Global Business: Per Capita Income Concept - Essay Example

GLOBAL BUSINESS Why multiplying a countrys expected per capita consumption by its population does not necessarily lead to a good estimate for potential demand. 2. Why this is an important consideration in the global business environment Introduction. Countries with large populations and high growth in per capita incomes are have attractive market potential for the international marketer. China, India, and Indonesia which are experiencing high growth rates in terms their gross domestic product (GDP) may be cited as examples. However, there are countries both large and small whose populations are growing at a rapid rate but whose economies are not keeping pace, thus resulting in a declining income per capita. Nearly of these countries experience progressively worsening poverty. In international marketing, population is often the first factor to consider. But the issue is: Is it good strategic planning to use the per capita income and consumption data vis-a-vis population size as a basis of forecasting the size of a countrys market? This paper attempts to explore this proposition and to determine whether indeed it is or whether there are other better approaches that can help the international marketer make better decisions in entering a foreign market. Per capita income concept: Its basis in theory. The first task of this paper is to establish the relationship between national income (GDP) and per capita income, and between the latter and per capita consumption. Per capita income is derived from the concept of gross domestic product, which is the standard measure of an economys total output (Baumol and Blinder 2001). But such output only make sense if producers can sell them; therefore the concept of aggregate demand is relevant. Aggregate demand is the total amount that all consumers, business firms, government agencies, and foreigners wish to spend on all of a countrys goods and services. It also depends on consumer incomes, government decisions, and events or developments abroad. Aggregate demand can be broken down into the following: a. Consumption expenditure. This is the total demand for all goods and services and constitutes roughly two-thirds of total spending in most countries. b. Investment spending. This is the total amount that firms expend on physical assets such as land, factories, machinery and equipment, and inventories. . These assets add to productive capacity, leading to additional demand for goods and services. c. Government purchases refer to goods (such as airplanes, ships, computers and labor - including teachers and police) purchased by the government at all levels from local to national. d. Net exports. This consists of the difference between what the economy sells abroad and what it imports, and can either show a positive or negative sign. By adding up all these components, we are able to obtain the aggregate demand and we can summarize it as the sum of all consumption, investment, government purchases, and net balance of exports and imports. Sommers (1993) and other economists take the view that the total output of an economic system is exactly equal to the total demand in the system, and that the GDP can also be referred to as gross domestic expenditure. From this aggregate is derived the concept of national income - which is the total income of all individuals in the economy. It is defined as the sum of the incomes that individuals in the economy earn in the form of wages, interest, rents, and profits. It is income before income taxes are paid but it excludes government transfer payments (such as social security benefits and unemployment compensations). After taxes are paid and government transfer payments are received, we arrive at the concept of disposable income. The changes in disposable income determine consumer spending while the difference between disposable income and consumption goes to saving. Per capita income derivation. Per capita income is derived by dividing a nations gross domestic product (GDP), which, as economists know, is National Income before tax and transfer payments, by the national population of the same year. Note that National income would have been a more precise numerator but the difference would be negligible anyway. Traditionally, per capita income has been computed using current prices, but if all countries data are computed in the same way, comparability is not sacrificed. Per capita income determines per capita consumption because of the very close correlation between the two. The concept of marginal propensity to consume derives from the notion that a person or household with an additional income would tend to spend a higher percentage for consumption. In the same manner, government policy makers try to determine the impact of a tax cut on per capita consumption in order to stimulate economic activity. In recent years, attempts have been made to make national income data and per capita income among countries more comparable. This need arose from the fact that 100 US dollars can purchase more quantity of goods in Bangkok, for example, than it does in New York. The solution was to use the purchasing power parity (PPP), which uses an adjustment factor based on how much a group basket of goods will cost in one country compared to what it can buy in the United States. This is now used in many statistical tables that compare incomes among countries. Population figures are obtained from the most recent population censuses, and, as such head counts are made usually every five years, the figures are extrapolated from past trends. Rankings in income, population and GDP Recently Globaledge ranked the the top 15 countries in the world in terms of per capita income as follows: (Source: http://globaledge.msu.edu/countryinsights/rankings.asp?countryID=20®ionID=3) Note that the worlds largest economy, the United States, only ranks tenth. Most of these top-15 countries, including Singapore and Hong Kong in Asia, have small populations. Table 2 The current ranking in terms of