activity, such as unpaid household work, and the effects of production on the environment.
• It does not directly measure health, education, sanitation or other aspects of wellbeing that matter to living standards.
• Countries with similar GDP per head can still have very different health and education outcomes, which the figure alone does not show.

What are the advantages and disadvantages of the HDI?

Advantages

• By combining health, education and income, it gives a broader picture of living standards than income alone.
• It allows a country that invests heavily in health and education, but has only moderate income, to be recognised for strong human development.
• Recorded figures for India, China and Pakistan show that the HDI picks up differences, such as China's much lower infant mortality rate of 4.8 per 1,000 live births compared with 25.5 in India and 51 in Pakistan, that GDP per head alone would not reveal.

Limitations

• The HDI is an average within each country, so like GDP per head, it can hide unequal distribution of health, education or income within the population.
• Important aspects of wellbeing are left out, such as political freedom and legal rights. Some economists have proposed liberty indicators, such as measures of democratic participation in decision-making, constitutional protection of citizens' rights and the independence of the judiciary, to fill this gap; without them the index gives an incomplete picture.
• It does not directly capture poverty, crime, inequality or environmental quality.

Why do living standards and income differ between countries?

Recorded experience shows several reasons why living standards and income distribution differ between countries that started from a similar point.

India and Pakistan became independent nations in 1947 and China's People's Republic was established in 1949; by the 1980s all three still had similar growth rates and incomes per head, yet their paths later diverged sharply.

1. Timing and depth of economic reform. China introduced structural reforms in 1978, Pakistan in 1988 and India in 1991. China's reforms were begun on its own initiative, while India's and Pakistan's followed balance-of-payments difficulties and came with conditions from international lenders such as the World Bank and International Monetary Fund.
2. Which sector drives growth. In the 1980s, China's industrial sector maintained near double-digit growth, with its growth contributed mainly by manufacturing and services (though industrial growth has since declined), whereas India's growth has come mainly from the service sector; over the same period, Pakistan showed deceleration across agriculture, industry and services.
3. Dependence on remittances and foreign aid. Pakistan's foreign exchange earnings came mostly from remittances from workers in the Middle East and from exports of volatile agricultural products, together with growing dependence on foreign loans; scholars attribute Pakistan's slower growth partly to political instability and over-dependence on remittances and foreign aid.
4. Population growth and policy. Population growth has been highest in Pakistan, then India, then China; China's low fertility rate (1.2) compared with Pakistan's (3.4) and India's (2.0) is linked to its one-child policy introduced in the late 1970s, which slowed population growth and so raised measured income per head.
5. Pre-reform investment in health and education. China had already extended basic health services widely in rural areas and carried out land reforms before 1978, which scholars say helped human development indicators improve quickly once reforms began; China's "market system without losing political commitment" is credited with raising growth while reducing poverty.

Why do living standards and income differ within a country?

Within a single country, income and living standards are rarely shared evenly. Several patterns recorded for India, China and Pakistan illustrate why.

• Sectoral differences in productivity. In India, 43 per cent of the workforce works in agriculture but agriculture produces only 18 per cent of GVA, while 31 per cent of the workforce works in services, which produce 54 per cent of GVA. This means workers in agriculture earn, on average, far less per worker than workers in services or industry, which is a major source of income inequality within the country.
• Rural-urban divide. Urbanisation is far higher in China (65 per cent) than in India (36 per cent); people who remain tied to farming, which is the majority in all three countries, tend to have lower and more volatile incomes than those in urban industrial or service jobs.
• Gender inequality. The sex ratio (females per 1,000 males) is low and "biased against females" in India, China and Pakistan alike, a pattern scholars attribute to "son preference" common in all three countries; this unequal treatment of girls and women is itself a dimension of unequal living standards within a population. Maternal mortality also differs sharply: for every 100,000 births, about 23 women die in China compared with 103 in India and 154 in Pakistan.
• Access to basic services. The share of people using at least basic sanitation is 96 per cent in China but only 78 per cent in India and 71 per cent in Pakistan, meaning large numbers of people within India and Pakistan still lack access that most of the rest of their own population already has.

Worked example 2. In a recent year, Pakistan's recorded poverty rate (national poverty line) was 21.9 per cent and China's was close to 0 per cent, while infant mortality was 51 per 1,000 live births in Pakistan against 4.8 in China.

If Pakistan's population were 240 million, calculate the approximate number of people below the national poverty line.

Answer: 21.9% of 240,000,000 = 0.219 × 240,000,000 ≈ 52,560,000 people. This shows that even a percentage figure that looks moderate, around one-fifth of the population, represents tens of millions of people living below the poverty line, which is why poverty rates need to be read alongside population size.

Definition: Absolute poverty. A situation where a person's income is below a fixed minimum level, called a poverty line, that is judged necessary to meet basic needs.

