Per Capita Income Explained: Uses, Limitations & Real-world Examples

What Is Per Capita Income?

Per capita income measures the average income per person in a given area and is determined by dividing the country's national income by its population. It's a metric used to assess standard of living and the quality of life of the population. It is limited by its inability to account for inflation, income disparity, poverty, wealth, or savings.

Analyzing the Components of Per Capita Income

Per capita income counts every individual adult and child, even newborn babies, as a member of the population. This stands in contrast to other common measurements of an area's prosperity, such as household income, which counts all people residing under one roof as a household, and family income, which counts as a family those related by birth, marriage, or adoption who live under the same roof.

Examining Per Capita Income Trends in the U.S.

The United States Census Bureau takes a survey of income per capita every year. The Bureau takes the total income for the previous year for everyone 15 years old and older and calculates the mean average of the data.

The census includes earned income (including wages, salaries, and self-employment income), interest income, dividends, including income from estates and trusts, and government transfers (Social Security, public assistance, welfare, survivor, and disability benefits).

Not included are employer-paid healthcare, money borrowed, insurance payments, gifts, food stamps, public housing, capital gains, medical care, or tax refunds. 

According to Census Bureau data, the national per capita income for 2022 (latest information) was $41,804. The per capita income was lower than the median household income of $74,580.

Each metric has its advantages. Per capita income is helpful when analyzing a large number of people, such as the population of the United States, which stands at more than 330 million.

Median household income is helpful when determining the level of income disparity and poverty in a certain area as the median number eliminates outlier income figures that could skew the data set.

Practical Applications of Per Capita Income

The most common use of per capita income is to measure an area's wealth. For example, income per capita is one metric the U.S. Bureau of Economic Analysis (BEA) uses to rank the wealthiest counties in the United States, the other being median household income.

Per capita income is also useful in assessing an area's affordability. It can be used in conjunction with data on real estate prices, for instance, to help determine if average homes are out of reach for the average family. Notoriously expensive areas such as Manhattan and San Francisco maintain extremely high ratios of average home price to income per capita.

Businesses use per capita income to decide where to open stores. If a town's population has a high per capita income, the company might have a better chance at generating revenue from selling their goods since the people would have more spending money versus a town with a low per capita income.

Recognizing the Limitations of Per Capita Income

While popular, per capita income has limitations.

Livings Standards

Per capita income divides total income by the population, which may not show true living standards. This data can be skewed and may not account for true income inequality.

For example, let's say a town has a total population of 50 people who are earning $500,000 per year, and 1,000 people earning $25,000 per year. We calculate the per capita income as ($500,000 * 50) + ($25,000 * 1,000) to arrive at $50,000,000 in total income. When we divide $50,000,000 / 1,050 (total population), the per capita income is $47,619 for the town.

However, the per capita income doesn't give us a true picture of the living conditions for all of those living in the town. Imagine if federal aid or public assistance was provided to towns based on per capita income. The town, in our example, might not receive the necessary aid such as housing and food assistance if the income threshold for aid was $47,000 or less.

Inflation

Per capita income doesn't reflect inflation, the rate at which prices increase. For example, if the per capita income for a nation rose from $50,000 per year to $55,000 the next year, it would register as a 10% increase in annual income for the population.

However, if inflation for the same period was 4%, income would only be up by 6% in real terms. Inflation reduces purchasing power and limits income growth. As a result, per capita income can overstate income for a population.

International Comparisons

The cost of living differences can be inaccurate when making international comparisons since exchange rates are not included in the calculation. Critics suggest using purchasing power parity (PPP) to better adjust for exchange rate differences.

Also, other economies use bartering and other non-monetary activities, which are not considered in calculating per capita income.

Savings and Wealth

Per capita income ignores savings and wealth. For example, a wealthy person might have a low annual income from not working but might draw from savings to maintain a high-quality standard of living. The per capita metric would reflect the wealthy person as a low-income earner.

Children

Per capita income counts children who don't earn money. Countries with many children would have a skewed result since they would have more people dividing up the income versus countries with fewer children.

Economic Welfare

Per capita income doesn't always show people's welfare. For example, the quality of work conditions, the number of hours worked, education level, and health benefits are not included in per capita income calculations. The community's welfare may not be accurately shown.

It's important to consider that per capita income is only one metric and should be used in conjunction with other income measurements, such as the median income, income by region, and the percentage of residents living in poverty.

The Bottom Line

Per capita income is a key indicator of economic wellbeing, representing average earnings per person. It's used to assess a nation’s standard of living and overall health. At the same time, it has its limitations, such as its failure to account for inflation, income inequality, savings, and cost of living differences between regions. Thus it can paint an inaccurate picture of financial strength. It's important to use per capita income alongside other metrics like median income and poverty rates for a balanced and comprehensive analysis.