the __earthinc

In the past week or so, there were several news reports stating that Malaysia was regressing backward relative to the high-income country GNI benchmark of $15,000 per person by 2020. The Economic Planning Unit showed the figure fell to $9,291 in 2015 and to $8,821 in 2016, from $10,677 in 2014.^[1]

From the figures alone, it is plain to see that the gap between current level and the $15,000 per capita has increased. The 2020 target was set by the government as the benchmark Malaysia needed to hit to in order to declare the country as a “high-income nation.”^[2] Pemandu’s whole reason for existence is predicated on this.

But such conclusion (and the target itself) is superficial and largely a non-issue as far as economic growth is concerned. What is more important in terms of development is the levels of welfare, which is better represented by the purchasing power parity calculation, instead of the Atlas method used to calculate the GNI per capita figures in the US dollar.

There are three reasons why I claim the conclusion is superficial.

First, the $15,000 GNI per capita by 2020 target is susceptible to foreign exchange rate fluctuation. This is despite the Atlas method is designed to minimize the same fluctuation. The ringgit depreciation relative to the US dollar in 2015 and 2016 was just too big for the method to handle. Its inability to control for the fluctuation makes its output less reliable that it normally is. You can see why it does a bad job within the context of 2015 and 2016: the Atlas method controls the forex rate variation by averaging the latest three years of the relevant rates (the method does include inflation differential between countries but it is not nearly as good as the PPP). But even under normal circumstance, the Atlas method is inferior to the purchasing power parity just because the former does not adjust for domestic living costs properly. The PPP may have its own failings but its failings are considerably less serious than the Atlas method.

To understand this point further, we have to realize that for most Malaysians, earning and spending are carried out in the local currency, the ringgit. Only a small minority earn in ringgit but spend in foreign currency, among them the US dollar. So for most Malaysians, it is unclear why the size of the economy translated through the Atlas method into the US dollar is meaningful in determining the state of a country’s development level or its population welfare, apart from the fact that the World Bank uses it and that Pemandu was just following suit.

The World Bank states it is using the Atlas method for operational purposes,^[3] which makes sense because the organization lends money to national governments mostly in major currencies and that the repayments are susceptible to the forex fluctuation due to currency mismatch. They need to take the forex fluctuation into account.

Meanwhile, Pemandu and Malaysia use it as a target… because the World Bank uses it for its global lending purposes done largely in US dollar. You can see the problem here. The World Bank’s and Malaysia’s purposes for using the Atlas method are vastly different. It fits the World Bank’s goal better than Malaysia’s. PPP, on the underhand, fits Malaysia’s purpose better than the World Bank’s. It is a case of using the wrong tool.

Second, even if we accept the target and the Atlas method wholly, the actual benchmark for high-income is likely lower than the $15,000 barrier. The $15,000 benchmark itself did not come from the World Bank but projected into the future by Pemandu based on figures from the international body. The latest 2017 high-income benchmark actually used by the World Bank is $12,476.^[4] Pemandu had projected the figure from 2010 (if I am not mistaken), assuming the 2010-2020 growth rate of high-income countries to average 2.0% yearly. The reality is that the 2010-2017 average is only 0.2% yearly so far. At the current actual growth rate, the benchmark will be $12,563 per capita by 2020 assuming everything else remains the same. It is still a widening gap, but not as bad as when the $15,000 per capita is the target.

Third, the implications of the conclusion are outrageous, if the Atlas method completely addresses concerns over forex fluctuation: either Malaysia had run into a two-year long recession, or we had an extraordinary population boom during the same period.

But we did not have a recession. We did have a growth slowdown however. The Malaysian economy grew by 5.0% in 2015 and 4.2% in 2016. But no recession, which is a contraction of the GDP by two consecutive quarters.

And we did not have a population boom either during the two years. The size of the Malaysian population in 2015 and 2016 grew 1.4%-1.6% yearly, lower than in the previous years.

Since both did not happen (with inflation was not big enough to matter: Malaysia’s 2%-3% and in the US, 0%-1%), we must question the validity of the Atlas method in measuring the well-being of Malaysians. And by extension, it questions the ability of the Atlas method to determine the status of Malaysia as a high-income nation. The one factor that changed was the forex rate.

But ultimately, the term high-income nation itself is fluffy. There are attempts to give it concrete meaning but would crossing the not too distance line suddenly transform Malaysia into a rich country? It is never as clear as that. While Malaysia has done well compared to a lot of countries in the world, entrance to “first world” is actually harder then merely cross the line defined by the World Bank or Pemandu. Just cross over to Singapore, or visit Japan, or Australia or any of the generally recognized high-income countries. Would Malaysia crossing the GNI per capita $12,475 line suddenly make the us like those countries? Maybe someday, but the barrier will be way above the World Bank’s line.

You know a high-income country when you see one: some classifications are looser than others and many of them are arbitrary. This is the limits of mathematics and economics. So, be careful of turning a soft arbitrary line in the sand as your true north. Managing a country’s development is not like running a business.

But coming back to the original point, no, we have not regressed in terms of economic development. We have regressed in other aspects, like our institutions, but the economy has grown, contrary to what the imperfect Atlas method tells us. If you really want to make an international comparison, the purchasing power parity model is far superior than the Atlas method, especially at a time when forex fluctuation is great.

^[1] — Page 5.The Malaysian Economy in Figures 2016. Economic Planning Unit

^[2] — Page 59. Economic Transformation Programme: A Roadmap for Malaysia. October 26 2010

^[3] — The income groupings use GNI per capita (in U.S. dollars, converted from local currency using the Atlas method) since they follow the same methodology used by the World Bank when determining its operational lending policy. While it is understood that GNI per capita does not completely summarize a country’s level of development or measure welfare, it has proved to be a useful and easily available indicator that is closely correlated with other, nonmonetary measures of the quality of life, such as life expectancy at birth, mortality rates of children, and enrollment rates in school. [Why use GNI per capita to classify economies into income groupings? The World Bank. Accessed March 23 2017]

^[4] — For the current 2017 fiscal year, low-income economies are defined as those with a GNI per capita, calculated using the World Bank Atlas method, of $1,025 or less in 2015; lower middle-income economies are those with a GNI per capita between $1,026 and $4,035; upper middle-income economies are those with a GNI per capita between $4,036 and $12,475; high-income economies are those with a GNI per capita of $12,476 or more. [World Bank Country and Lending Groups The World Bank. Accessed March 24 2017]