A new way of measuring prosperity has enormous implications for geopolitics and economics.
- By Shimelse Ali<p> Shimelse Ali is an economist, and Uri Dadush a senior associate, at the Carnegie Endowment for International Peace. A longer version of this paper will be published on Carnegie's website. </p> , Uri DadushUri Dadush is senior associate at the Carnegie Endowment for International Peace.
The swelling middle class in emerging economies is transforming the economic balance of power across the globe. Measuring it, however, is no easy task. There is no widely accepted definition of what constitutes the middle class, and the most common ways of measuring its growth — through looking at rises in income — suffer from a number of flaws.
There’s an easier way. In the developing world, buying a car is virtually synonymous with entry into the middle class. In these countries, car ownership separates those with the ability to purchase many other nonessentials from those within the wider population. Car statistics, moreover, are generally reliable and frequently updated, and they include data by automobile type that can be used to further segment the middle class. For this reason, the number of passenger cars in circulation serves as the most reliable gauge we have about the size of a country’s middle class.
Applying this measure significantly alters our understanding of the middle class in the developing world. It shows that there are many more affluent people in developing countries than had previously been thought and that about 70 developing countries with a combined population of about 4 billion are near or above the point where car ownership rises very rapidly. This suggests that very large numbers of people will enter the middle class in the coming years, transforming the economies and political systems of the countries they inhabit.
Just What Is the Middle Class, Anyway?
The middle class in the developing world is rising. The only question is how high it will go and how fast it will get there. About 85 percent of the world’s people live in developing countries, yet they accounted for only 18 percent of global consumer spending just a decade ago; today, they account for nearly 30 percent. Consumer spending in developing countries has been increasing at about three times the rate in advanced countries, and we’re not just seeing a growing demand for necessities, but also for middle-class staples such as meat, toothpaste, cell phones, and air-conditioners.
Measuring the global middle class isn’t just an academic exercise — its growth carries real-world implications. Political scientists are interested in the topic because a large middle class is associated with greater political awareness, desire for more accountable and representative government, and even demand for free markets. Economists and market analysts are mainly interested in the size of the middle class as an indicator of a population’s ability to rise from poverty and purchase items that go beyond bare necessities.
But here’s the problem: The world has never agreed on a universally accepted definition of what constitutes “middle class.” The broadest classification is too low; it suggests the middle class is anyone who is not poor, which according to the World Bank means those who earn an income in excess of $2 a day after adjusting for purchasing power. That level has now been achieved by more than 4 billion of the world’s 7 billion people, but while many people earning $2 a day are able to afford a cell phone, their income is far too low to afford amenities such as a regular power supply or clean water.
The narrowest classification defines middle class as individuals with an income close to or above the median income in advanced countries — roughly $85 a day at U.S. prices. Only about 12 percent of the world’s population lives in countries whose average per capita income is higher than that threshold, and only a very tiny minority in developing countries would qualify. This level of income, moreover, exceeds by a factor of seven the income needed to buy a car (around $4,000), not to mention most other big-ticket consumer items, indicating that the definition is far too narrow and too high.
Many other measures have been proposed in between these extremes. The most widely used measure was proposed in 2002 by World Bank economist Branko Milanovic and Hebrew University professor Shlomo Yitzhaki, who counted people with daily incomes between roughly $10 and $50 a day, after adjusted for purchasing-power parity, as middle class. If one uses this definition, there are an estimated 369 million people in the developing G-20 economies — Argentina, Brazil, China, India, Indonesia, Mexico, Russia, South Africa, and Turkey — who qualify as “middle class.”
Such income-based measures of the middle class suffer from a number of deficiencies, however. First, they are based on infrequently conducted household surveys, which vary enormously in quality. Second, incomes, even when adequately measured, do not directly reflect private consumption. The share of government spending as a proportion of GDP varies greatly across countries, for example, and households in different countries and at different levels of income exhibit very different savings behavior. (Think of poor and high-savings China at one end and the United States, which is rich and has a low savings rate, at the other).
Finally, comparing incomes across countries at different levels of development represents an enormous challenge. For example, one obviously cannot even afford the most basic food and shelter in the United States at $2 a day, the World Bank’s definition of non-poor. The United States places its poverty line at $13 a day, more than six times higher than the World Bank measure.
There’s a Better Way to Measure the Middle Class
It is obvious, then, that we need a better way of measuring the middle class. Here’s where the passenger cars come in. Cars are big-ticket items that indicate the ability and willingness to purchase many other nonessential goods. Indeed, while the vast majority of households own a car in advanced countries, in developing countries owning a car symbolizes relative affluence. While one can define the middle class in many ways, car ownership is an unambiguous indication of the ability to purchase other luxury goods.
Critics may contend that measuring car ownership excludes households that can afford, say, a computer, TV set, or air-conditioner, but not a car. However, because cars in circulation in the developing world are often of very old vintage — for example, the average passenger car in India is 20 years old, compared with 11 years in the United States — this supposed omission is not nearly as large as it seems. In the United States, for example, one can buy a 20-year-old Ford Taurus for about $500, about the price of a new computer or TV set. The older cars in circulation in developing countries can be bought for even less. So even for the purpose of assessing potential demand for many less expensive consumer products, the ability to buy a 20-year-old or a 30-year-old car provides a pretty good benchmark.
