MGI Research

Forward Thinking on the existential issues facing the middle classes in every country with Homi Kharas

In this episode of the McKinsey Global Institute’s Forward Thinking podcast, co-host Janet Bush talks with Homi Kharas. Kharas is a senior fellow in the Center for Sustainable Development at the Brookings Institution and also cofounder of World Data Lab. He studies policies and trends influencing developing countries, the emergence of the world’s middle class, and global governance. He’s collaborated with the McKinsey Global Institute on research into consumers in emerging markets and economic empowerment, and his latest book is The Rise of the Global Middle Class: How the Search for the Good Life Can Change The World.

In this podcast, he covers topics including the following:

  • How the character of the world’s middle classes is changing
  • How the middle classes shape our world
  • What becoming middle class means for a household
  • The role of the middle class in climate change
  • How AI may affect the middle class

Janet Bush (co-host): Michael, if you were to guess, how many people that we define as middle class do you think there are in the world?

Michael Chui (co-host): I am not sure I can put a number on it. But I think that the share of those in the middle classes of the total world population will have risen a lot as prosperity has risen in many more countries—emerging and developing parts of the world—in recent years.

Janet Bush: Well interestingly, our guest today confirms that today half the world’s population is middle class or richer. Putting that in absolute numbers, that’s four billion people. But by 2030, that could be five billion. But what is fascinating is how the middle class is changing and how central the middle class is to some of the great challenges of our time.

Michael Chui: I look forward to listening in to the conversation.

Janet Bush: So, welcome to our podcast, Homi.

Homi Kharas: Thank you, Janet.

Janet Bush: Tell our listeners a little bit about your background, where you were educated, where you were brought up, and how you developed this life of yours.

Homi Kharas: Well, I was born in Karachi, Pakistan. At that time, it was the capital of a very poor country. I moved around quite a bit as a kid because my father was a diplomat, so I went to school in lots of countries. But I ended up in England for middle and high school.

I started at Cambridge University as a physicist. Soon gave that up as being way too difficult, switched to economics, and then came over to Harvard to get my PhD. I joined the World Bank and was bitten by what I would call the policy bug, which is the idea that one can make a difference in the lives of millions of people by influencing policy makers.

Janet Bush: Sounds very sensible. And how nice to find out that you were born in Karachi, because I lived there as a kid. My dad was a banker and therefore also peripatetic.

Homi Kharas: We probably went to the same school, then, Janet.

Janet Bush: In your new book, you highlight the fact that we’ve now reached the point at which half the world’s population is middle class or richer. Four billion people, and by 2030, that could be five billion. So what’s driven that enormous growth, and what could continue to drive it?

Homi Kharas: I think the simplest answer I can give is technology. It was technology that started the emergence of the middle class in the 19th century when it became clear that literate clerks were needed to write contracts between banks and factory owners so the latter could expand. The technology of the Industrial Revolution drove the need for a healthy, educated population. And that drove a demand for teachers, doctors, nurses. Productivity started to rise, and that brought about a rise in wages.

So, there’s definitely a technology story. But I think the deeper story is politics. Middle-class expansion was associated in the West with a growth in the number of people eligible to vote, what we would simply call democratization. And in many countries, the middle classes supported (and, in turn, benefited from) labor unions. So, I would describe the middle class as the pro-capitalism wing of the labor movement.

But in the last 30 years or so, I think we should add globalization to this list. Without globalization, the accelerated speed of middle-class expansion just would not have been possible. And it’s quite remarkable, I think, to imagine that it took maybe 150 years for the middle class to reach one billion people (from roughly 1825, 1830 to 1975), then another 31 years for the second billion to enter the middle class (1975 to 2006), and then just eight years for the third and fourth billion. And that’s all due to globalization.

We’ve hit a slow patch in globalization now, but the large countries in Southeast Asia and South Asia are continuing to power the middle class forward towards five billion thanks to the strength of their economies and participation in global trade.

