Income, we all know, is the return to wealth. Why is it then that the gross national income of Canada is as high as 25.4% of the country’s net worth? Does it mean that Canadians are so productive they’re able to get a return of 25.4% on their net worth every year? Or is wealth being underestimated? Researchers Susana Ferreira and Kirk Hamilton of the World Bank seek a solution to this puzzle in their paper.

The reason for the ostensibly high return is rather simple—the wealth estimates take into account the value of capital, commercial land and net financial assets, but it excludes lots of other things like human capital and the value of social and institutional capital.

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The authors estimate that a normal rate of return on assets should be of the order of 5% or so, which means that a truly comprehensive measure of national wealth should be of the order of around 20 times national income. The theory is easy enough, but the difficulty lies in measuring intangible wealth. That hasn’t, however, deterred the authors from attempting to do so.

The authors first put a value to comprehensive wealth by taking the present discounted value of future consumption. From this value they then deduct the value of capital, natural resources and financial assets to arrive at their estimate of intangible wealth.

The authors point out that their concept of intangible wealth is akin to the part that total factor productivity (TFP) plays in growth. Growth is obtained not just by adding more and more units of capital, but by improving productivity. Similarly, wealth is not just the sum total of capital but also of other factors that result in higher income. The authors call this intangible wealth.

The authors studied observations from 115 countries to arrive at their results. They find that intangible capital is the biggest contributor to total wealth—on average, it represents around 60% of total wealth. They also find that “differences in physical capital, natural capital, and human capital per worker explain only between 20% and 43% of the variation in output per worker in our sample. However, if we use intangible capital instead of human capital, variation in factors of production explains 97% of the variation in output per worker. This is precisely what we would expect if intangible capital is indeed measuring a wide range of assets (human, social, institutional, etc.)".

Moreover, they find that intangible capital is the principal source of wealth in the advanced countries. How important is human capital? That’s best illustrated by the authors’ estimate that the difference in intangible capital between the country with the lowest level of human capital (Mozambique) and the highest (Norway) is as high as $320,000 per capita. The paper underlines that being wealthy is not just a matter of having money but also the capacity and the environment to enjoy it. Also, since wealth distribution is already skewed towards the richer countries and since they also have more intangible wealth, this means that wealth differences between nations are actually even harsher than earlier estimates that take measure only tangible wealth suggest.

There’s also another conundrum. Since developing countries typically have lower intangible wealth, does it mean that their rates of return (or national income to total wealth) are higher than those for the developed world?

For instance, the latest Credit Suisse estimates put India’s share of world GDP this year at 2.18%, while its share of world wealth is 1.82%. This implies that returns from tangible wealth are higher in India than the world average.

The difference in return would be even higher if intangible wealth is taken into account, because human development is very low in India. Ditto for most other developing countries.

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