So, Where Is the Middle Class?
Source: Ward’s World Motor Vehicle Data and authors’ calculations
Cars in circulation can provide a measure of the number of middle-class households, but a little math is required to arrive at the number of middle-class individuals. We can’t just extrapolate based on the average household size in developing countries, as middle-class households tend to be smaller. In India, for example, the average size of middle-income households is 4.3 people, compared with 5.3 in all households. In other major economies, however, such as Brazil and China, the difference in family size between middle-income households and the national average is very small.
After correcting for household size, measuring car ownership suggests that the middle class in developing G-20 countries is in the range of 550 million to 600 million people — about 50 percent larger than the number arrived at using the Milanovic-Yitzhaki definition.
Measuring car ownership also provides us with a more nuanced understanding of where the global middle class resides. In a number of countries — Argentina and China, for example — the estimate of the middle class using cars in circulation matches that arrived at using the Milanovic-Yitzhaki method. However, using the car-ownership metric suggests that some developing countries — notably Brazil, India, Indonesia, and Mexico — have a much larger middle class than previously believed.
Moreover, measuring car ownership suggests that the middle class has grown much more rapidly than we had previously understood. For example, employing the Milanovic-Yitzhaki definition, the middle class in China, India, and Russia is projected to grow annually by 9.4 percent, 5.8 percent, and 2.4 percent, respectively, over the coming two decades. But this is much slower than the average annual rate of growth of cars in circulation from 2007 to 2010: 35.8 percent in China, 15.7 percent in India, and 7.1 percent in Russia.
What’s more, the ranks of the global middle class appear poised to swell considerably in the coming years. About 70 developing countries, home to a combined 4 billion people, lie in the per capita annual income range of $3,400 to $10,000 — an income range where car ownership grows much faster than income — meaning that a large share of that population is just on the threshold of affluence. In 2010 alone, the BRIC countries — Brazil, Russia, India, and China — added about 14 million cars to their circulation. That figure implies that about 46 million people were added to the middle class, or roughly the population of Spain. The BRICs also accounted for more than half the global increase in cars in circulation in 2010.
Data on new-car registrations sheds further light on the emergence of the middle class in developing countries. In 2010, new passenger-car sales in the BRICs — around 16 million — were six times larger than average annual sales in the 1990s. Moreover, eight of the top 10 countries that registered the largest increases in the number of new-car sales in 2010 were emerging economies, with China, India, and Russia seeing the largest increases. In China and India, the two largest developing countries, new-car registrations in 2010 represented a whopping 27 percent and 14 percent, respectively, of cars in circulation.
The growth of the world’s middle class is coming almost exclusively from developing countries. Given the stagnation in both population and incomes in advanced countries in recent years and the fact that the income distribution in those countries is becoming more skewed toward top earners, the number of people in the middle class in advanced countries is unlikely to be increasing — and may even be declining. (But don’t count the First World out: The bulk of the middle class’s purchasing power still resides in advanced economies, and nearly 70 percent of the global passenger cars in circulation are in these countries.)
The untapped potential of the middle class in developing countries is clearly evident when comparing car ownership levels there with those in advanced economies. The number of passenger vehicles per 1,000 people in India and China is just 10 and 27, respectively, compared with 502 in Germany and 451 in the United States. Even if the number of cars in circulation in China and India continues to grow rapidly — near the 10 percent average annual growth rate recently projected by the International Energy Agency for these two countries — it would take about 25 years for China and more than 40 years for India to reach the current penetration rates in advanced countries.
Why Does This Matter?
The middle class in the developing world, if you’ll forgive the pun, is in the fast lane. As its ranks swell, firms in advanced countries will increasingly focus their efforts on selling products to that middle class directly, or selling the machines, software, and business services that firms in developing countries need to meet the needs of their burgeoning middle classes. For this reason, trade agreements struck with developing countries may yield more gains for advanced-country exporters than is generally understood, at least over the next several years.
Policymakers should also take heed of this rapid rise in car ownership, as governments in developing countries will be forced to contend with more urban and airport congestion, as well as more pollution and carbon emissions, for example, than would be deduced from aggregate growth statistics. Similarly, the demand for items the middle class expects its government to provide — from advanced education to health services — is also exploding. These new demands are likely to present particular challenges for countries such as Indonesia, where per capita income is still quite modest, tax revenues are low, and government capacity to satisfy such demands is limited.
The people of this burgeoning middle class also expect their governments to be representative and accountable, and they are sure to put increased pressure on the nondemocratic systems in many developing countries. Seen in this light, the rising incidence of protests and dissent in China, Russia, Thailand, and the Arab world is not surprising.
The data points unequivocally to an extraordinarily dynamic period in middle-income developing countries, where everything from material conditions in cities, to demands for government services, to political norms are being transformed. The world must wake up to these impending changes sooner rather than later — if it doesn’t, it risks a billion-car pileup.