Janet Bush: Well, you say in your book—it’s a remarkable figure—that China alone has added half a billion people to the ranks of the middle classes, as you say, in eight years. And that’s about half the entire increase in the middle class from two billion to three billion between 2006 and 2014. Does this change the nature of the global middle class?

Homi Kharas: Yes, I think it does. China’s middle class emerged just at the time when the middle class in the West has felt increased anxiety. And some people have even argued that the growth of China’s middle class has weakened the Western middle class.

I don’t subscribe to that point of view. But the emergence of the middle class in China has actually revealed a split in the global middle class that’s quite new. Before, the middle class always used to think that a growing middle class in other places was good for them. Now, they’re not quite so sure.

Janet Bush: Is that a function of the fact that we are so obviously now in a multipolar world? There’s more rivalry. There’s more contestation. And there’s more worry about what other people are doing.

Homi Kharas: I think it’s a reflection of that fact. But I think that, in a multipolar world where the middle class is really spread everywhere, it gives us a chance and an opportunity to now start to think about global problems and global collective action in a way that we never did before.

If you were to just say, “We’re in a world of geopolitical rivalries,” you would never then imagine that the world could actually get together on some critical issues. But they are starting to get together on critical issues, and that’s because their middle class is pushing them to address these things, because these are existential issues for the middle class in every country.

Janet Bush: We’ll come back to the existential issues, which is fascinating. But just to give our listeners a sense of the overall importance of the middle class, how do they shape our world? A very big question.

Homi Kharas: Well, they shape our world, clearly, by politics, as I said. But not just by politics. They’re shaping our world by their influence on the business sector. The middle class, increasingly, for example, is looking to push corporates to be more sustainable.

Businesses would not have gone down this road by themselves. They’re doing it because their customers want them to do it. They’re pushing capital markets to be more sustainable. The most dynamic part of global capital markets these days is the issuance of sustainability bonds. This is a very new phenomenon.

They’re influencing the media. Every time you hear of something going viral, for example, what it really means is that the middle class has seized on this as an issue and is trying to elevate it. So, in so many different ways, they’re influencing all parts of our lives. And of course, influencing governments is at the heart of that.

Janet Bush: Actually, you’ve even made the point that, in China, with its very different political system from, say, mine in the UK, that the Chinese middle classes are also exerting an influence. They’re using their voice, for example, on sustainability—there’s pressure to really go for net zero in China—and also on issues like food safety.

Homi Kharas: Digital media is tremendous, and they’re making their views heard. Food safety, for example, became a big issue in China because of various scandals with tainted milk. Environmental issues have become really big. There were terrible episodes in Beijing of smog just like the Great London Smog in the 1950s. A very similar kind of weather occurrence.

The leadership has essentially responded to all of these pressures coming from the middle class. Nobody wants to be middle class and not be able to go outside with their children to play in a park because they can’t breathe the air.

Janet Bush: Of course. So I want to discuss what it means financially, in real terms. What does becoming middle class mean for a household?

Homi Kharas: I think it means so many different things. First and foremost, it means that one is freed from the immediate anxieties of everyday living. When you’re in the middle class, you have enough money to be able to take a vacation, to eat out, to go to the movies, spend on other forms of entertainment. You’re actually making choices.

When you’re very poor, you don’t have the ability to make those kinds of choices, because you’re just desperately trying to survive. But I think that this notion of choice, responsibility, control over your life is really what being middle class means.

Middle-class households have consumer durables. They have houses, and refrigerators, and cars. Middle-class households are resilient. If a family member falls sick, it’s not a massive disaster. They can recover. Similarly if somebody is unemployed.

And I would say middle-class households really have hope. They have hope and opportunities for improvement in their own lives and, of course, in the lives of their children and family.

There’s a little bit of a downside that comes with being in the middle class. We’ve clearly seen tremendous amounts of stress and overwork as people try to stay in the middle class. People in the middle class worry about falling out of the middle class. And they hate uncertainty.

