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Where is the Wealth of Nations?

Kirk Hamilton's picture

Ghana. Photo: © Arne Hoel/The World Bank

If you have ever had a conversation with a finance minister couched in terms of hectares of forestland or tons of greenhouse gases, then you appreciate one of the central problems of environment and development. It tends to be a short conversation, and for good reason – talking about the environment and natural resources this way simply doesn’t fit the model used by economists. If we want to reach ministers of finance and development planning we need not only to value the economic contribution of nature, but to express it in the framework of the System of National Accounts (which includes, among other measures, Gross Domestic Product or GDP as the predominant indicator of economic progress used by macroeconomists).

Where is the Wealth of Nations?, the World Bank’s best-selling book published in 2006 tackled this problem head-on by building comprehensive wealth accounts, spanning produced, natural and intangible capital, for over 100 countries. The results were striking: in extractive economies like Venezuela or Nigeria, total wealth would be four to five times as high today if they had used the revenues from resource extraction to invest in other forms of wealth. A follow-up book, The Changing Wealth of Nations, measures wealth creation over the decade 1995 to 2005. Soon to be released, the new volume has a chapter on ‘Wealth Accounting in the Greenhouse’ which values carbon dioxide stocks and flows country by country. We are making progress on valuing nature in the national accounts.

This week in Nagoya, at the conference of parties of the Convention on Biological Diversity, the World Bank will announce a new partnership on ecosystem services valuation and wealth accounting. Ecosystem services such as pollination by insects, regulation of water flow by forests, and coastal protection by mangroves, contribute to the productivity of farmland and fisheries in particular, but their economic contribution is generally unmeasured in national accounts. This puts the natural assets providing these services at risk when development decisions are taken. Over the next few years we will see new results on the value of ecosystem services in national accounting.

Coming back to GDP, Eduardo Ley and I have argued in a recent Economic Premise that a better measure of growth in extractive economies is provided by Net National Income (NNI) adjusted for depletion of natural resources – this accounts for profits flowing out of the country from the resource sector as well as depletion. Even with a better measure of income, using last year’s growth as the key economic performance indicator is like driving while only looking into the rear-view mirror. Adjusted Net Saving (published in the World Development Indicators since 1999) is a measure of wealth creation that includes resource depletion and investment in human capital. It is inherently forward-looking. Unfortunately, thinking about savings and wealth does not seem to come naturally to many macroeconomists – which is odd given that wealth creation, broadly conceived, is synonymous with ‘development.’ So we still have work to do on bringing nature fully into economic discourse.
 

Comments

Submitted by Gary McMahon on
In recent estimates of the potential contribution to Afghanistan of its two very large known mineral deposits (copper & iron ore), we have presented national income estimates to the Government and not GDP for just that reason. We have not at this point subtracted depletion given the large methodological difficulties involved. First, just determining how much of the fiscal revenues will be used to create other wealth is a large challenge. What is the correct proxy? Second, when a mine is being built and operated a very large amount of human capital is being produced in the workers and in the companies that sell goods and services to the mine. To the extent that Afghans are benefiting from this (mostly for labor in the mine but unclear for suppliers), how do you capture this human capital, much of which is fungible and can move to other industries. Third, given that new infrastructure (roads, power, and railways) usually accompany mine development (and certainly will in Afghanistan), there will be very large externalilities that will result in other businesses being developed and new skills being learned. These are also difficult to quantify without major guesswork. Fourth, mine development often leads to more exploration that identifies previously unknown deposits, which particularly in 'new' mining countries can lead to a great increase its known wealth. The main point is that it is much more than looking at the increase in education spending to determine how much natural capital is being turned into physical capital (which I have seen used as a proxy). In fact, that is probably only the tip of the iceberg.

Hi Gary - You are quite right to point out the positive externalities that development projects can create. I suppose the best way to respond is to note the extent to which national accounting and project appraisal are different tools. A good project appraisal will try to value the sorts of externalities you mention as part of the future stream of benefits from the project. National accounts value benefits at the point they are actually created and are measurable. New mineral discoveries would show up in the value of the resource asset, assuming that the discoveries are economic. The returns to skills acquired by workers would show up as increased wages. And so on. But we do have examples, particularly Botswana, where government mineral revenues are explicitly used to finance education - the creation of human capital - as well as other investments in infrastructure. Kirk