Definition: Income distribution. The way in which total national income is shared out among the population, whether equally or unequally.

Going beyond the syllabus

Recorded data for India, China and Pakistan is a useful real-world illustration of why economists look beyond a single indicator.

China tops the real GDP per head and HDI comparisons and also leads on poverty reduction and sanitation, yet critics point to its lack of political freedom and the implications for human rights, which the liberty indicators mentioned earlier are designed to capture but the HDI does not measure.

This is a reminder that no single statistic, however carefully built, can fully summarise a population's living standards.

Glossary

• Living standards — how well off the people of a country are, covering income, health, education and access to basic services.
• Real GDP — the total value of goods and services produced in a country in a year, adjusted for inflation.
• Real GDP per head — real GDP divided by population, used as a proxy for average income.
• Human Development Index (HDI) — a composite measure combining health, education and income to rank countries' development.
• Purchasing power parity (PPP) — an adjustment to currency values so that a given amount of money buys a similar basket of goods in different countries.
• GNI per capita — gross national income divided by population, the income component of the HDI.
• Life expectancy at birth — the average number of years a newborn is expected to live, used as the health component of the HDI.
• Mean years of schooling — the average number of years of education completed by people aged 15 and above, part of the HDI's education component.
• Income distribution — how total national income is shared out among a population.
• Absolute poverty — income below a fixed minimum (poverty line) judged necessary to meet basic needs.
• Sex ratio — the number of females per 1,000 males in a population.
• Infant mortality rate — the number of infant deaths per 1,000 live births.
• Maternal mortality rate — the number of maternal deaths per 100,000 live births.
• Liberty indicators — measures of political freedom and legal rights, proposed as an addition to human development measures.
• Gross value added (GVA) — the value of output produced by a sector, the modern name for sectoral GDP.

Common errors and misconceptions

• Misconception: A higher real GDP per head always means higher living standards for everyone. Correct: It is only an average; income distribution within the country can still leave many people poor even when average GDP per head rises.
• Misconception: The HDI measures everything relevant to wellbeing. Correct: It only combines health, education and income; it excludes political freedom, inequality and environmental quality, which is why "liberty indicators" have been proposed as an addition.
• Misconception: GDP and GNI per capita are the same thing. Correct: GDP measures output produced within a country's borders; GNI per capita (used in the HDI) is national income per head, which can differ from GDP per head.
• Misconception: A country with a bigger total GDP automatically has higher living standards than a smaller country. Correct: Total GDP must be divided by population; China's larger total GDP combined with its large population still needs to be compared per head, not in total, to judge average living standards.
• Misconception: Differences in living standards between countries are caused only by differences in natural resources. Correct: policy choices, the timing of economic reform, investment in health and education, and political stability are all shown to matter at least as much as resource endowments.
• Misconception: Within-country inequality does not matter if the national average is improving. Correct: Rural-urban, sectoral and gender gaps (such as unequal sex ratios and maternal mortality) show that national averages can hide very unequal living standards within the same country.

Exam-style questions with model answers

Q1. Define 'real GDP per head'. [2 marks]

1. Real GDP per head is a country's real Gross Domestic Product divided by its total population.
2. It is used as a measure of the average income or output per person in a country.

Q2. Identify two components used to build the Human Development Index. [2 marks]

1. Life expectancy at birth (health).
2. Mean years of schooling (education); and/or GNI per capita (income).

Q3. Country X has an HDI value of 0.544 and a GNI per capita of $5,501, while Country Y has an HDI value of 0.797 and a GNI per capita of $22,029. Explain two reasons why Country Y's HDI is higher than Country X's. [4 marks]

1. Country Y's GNI per capita of $22,029 is about four times higher than Country X's $5,501, so its income index, one of the three components of the HDI, is higher.
2. The HDI also depends on health and education; if Country Y also has higher life expectancy and more years of schooling, both of these components would add further to its HDI value, explaining why the gap in HDI can be even wider than the gap in income alone.

Q4. A country's GDP (PPP) is $1.5 trillion and its population is 240 million. Calculate its real GDP per head. [2 marks]

1. $1,500,000,000,000 ÷ 240,000,000 = $6,250 per head.

Q5. Explain two limitations of using real GDP per head as a measure of living standards. [4 marks]

1. It is only an average figure, so it does not show how income is distributed; a country can have a reasonably high GDP per head while a large share of the population still lives below the poverty line.
2. It ignores aspects of wellbeing that are not measured in market output, such as life expectancy, education, sanitation and access to clean water, so two countries with similar GDP per head can still have very different living standards.