So, it’s not all what I would call a good thing. But I would certainly say it’s a better thing than being poor and even, I would argue, a better thing than being really rich. And it’s extraordinary to see the science of how rich people don’t actually have such an enjoyable, good life, at least according to most of the scientific research that we have on happiness.

Janet Bush: Well, the fact that the science says that the rich aren’t necessarily happy is quite good for us middle-class people, so I guess we don’t need to be that envious. But as you say, being middle class is better than being poor, and there’s still a lot of poor people. But I think there’s a lot of debate about how we measure that.

Internationally, we’ve been using $2.15 a day as the extreme poverty line. But what is beyond that? I believe you helped MGI to develop the empowerment line, which we published recently in our report From poverty to empowerment, where people have the essential needs, reduced risk of slipping back into poverty. And we’ve set that at $12 a day in purchasing power parity. What is that level like in terms of comfort level?

Homi Kharas: The empowerment line is actually the same as the lower threshold for entering the middle class. And the reason for that is that it’s one thing to have a poverty line, which reflects where people are actually living in poverty. But, as I mentioned, if you want to consider yourself to be middle class, you want to be reasonably sure that your risk of falling into poverty is quite low.

That means really having to have an income level and spending power that’s quite considerably higher than the poverty line and, in fact, roughly speaking, five times higher. And that’s why we’ve set this so-called empowerment line at $12 a day per person. It is a line where you can be relatively sure that if you do have a spell of unemployment or a major sickness in the family, it’s not going to knock you into poverty. You will be able to recover reasonably easily.

And, as I said, you will be making real life choices about most of your money and spending. You’re going to be looking to see, “Can I afford this at this price? Is this something that I really want to do?” You’re making your everyday budget choices.

That’s what we really mean by empowerment. You’re at a level where most of your economic decisions are made by choice, not just by being forced because you’re trying to just simply find enough money to buy food to survive.

Janet Bush: How does World Data Lab, which you cofounded, measure living standards?

Homi Kharas: We measure the living standards by looking at how much households spend on their daily living. Of course, we make adjustments for how many people there are in a household. We make adjustments for price level changes, both over time and between countries. That’s what economists call purchasing power parity dollars.

And we get most of this data from publicly available consumer expenditure surveys, from household budget surveys. But then, what we do is we actually match that data with estimates that we get from national income accounts about total personal consumption in a country, because that allows us to account for the underreporting bias that you often get in surveys. If you ask somebody, “How much did you spend on something?,” they’re occasionally reluctant to tell you the full truth, or they may simply not really know exactly the answer to that question. So you do have to make some adjustments to these survey data.

And then, of course, you have some countries where you simply don’t have surveys. And there, again, we use statistical techniques to look for other countries where we do have the surveys and see what their characteristics are. It’s a technique called “twinning.” We even made some estimates for North Korea that we got partly by using night-light data from satellites. It’s a big statistical exercise that we update twice every year to keep incorporating new data as it becomes available.

Janet Bush: Well, it’s been very, very useful for MGI, I must say.

Let’s talk about the net-zero transition, climate change, and that. You write in your book that the global middle class’s vast appetite for consumption is responsible for much of the man-made impact on the planet and is therefore a danger of becoming the greatest threat to itself. Tell us more.

Homi Kharas: I think on carbon emissions, the issues have become patently clear. We all see what’s happening.

We all need to make sure that we link these natural disasters directly with our own fairly insatiable appetite for cheap goods and travel. What the middle class has done is asked the business world to supply it with huge amounts of goods at the lowest possible price and the ability to fly and go anywhere.

So, it’s really as the size of the middle class expands with this kind of structure in the economy, it is really putting pressure on the amount of carbon emissions that the planet can handle and contributing to global warming.

But that’s not the only issue. We don’t talk about this so much, but waste disposal is another absolutely massive problem that arises from middle-class consumption, especially of plastics, much of which we just throw away after a single use. We will probably have more plastic in the oceans than fish by 2050.

