The NITI Aayog chief seemed to have jumped the gun when he said India had moved past Japan in the International Monetary Fund (IMF)'s GDP rankings. As many commentators have already reported, a correct reading of the IMF's estimates shows that it will take another year.
More importantly, the IMF compares the GDP at 'current' prices, which doesn’t tell us the 'real' size of an economy. An economy with high inflation can appear to be bigger than another where inflation is low, even if its real output is lower.
If this is Greek to you, here’s an imaginary story that might help you understand it.
Once there were two friendly kingdoms. One was called Hispania, and the other was known as Asgard. The people of Hispania used a currency called doubloon. Asgard’s currency was called lunar.
In the year when our story begins, Hispania’s total income was 100 billion doubloons. Since, 10 doubloons exchanged for one US dollar, the IMF recorded Hispania’s GDP as $10 billion.
Asgard’s GDP that year was 550 billion lunars. One US dollar exchanged for 50 lunars, so in the IMF’s rankings, Asgard’s GDP was $11 billion.
The next year, average prices in Hispania went up by 10 percent, while Asgard had no inflation at all. When Hispania’s GDP was calculated that year, by adding up the value of all the new goods and services sold, it had risen to 118 billion doubloons. Asgard’s, on the other hand, had risen to just 572 billion lunars.
By then the exchange rates had also changed. One US dollar was now worth 10.5 doubloons and 51 lunars. So, the next year, the IMF recorded Hispania’s GDP as $11.24 billion and Asgard’s as $11.22 billion.
Hispania had moved ahead of Asgard in the IMF’s GDP rankings.
But do note that Hispania had an inflation rate of 10 percent, and Asgard had no inflation at all. Since GDP was counted in 'current' prices, it 'inflated' the actual size of Hispania’s economy.
In terms of increase in output, adjusting for the 10 percent inflation, Hispania’s ‘real’ GDP had actually risen to 107.3 billion doubloons. Asgard’s real GDP, on the other hand, was the same as its ‘nominal’ GDP, since it had faced no inflation.
Once converted to US dollars, Hispania’s real GDP was $10.22 billion, while Asgard’s was $11.22 billion. Asgard would still be ahead of Hispania in terms of the real size of its economy, even though in nominal terms it would have slipped behind.
These two imaginary countries are quite similar to India and Japan.
Inflation, Currency, and Illusions
In the past 10 years, prices in India have risen by 62 percent, at an annual average of 5 percent. In Japan, they rose by just 8 percent, at an annual average of just 0.8 percent.
Similarly, the rupee has weakened by 33 percent relative to the US dollar, over the past 10 years, while the Japanese Yen has depreciated by just 22 percent. So, $100 billion of output in Japan, produced 10 years ago, would appear to be worth just $89 billion today, while it would appear to be worth $122 billion in India.
Please note, this is exactly the same amount of goods and services in real terms. This mirage happens because our currency has depreciated at a slower pace than inflation, while the exact opposite happened in Japan.
In other words, India overtaking Japan in ‘nominal’ GDP terms does not really tell us much about the relative size of our economies.
But this is only one part of the story.
The Per Capita Income Gap
The obvious difference between India and Japan lies in our per capita incomes.
An average Indian will earn about $2,900 in 2025; an average Japanese will earn roughly $34,000. Even if we adjust for purchasing power, an average Indian will be able to buy goods and services worth about $11,200, while an average Japanese would have a purchasing power equivalent of $52,700. So, an average Japanese person is about 4.5 times as rich as an average Indian.
However, this hides a crucial reality about what powers India’s economy—and is also its greatest weakness: Inequality.
An economy grows when its people can buy more and more goods and services. To do that, producers must not only find buyers for what they sell, but also have enough ‘surplus’ to invest in new factories, equipment, and offices.
At our current per capita income, an overwhelming majority of Indians barely manage to cover basic necessities. Yet, there is a small percentage of people in our country who have a purchasing power that can equal that of most advanced capitalist countries.
Take Japan, for instance. It is one of the most advanced countries in the world, whose population is just 8 percent, or less than one-twelfth, of ours. So, it would make sense for us to compare all of Japan with the richest 8 percent of Indians.
We will also need to compare earnings in terms of Purchasing Power Parity (PPP) dollars as one PPP dollar buys the same basket of goods and services, anywhere in the world, adjusted for local inflation.
According to the World Inequality Database, an average Japanese adult earned 53,000 PPP dollars in 2023, while an average Indian in the richest 8 percent, earned 88,000 PPP dollars.
That means, in terms of purchasing power, Indians in the 92nd to 100th income percentile, were richer than an average Japanese person.
Japan’s Affluent Class Has Hit a Ceiling
Of course, there is inequality in Japan as well. So, to compare apples to apples, let us take the richest 25 percent of people in Japan, roughly 30 million, and compare them with the same number of the richest people in India. That will be about 2 percent of India’s population.
An average Japanese person in the richest quartile – top 25 percent – earned roughly 125,000 PPP dollars in 2023. An Indian in the richest 2 percent, averaged 190,000 PPP dollars! When we compare the number of rich people in India, given our huge population, we are much better off than affluent Japanese people.
On top of that, India’s rich are only getting richer, while Japan’s rich have more or less stagnated since 2009. This makes India, potentially, a huge market, for foreign companies, looking to sell their goods outside their own domestic markets.
That will be true, even if we took market exchange rates instead of PPP dollars. That’s because the richest 30 million Indians have to spend much less on everyday expenses than the richest 30 million in Japan. This leaves them with much more in hand for 'discretionary' spending, including on luxuries. So, their actual ability to spend in dollars would be higher than Japan’s affluent people.
That is why, these GDP rankings are of value to big foreign companies. It gives them a sense of the size of a nation’s buying classes, even if it is a very small proportion of its people.
That is also precisely why flexing about GDP is entirely meaningless for a poor country like ours.
(The author was Senior Managing Editor, NDTV India & NDTV Profit. He tweets @Aunindyo2023. This is an opinion piece. The views expressed above are the author’s own. The Quint neither endorses nor is responsible for them.)