population size in absolute terms is as follows: Historically, low-income countries have led in their annual population growth rates, followed by the middle-income countries. The World Development Report 1995 showed that such growth rates of 2.0 percent or higher for the first group and the and more than 1.5 percent for the latter. Developed countries showed population growth rates of less than 1 per cent. (World Development Report, cited in Terpstra and Sarathy 1997) A discussion on population geography says that Asia and Africa still are ahead in population growth, with Afghanistan showing 4.8 percent with a possibility of doubling its present population after 14.5 years (Geography IQ). Developed countries have always shown low natural growth rates such as 0.3 percent for Canada or (0.9 percent overall including immigrants), 0.6 for the United States (0.9 percent if migration is included). Most European countries have low growth rates, with UK, France showing figures below 0.5 percent, and Germany with a steady zero growth, while East European countries such as the Czech Republic may have its populations shrinking. Overall, the worlds population is growing at 1.14 per cent per year. On the basis of the above table, most of the countries with large population have shown low growth rates, although large in absolute terms. For 2008, Indonesia had 1.2 percent, India 1.61 percent, Brazil 1.01 percent while China has reduced its annual growth to less than half of 1990 data (1.4 percent) down to 0.61 percent. The UK population has grown by only 0.275 percent. Russias population is declining with a negative -0.484 percent. The most recent (2008) GDP data compiled by the Central Intelligence Agency shows that, besides the European Union which has been grouped here as a single entity, the United States leads the pack with the size of its economy nearly double that of the new runner-up, economic powerhouse China, and Japan (World Fact Book). Chinas rapid economic growth in recent years has enabled it to replace Japan as the worlds second biggest economy in terms PPP-based GDP. Table 3: Top 15 countries in terms of gross domestic product. (Source: https://www.cia.gov/library/publications/the-world-factbook/rankorder/2001rank.html) The statistics on GDP growth rates do not appear significant for the international marketer because the top places are occupied by small economies which have a small base to start with. Countries such as Bhutan, Macau, Quatar, and Timor Leste top the list of "fast-growing" economies with double-digit growth rates. The GDP growth rates of the most populous countries are lower: China with 9.0 percent, India 7.4 percent, Indonesia 6.1 percent, Russia 5.6 percent, Brazil 5.1 percent. Developed countries directly affected by the current global economic and financial crisis show very little or even negative growth. The United States had 0.4 percent, France 0.3 percent, Germany 1.3 percent, UK 0.7 percent and Japan a negative -0.7. (See CIA Fact Book) Making use of aggregate income data After doing an analysis of the previous data on comparative GDP and per capita income,. the next step is to determine how they are going to be used in a meaningful way. The absolute GDP figures tells us about the potential buying power of a countrys economy. Where a country distinguishes itself in both GDP and per capita figures such as the United States, China, and Japan, there is little doubt that it is an attractive market, all other things being equal. Where the GDP is huge but the per capita income lags, one may conclude that the market has great potential provided the growth pattern in both GDP and per capita income shows that population growth rate has been somewhat controlled. Even in the case of India with more than 1 percent growth in population, its high economic growth still indicates a promising market. The reading of aggregate data and statistics needs to be tempered with the realities in the field.. Pride and Ferrell (1989) believe that a total market approach should use a product differentiation strategy. To make the data useful, it may be necessary to use a segmentation approach which attempts to break the market down into segments such age group, occupation, sex, or education, as well as population density of a specific country or region. In terms of age structure, for example, it is observed that in countries with rapid population growth, the age range 0-14 has a greater percentage of the total than that found in developed countries in general. Let us take the case of Indonesia as compared to the United States. Indonesia has 28.7 percent of its population in the 0-14 age group compared to that of the United States with 20.2 per cent. Its population in the age group 15-64 constitute 65.5 percent of its population, while that of the United States is 67.2 per cent. Those aged 65 and over are 5.7 percent in Indonesia and 12.6 percent in the United States (Geographic IQ). This is a typical phenomenon that can be seen when observing countries with different population growth rates. The developed countries have more of their people in the productive age and can therefore generate more productivity to sustain its economic growth. The marketer who knows his product should target his market with the understanding of the age structure, particularly for consumption goods. (See Aaker 1995). The marketer may also use other modes of classification of his target market in a country or region by taking into account occupational categories where such information is useful for penetrating a market. Data on gender can be useful in other cases as well. Where it is important to control distribution and transportation costs, one must also consider population density. One may need to look at the population densities through demographic maps and also one needs to know where urban concentrations are found. This is an added dimension in marketing planning which cannot be ignored where convenience and cost factors in distribution and transportation and urban agglomeration are matters of importance. In