It’s really quite disappointing and deeply dangerous that we’ve got an economic system that spoils nature in this way. But I don’t want to say that this is inevitable, an inevitable part of having a middle-class society. I want to emphasize that this is a choice that we’ve made. And it’s a choice for which we’re paying a terrible price.

But there are other choices if we just simply change our behavior a little bit. Imagine if you were to just eliminate lamb and beef from people’s diets. We could return an area the size of North America to nature. Just think of what that would do to restore biodiversity and natural carbon sinks.

And there are so many other ways that we can use technology, especially when supported by government regulation, to reduce the massive amount of waste in our current system. But we just have to stop thinking of nature as providing services for free and recognize that nature itself has some limits. There are some boundaries, and we can’t surpass them.

Janet Bush: The scale of the problem is, though, huge. I think that you say that to get to net zero, the middle class has to cut its greenhouse gas consumption by about 60 percent in ten years. Is there any chance that that will happen? And how?

Homi Kharas: Oh, I think there is. It’s a tall order. And let me say I’m not talking about getting to net zero in ten years. I’m talking about getting us on a path which will allow us to get to net zero fast enough so that we maintain temperature increases between 1.5° and 2.0° centigrade above preindustrial levels.

We know that reducing greenhouse gas emissions is possible. We already see huge differences across countries in the magnitude of their emissions, which is largely because of government policies and choices.

The process, I think, is actually quite simple. It starts with converting all our electricity generation to renewables, phasing out coal and other fossil fuels. Then, once we are used to getting power from electricity, we have to use it everywhere on the demand side. That means no more gas-powered cars, no more hot water heaters or stoves that run on natural gas.

Making investments in this transition is already starting to happen in advanced economies. The International Energy Association estimates that we will probably spend $1.7 trillion of investment this year alone in that kind of investment. So the process is starting in some places, but it’s still much too slow.

A harder part is perhaps step three, which is changing our habits. We actually have to change our habits. No more beef and mutton. No more short-haul flights. Maybe fewer long-haul flights. The middle class has to become more sustainable in what it chooses to consume, in how it moves around, in how it controls the temperature in the buildings where we live and work.

And it will only do this if it is given incentives to do it and if it thinks that everybody else is also contributing. And that’s why we need governments, government regulations, government taxes and subsidies to start to move the needle.

Janet Bush: Yes, you talk about “avoid, shift, and improve.” So, avoid medium- and long-haul flights or driving the car so often. Shift to public transport. Reduce meat consumption. [Buy] local produce. And improve energy efficiency. And you advocate policy action for all those. Tell us a bit more about that and what kind of policies should be coming.

Homi Kharas: Well, there’s a mixture, I think, of tax and subsidy policies. Here in the United States, for example, with what’s called the Inflation Reduction Act, there are now substantial subsidies for homeowners to install solar power in some places.

There are regulatory policies in the European Union. I believe the plan is to ban sales of new cars with fossil fuel, with gas, basically with internal combustion engines, by 2035. If you remember, several years ago, pretty much around the world, governments banned incandescent light bulbs, and there’s been a dramatic revolution in the way in which everybody has switched over to much more efficient light bulbs. So, regulation is hugely powerful.

But I also want to emphasize that governments have to invest. The biggest obstacle to renewable energy in the United States right now is the waiting time to get a connection to the grid. Governments, which are largely in charge of the transmission lines, haven’t been investing enough in upgrading their electricity grids. So, we need them to do that.

If you want people to take public transport, you have to build metro systems. Metro systems, for example, are unlikely to be purely private operated. They’re almost always done in some kind of a partnership with the government.

And finally, there’s no question that we’re going to need a lot more new technologies. Historically, governments have always had a role to play in supporting research and development. And so I hope that they will continue to do that as well.

Janet Bush: Countries in different parts of the world are in very different positions. We have new research on Asia and the cusp of a new era, which talks about how challenging the energy transition will be because Asia is still industrializing, and industry is such a heavy weight in those economies, and it’s so difficult to decarbonize.