Q6. Analyse why living standards might differ between two countries that had similar income per head forty years ago. [6 marks]

1. The two countries may have begun economic reform at different times; one that reformed earlier had longer to raise output, while the other, if reform was delayed or came only under pressure from international lenders, may have grown more slowly.
2. Growth may have come from different sectors; a country whose growth was led by expanding manufacturing and industry, alongside services, can raise productivity and income more than a country whose growth has relied mainly on services with a large share of the workforce still in low-productivity agriculture.
3. Dependence on remittances and foreign loans, rather than on sustainable export of manufactured goods, can leave a country's foreign exchange earnings volatile and growth harder to sustain, especially if combined with political instability.
4. Investment made in health and education before growth accelerated can mean one country enters its growth period with a healthier, more educated workforce, which supports both output and human development indicators once reform begins.

Q7. Distinguish between real GDP per head and the Human Development Index as measures of living standards. [4 marks]

1. Real GDP per head measures only average income or output per person, calculated from a country's total real GDP divided by its population.
2. The HDI is a composite measure combining three dimensions, health (life expectancy), education (mean years of schooling) and income (GNI per capita), into one value between 0 and 1.
3. Because the HDI includes health and education as well as income, two countries with similar GDP per head can still have different HDI values if their life expectancy or schooling differs.

Q8. In a population of 500 million, the national poverty rate is 21.9%. Calculate the number of people living below the poverty line, and explain one reason why this national average may hide greater inequality within the country. [4 marks]

1. 0.219 × 500,000,000 = 109,500,000 people below the poverty line.
2. The national average does not show where the poor are located; if poverty is concentrated in rural or agricultural areas, with workers earning far less per head than those in industry or services, the true scale of inequality within particular regions or sectors is hidden by the single national percentage.

Q9. Discuss whether a government should rely mainly on real GDP per head, rather than the Human Development Index, to judge improvements in living standards. [8 marks]

1. Real GDP per head is simpler to calculate and compare over time, using standard national accounts data, which makes it convenient for tracking short-term economic performance.
2. However, GDP per head is only an average and says nothing about how income is shared, so a rising average can coexist with large numbers of people in absolute poverty.
3. It also ignores health, education, sanitation and other non-market aspects of wellbeing, so a country could have steady income growth while infant mortality, schooling or access to clean water remain poor.
4. The HDI corrects some of these weaknesses by combining income with life expectancy and years of schooling, giving a broader picture; data for one set of neighbouring countries shows HDI rankings matching income rankings fairly closely, but with the income gap between the richest and poorest of the three considerably wider than the HDI gap, showing that health and education can partly offset a low income.
5. Even the HDI, however, is an average and excludes important dimensions such as political freedom and legal protection of rights, so-called "liberty indicators", as well as the distribution of health and education within the population.
6. On balance, a government should use both measures together, real GDP per head for short-run economic tracking and the HDI for a broader check on human development, rather than relying on either alone, since each indicator covers weaknesses the other misses but neither is complete by itself.

Key takeaways

• Living standards are summarised using indicators such as real GDP per head and the Human Development Index (HDI).
• Real GDP per head equals real GDP divided by population, and is used as a proxy for average income.
• The HDI combines life expectancy (health), mean years of schooling (education) and GNI per capita (income) into one value between 0 and 1.
• Real GDP per head is simple and widely available but hides income distribution and ignores non-market wellbeing.
• The HDI gives a broader picture than income alone but still excludes political freedom, legal rights and distribution within a country.
• Living standards differ between countries because of differences in the timing of economic reform, which sector drives growth, dependence on remittances or aid, population policy, and pre-reform investment in health and education.
• Living standards differ within a country because of unequal sectoral productivity, the rural-urban divide, gender inequality and unequal access to basic services such as sanitation.
• No single indicator fully captures living standards; economists recommend using several indicators together.

Test yourself

What two numbers are divided to calculate real GDP per head?

Real GDP is divided by total population to calculate real GDP per head.

Name the three dimensions combined in the Human Development Index.

Health (life expectancy at birth), education (mean years of schooling) and income (GNI per capita).

Give one disadvantage of using real GDP per head alone to judge living standards.

It is only an average, so it hides how unequally income is distributed within the population.

What are "liberty indicators" and why have they been suggested as an addition to human development measures?

Measures of political freedom and legal rights, such as constitutional protection of citizens' rights and judicial independence; suggested because the HDI does not currently capture these.

Why can two countries have similar GDP per head but different HDI values?

Because the HDI also includes health and education; a country with lower life expectancy or fewer years of schooling will have a lower HDI even at the same income level.

Give one reason why living standards can differ sharply within the same country.

Workers in agriculture usually produce a smaller share of output per worker than workers in industry or services, so income per worker differs greatly between sectors.

What does a low sex ratio, biased against females, indicate about income distribution within a country?

It indicates that living standards and opportunities are not shared equally between men and women within the population, often linked to son preference.

Why might a country with a large total GDP still have low living standards per person?

If its population is very large, total GDP divided by population can still give a low figure for GDP per head, even though the total output is high.