view of the complexity of the task of marketing planning, with so many variables involved to consider, it would appear that he use of a single indicator like per capita income or per capita consumption in relation to projected population would appear too simplistic. Per capita income and consumption vs population. Per capita income is often used as a proxy for a countrys level of development in a general sense. It evokes the idea of the level of human progress in terms of health, education, and welfare. It can be prima facie indicator that the country in question is a good market for ones products. There is great variability in per capita incomes throughout the world with the highest per capita income enjoyed by Liechtenstein with $118,000, while the lowest is that of Zimbabwe with $200 - thus showing a vast disparity.. Both GDP and per capita income data today are stated in terms of the purchasing power parity to facilitate comparisons. However, if one currency appreciates its income measures can suddenly rise, so that, for example, if the British pound appreciates or revalues against the US dollar (the basis of the PPP), both the GDP and per capita numbers of UK will increase in the short run. But because UK goods become more expensive, its balance of trade can worsen. This can prompt a government policy decision to adjust the value of the pound downwards in order to improve its trade balance. The opposite is true when a currency depreciates: the PPP-based GDP and per capita income figures of the currency-depreciating country will drop. An issue that concerns national income statistics is the fact that many kinds of productive work in developing countries are not included in the national income accounts because they do not involve money transactions. When a householder builds his house or boat or provides for his own or his familys needs through farming and fishing these are not reflected in the national income accounts. Hence, the corresponding figures for developing countries are understated, which supports the view that the per capital income is somewhat inaccurate. Another point to consider is the fact that per capita income, being a general measure, is not always relevant in relation to specific products. Where a product being marketed may be geared towards the mass market, this measure can be a valid one. However, if one tries to sell industrial products, the indicator may not be useful. Terpstra and Sarathy (1997) say that national incomer may possess a better correlation to industrial sales than does per capita income. For some products of relatively high value, the per capita income indicator may be a valid one if used in a developed country, but a poor one where the target market has a low or average per capita income. A final point to consider when making forecasts of sales is the relationship of GDP and population. We know that the per capita income is derived by dividing GDP by population. Provided that the GDP and population grow at the same rate, say 2 percent, the per capita figure remains constant. If, however, we regard population growth as the indicator of potential demand growth whereas the GDP lagged or remained the same, or even declined, the population no longer bears a correlation with economic growth. On the other hand, if the GDP grows faster than the population in percentage terms, the per capita income will rise. The extrapolated population figure may actually understate the true per capita income. Economists and other social scientists are well aware rapid population growth will have an effect not only on the per capita income figure but also on the nations ability to grow economically. Rapid population growth changes the age composition of the population, with more of the young and dependent children relative to the working population, reducing the savings rates because money is channeled to the consumption needs of the young. The governments resources may have to be diverted to hospitals and medical care, education, and social welfare, whereas they could have been used for increasing productive capacity of the economy, workers training, and other means to improve long-term economic growth (See Case and Fair 2001). Conclusion The expected per capita income and consumption cannot be considered a reliable indicator of future aggregate demand for the reason that actual market situations require a more precise, customized approaches. Such a general measure is difficult to justify when the environment requires that the market characteristics require segmentation with respect to age groups, gender, educational level, population density, and other aspects. Further, the per capita figures may be rather inaccurate to start with. The issue is an important consideration in the context of the business global environment because the use of a wrong or undependable measure can mean the failure of a marketing strategy. As always, corporate management should always examine and review the approaches it adopts with regard to their appropriateness in relation to the actual conditions in the foreign business environment. The global environment also has to be viewed from various perspectives in a balanced way so that a firm can map out and implement an effective strategy to compete well in the international marketplace. BIBLIOGRAPHY Aaker, DA 1995, Strategic market management, 4th edn, John Wiley and Sons, New York Baumol, WJ & Blinder, AS 2001, Macroeconomics: Principles and policy, 8th edn, Harcourt College Publishers, Orlando, FL Case, KE & Fair, RC 2002, Principles of macroeconomics, Prentice Hall, Upper Saddle River, NJ Hill, CWL 2005. International business: Competing in the global marketplace. McGraw-Hill, New York: __________ (2001). Global Business Today, 2nd edN. 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Viewed December 6, 2009 at https://www.cia.gov/library/publications/the-world-factbook/index.html Country Insights, Globaledge. Viewed December 6, 2009 at http://globaledge.msu.edu/countryinsights/rankings.asp?countryID=20®ionID=3 Read More