So I suppose the broad question is, can we meet the aspirations of populations that may not all have gotten to the middle classes or be as prosperous as, say, in the West? Can we meet their aspirations and, at the same time, get to net zero?

Homi Kharas: I think we absolutely can. The biggest obstacle, actually, in many of these countries is the cost of finance.

The economics of moving towards sustainable power production have really changed in the last few years to favor solar, offshore wind, even onshore wind. And actually, the price of electricity, the price of power that is generated with these new technologies, can actually come down quite considerably. And that would be a tremendous boost to the small and medium businesses in all of these economies.

We’ve shifted the economic thinking from one where sustainability is something that will only be achieved at a cost to society to a narrative that says actually, sustainability offers one of the great new opportunities for accelerating growth across the economy, if we can only get it right. And the way to get it right is to make sure that there is affordable, long-term capital that’s available.

The bottleneck is that because the up-front costs of putting in place some of these new technologies tend to be higher than the up-front capital cost of constructing a new fossil fuel–powered electric power generation, countries that are short of capital tend to go for the fossil fuel power. And that’s what we need to avoid.

Janet Bush: I just want to change tack a little bit and talk about the middle class, and jobs, and AI, and automation. You say that, in some advanced economies, two ladders that the middle classes have climbed have been pushed aside: the advancement of individuals in their own lifetimes and the advancement of their children. Is that about technological change, or is it about more than that?

Homi Kharas: It is about technological change. It’s about the fact that technological change has to happen on such a huge scale. The structure of the economy needs to change in such dramatic ways that everybody will be affected. And that does pose very difficult issues of transition.

If you’re a coal miner and there’s no more demand for coal, what do you do? It’s not a simple issue. You might be forced to uproot yourself and your family and move somewhere else. There are very few alternative job opportunities in some of these areas.

If the wave of the future is for electric vehicles, and electric vehicle production shifts away from Detroit, what are autoworkers going to do? The biggest electric vehicle manufacturers today are in China and even places like Vietnam. What’s going to happen to all of the autoworkers in Europe?

So, many of these things which have historically been what I would call good middle-class jobs are being disrupted and might shift. And that will pose big transition issues for people, especially for people whose alternative options are limited because they have, relatively speaking, lower levels of education and fewer skills than others in the economy.

That same kind of worry and concern about “Where are the good new jobs of the future?” is something that affects young people. It used to be that college education was seen as an absolute fail-safe ticket to the middle class. You could go to college, you choose your major, and then you move into a middle-class job.

Now it’s much more uncertain, because you just don’t know exactly what this new economic structure is going to look like and what skills are going to be most in demand in the future. We talk about so-called STEM skills, but even that is quite vague. And now, there are threats to STEM skills from the new technologies like AI.

Janet Bush: We hear so much about AI, and what it can do, and how it can do all the thinking tasks that we thought were our middle-class tasks. If AI takes over swaths of those kind of roles, what is left?

Homi Kharas: Well, I think that there’s a good news and a bad news story. The good news is that if AI really does take over all of these jobs, what it means is that productivity will go through the roof. So we’ll all become much, much richer if the benefits from AI are appropriately shared within society.

We will then have achieved what Keynes actually forecast many years ago when, in 1930, he wrote, “In a hundred years, we will have, quote-unquote, ‘solved the economic problem of our generation.’ People won’t need to work in order to live.”

So, if AI really does take all of these jobs, we will get a huge amount of time freed up, and we have to discover meaning in life by using that time in new ways. It could be creative ways. And some of us, unfortunately not myself, but some of us do have real, artistic, creativity parts to their personalities. It could be by volunteering. It could be by doing a host of things that ultimately help us to build our social connections, build our local communities in ways that, right now, we just really don’t have time for but actually are ways that science tells us is the surest route to happiness.

