Purchasing power parity

Also called: PPP · Topic: Human Development: Concept, Approaches and Measurement · NCERT: Class 12, Ch 3 "Human Development"

Meaning

Purchasing power parity (PPP) is a way of converting incomes in different currencies using rates that make the same basket of goods and services cost the same in every country. The results are shown in a common unit, PPP dollars.

• Why it matters: market exchange rates do not show what money can actually buy in each country. PPP fixes this, so living standards can be compared fairly.
• Its role in the HDI: the "access to resources" (decent standard of living) part of the Human Development Index (HDI) is measured as GNI per capita in PPP dollars.

Explanation

How PPP works

• The problem:
• Change 1 US dollar into rupees at the market exchange rate (the rate banks use to swap currencies).
• That money buys much more in India than 1 dollar buys in the USA.

• So comparing incomes at market rates makes poorer countries look poorer than they really are.

• The PPP method:

• Choose a common basket of matched goods and services.
• Find out what the basket costs in each country's own currency.

• Work out the conversion rate that makes the basket cost the same everywhere.

• The result: incomes become "PPP dollars", which show how much people can actually buy. Rich and poor countries can then be compared on equal terms.

Who produces PPP rates

• PPP rates come from the International Comparison Program (ICP), which the World Bank runs worldwide [4].
• The ICP collects prices of matched goods and services, along with data on spending that makes up GDP. It then converts them into a common currency [4].
• The latest round is for the year 2021. It covered 176 economies, and its results came out in May 2024 [5][2].
• PPP figures carry a base year, such as "2021 PPP $". HDR 2025 uses 2021 PPP $ [2]. Earlier HDRs used 2017 PPP $.

How PPP is used in the HDI

• NCERT version: the resources dimension was measured as purchasing power (in US dollars). It had one-third weight, like health and knowledge.
• Present version (since HDR 2010): the indicator is GNI per capita in PPP dollars.

• GNI (gross national income) is all income earned by a country's residents, including income earned abroad.

• Goalposts (fixed minimum and maximum values) in HDR 2025: 100 dollars minimum and 75,000 dollars maximum (2021 PPP $) [2].

• 100 dollars: poor economies have a lot of subsistence and non-market production (food grown and work done for one's own use, not sold) that official data does not count [2].

• 75,000 dollars: income above this adds nothing to the HDI [2].

• Log scale: the income index uses the natural logarithm (log) of PPP income.

• Each extra dollar improves people's lives less than the dollar before it.
• So going from 1,000 to 2,000 dollars counts for much more than going from 50,000 to 51,000 dollars.
• Income index = [ln(income) − ln(100)] ÷ [ln(75,000) − ln(100)] [2].

Where it occurs

• India: GNI per capita was 9,047 dollars (2021 PPP) in 2023 [3].
• Income index = [ln(9,047) − ln(100)] ÷ [ln(75,000) − ln(100)] ≈ 0.681 [3][2].

• It is one of the three parts of India's HDI of 0.685, rank 130 of 193 in HDR 2025 [3].

• World economy: measured in PPP, the world economy was 152 trillion dollars in 2021 [5].

• Countries above the income cap: nine countries had income above 75,000 dollars in 2023: Brunei Darussalam, Denmark, Ireland, Liechtenstein, Luxembourg, Norway, Qatar, Singapore and Switzerland [2]. For them, income above the cap adds nothing to the HDI.
• Coverage: the 2021 ICP round, run by the World Bank, covered 176 economies [5][2].
• Sri Lanka (rank 89) is in the "high" group even though its income is much lower than that of many richer countries. Higher PPP income alone does not decide HDI rank [3].

Don't confuse with

• Market exchange rate: the rate at which currencies are swapped in the market. It ignores price differences between countries. PPP adjusts for them, so the same income buys the same basket everywhere.
• GDP vs GNI: GDP counts output produced inside a country. GNI counts all income earned by a country's residents, including income earned abroad. The HDI uses GNI per capita (PPP $), not GDP.
• NCERT "purchasing power (US $)" vs present "GNI per capita (PPP $)": the NCERT version shows the older HDI method. Since HDR 2010, the indicator is GNI per capita in PPP dollars, put on a log scale.
• 2017 PPP $ vs 2021 PPP $: earlier HDRs used 2017 PPP $. HDR 2025 uses 2021 PPP $ [2], based on the ICP round whose results came out in May 2024.

Prelims Hooks

• PPP rates are produced by the World Bank's International Comparison Program (ICP), not by UNDP or the IMF [4].
• The latest ICP round is for 2021. It covered 176 economies, and results came out in May 2024 [5][2].
• HDI income goalposts in HDR 2025: 100 to 75,000 dollars (2021 PPP $) [2].
• Trap: the income index uses the log of GNI per capita (PPP $). It is not a simple straight-line scale.
• India's GNI per capita in 2023 was 9,047 dollars (2021 PPP) [3]. Its income index is about 0.681.
• World economy in PPP terms: 152 trillion dollars in 2021 [5].

Mains Points

• Why PPP gives a fairer picture:
• Market exchange rates make low-price economies like India look poorer than they really are.

• PPP measures what incomes can actually buy, so living standards and HDI can be compared fairly across countries.

• Income is only one part of human development:

• Because of the log scale and the 75,000-dollar cap [2], more PPP income adds less and less to the HDI.
• Sri Lanka (89, "high") does better than richer countries by spending on health and education [3].

• For India (income index ≈ 0.681), faster growth in income per person must go along with higher mean years of schooling to cross the 0.700 "high" line.

• Limits: PPP-based GNI per capita is a national average. It hides inequality between and within states, such as Kerala compared with Bihar. This is one reason UNDP also publishes the IHDI (HDI reduced for inequality) [2].

Related concepts

• Human Development Index
• Life expectancy at birth
• Adult literacy rate
• Gross enrolment ratio
• United Nations Development Programme
• Human Development Report

Read more

• Measuring human development: the HDI and the Human Development Report