I think that we shouldn’t be too scared about the opportunities that are offered by AI. But it does depend on two things. It depends on the benefits being broadly shared. And it depends on us being able to understand that there is meaning to life even outside of work.

Janet Bush: Yes, it’s a strange one, isn’t it, because we’re so used to working that sometimes, even people facing retirement think, “What am I going to do with myself?” And it’s a failure of imagination. But that’s interesting, that instead of looking at AI as a sort of awful, black cloud, it could be the sunny uplands in terms of our quality of life.

Homi Kharas: I’m certainly not looking forward to retiring, and I’m quite happy that I have spent the majority of my life having decent work. But I have to admit that these days, when I embark on a new project, I do start by asking ChatGPT what it has to say about the topic that I am thinking about, and the basic yardstick for myself is, “Is there something that I can say or do that is better than what ChatGPT is already doing?”

Janet Bush: I love that. So ChatGPT is now our competition and our incentive to do better.

Homi Kharas: Exactly.

Janet Bush: You mentioned the words “existential challenge” earlier in our chat. And if you take climate change and if you take this big work transition that we’ve talked about together, that is an existential challenge. And you say in your book, and I’m going to quote this, “[t]he challenges to maintaining a big-tent middle-class are greater than they have been since the early days of the nineteenth century when the middle class was just starting to achieve political power.” So, my question is, how does the middle class respond?

Homi Kharas: I think the biggest issue is that the middle class needs to embrace change. And that’s not something that comes naturally to the middle class. Historically, the middle class has always tried to avoid change and to reduce levels of uncertainty.

But we do need a new narrative. I think the middle class has to be confident that jobs are not finite, that there always will be work with meaning or at least an ability to occupy one’s time with meaning. The care economy is an example of a huge new area where the threat from AI is really quite small.

It doesn’t look like a good middle-class occupation right now because it’s an area that isn’t properly monetized. But one of the things that we need to do is to start to make sure that the prices that we have in our capitalist economy actually reflect scarcity in a proper way, and then we can find the most efficient ways of moving forward.

So, very bluntly, it’s the middle class that has to invent a sustainable economy. We do not right now have a sustainable economy anywhere in the world. And it’s up to the middle class to try to invent that.

Janet Bush: It’s a big responsibility.

So, let’s just finish on a couple of very quick questions just to sort of round off our chat. What makes you most pessimistic?

Homi Kharas: I would say that right now, I worry that our politics in many countries seem to be influenced by elites that still favor fossil fuels, that are still wasting huge amounts of material resources, that still feel that they have the right to destroy nature, and they are slowing and blocking the kinds of rapid government interventions that we need.

Janet Bush: And what would make you more optimistic?

Homi Kharas: I think we now have billions-strong coalitions for change. These coalitions are being spearheaded by the middle class, and they’re springing up all over the world. And young people in particular are leading this change, because they’re the ones who see the threat to their futures as being biggest.

Janet Bush: Can those billions forge links that are strong enough with each other to make it a true global effort?

Homi Kharas: I think because they share the same desires for living the good life, even if there are no formal links—meaning I don’t see an international middle-class society springing up, which actually did spring up at the end of the 19th century and the early 20th century to try to get a so-called international middle class going—I don’t see that as being necessarily the solution.

But if the middle class in every country pushes their governments in the same direction, and if, in certainly most of the large economies in the world, we now have a large and vibrant middle class, then all of the governments will be pushed to respond in similar ways. And we will get collective action not because governments are trying to act in a cooperative fashion but just because governments are responding to their own domestic political constituencies that are based in the middle class.

And so that’s the way in which change, I think, will happen. And I’m excited to see it starting to happen now in more and more countries.

Janet Bush: So, not power to the people but power to the middle-class people?

Homi Kharas: That’s where the power currently lies in our economy.

Janet Bush: Thank you so much, Homi. It’s been a fascinating talk, and I really enjoyed reading your book, so I recommend it to our listeners.

Homi Kharas: Thank you so much, Janet. It’s been a pleasure.

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