Atanu Dey On India's Development

The False Bottom of the Pyramid

Apparently, to be a successful “public intellectual” one of the requirements is that one must invent a catchy tag line. The tag line must have emotional appeal through a reference to some deeply held belief or social conditioning. An example of one such is the title of the book by Thomas Friedman “The World is Flat” which attempts to upset your view of the world that it is round. Another example is “the fortune at the bottom of the pyramid” which the obvious connection to the phrase “the pot of gold at the end of the rainbow.”

C. K. Prahalad is one of the most influential management gurus in the contemporary world and the co-author of the book “The Fortune at the Bottom of the Pyramid” (2004). He has a cult following of mythic proportions among certain segments of the managerial class. I have to confess that I have not been too persuaded by the arguments of that book because I have difficulty squaring the “BOP” proposition with my understanding of basic economics. So it was a pleasant surprise when I read Aneel Karnani’s (Ross Business School at the University of Michigan) working paper of July 2006 “Fortune at the Bottom of the Pyramid: A Mirage” (free download) [Hat tip: Raja Sekhar Malapati.]

Karnani’s paper argues against the BOP proposition. He summaries the BOP proposition as: there are profits to be made by selling to the billions of the world’s poor, and by doing so, bring prosperity to them, thus alleviating poverty, and that multinational corporations (MNCs) should sell to the poor to do good while doing well for themselves.

First there is the disagreement regarding the actual size of the BOP market. The BOP camp estimates that the potential market at PPP terms is US$13 trillion. Karnani estimates a more modest US 1.2 trillion at PPP, and more like US$ 0.3 trillion at the financial exchange rate. That’s an order of magnitude difference there.

Furthermore, Karnani points out that the poor spend most of their income on food; the poor have little disposable income. Therefore, if their incomes don’t rise, they cannot afford to consume more than they actually do. If there are ways of making stuff more affordable to the poor, it is certainly not by selling stuff in smaller packages. Smaller packages in fact have a higher unit cost, not lower. Pretending that smaller packages increase affordability is similar to pretending that selling food in very small packets will solve the hunger and malnutrition problem of the poor. He concludes that the “single serving revolution is a dud.”

The paper takes Prahalad to task for giving examples which do not demonstrate that MNCs do, or even can, sell to the poor. The markets which the poor engage in don’t permit scale economies. Therefore the poor are better served by local small and medium enterprises, argues Karnani.

The poor, he says, are forced to make a different cost-quality tradeoff. They would rather have a more affordable but lower quality good than a higher quality good which is out of their reach. He says that the claim that MNCs can reduce their prices dramatically without sacrificing quality is unrealistic.

Rather brutally, Karnani declares that the “fallacy of the BOP proposition is exacerbated by its hubris”:

Prahalad (2004) states that all the examples used in his book challenge the current paradigm. Selling appliances on credit – as does Casas Bahia – is not even a nobel idea, let alone a new paradigm. But, Prahalad is not content with changing paradigms, and asks us to change “our genetic code”!

The Millennium Development Goals adopted by the UN member states targeted halving of extreme poverty in 25 years. Finding this pace too slow, Prahalad states “I have no doubt that the elimination of poverty and deprivation is possible by 2020.” But why be satisfied with only poverty eradication when so many other problems plague the world? Prahalad and Hammond (2002) argue that the BOP initiative will not only eradicate poverty, but also cure economic stagnation, deflation, governmental collapse, civil wars, and terrorism. And all this in 15 years!

While providing credit to the poor for purchasing high-priced items (Casas Bahia example) makes them worse off because of the burden of additional debt, Karnani agrees that microfinance is a good example of how the poor can be helped. But even there he is cautious and notes that most microfinance institutions are non-profit entities, and are not self-supported.

Karnani denies that the BOP claim that there is untapped purchasing power at the BOP. He says that the way to help is to raise the real income of the poor. The poor must be seen as producers, rather than as consumers. That is, buy from the poor instead of selling to them. He cites Amul and ITC e-Choupals as examples of more efficient markets–where the poor are the producers—that increase real incomes. And if you have to sell to the poor, then make available lower quality goods which can be priced lower so that the poor can have greater choice along the price-quality spectrum.

Is the BOP proposition a harmless illusion or a potentially dangerous delusion, he asks. He argues that the BOP initiative results in the poor spending money on products such as TVs and shampoo that would have been better spent on higher priority needs such as nutrition, education and health. “The problem is that the poor often make choices that are not in their own self interest.”

My position is that it is not only the poor but all people often make choices that are not in their interest. The only distinction is that the rich can afford to make poor choices, which the poor cannot. At least some of the stuff that I buy is not really useful, and often times is positively harmful. But I have much more than $2 a day, and can afford poor choices.

I agree with Karnani that you have to increase the real incomes of the poor by seeing them as producers. This I believe can be done by two ways. First, the “distribution” route: produce (possibly more) stuff, and give them a larger share. This lump-sum transfer will increase their real incomes. Second, the “production” method: help them produce more and also become more productive. The former is unlikely to appeal to the rich.

To do the latter, you have to make markets for the production of the poor more efficient so that they retain more of the value they produce. To make them capable of producing more, you have to educate them. There is where I believe the fortune at the bottom of the pyramid lies. Education has positive returns in today’s world. The return on investment in education is positive. That means, the cost of the education will be more than paid for by the subsequent increase in the real income. But the poor are credit-constrained. So the way to help the poor is to release that credit constraint through financing education. How to do that is a different kettle of fish which we will leave for a later date.

  • Aashish

    Atanu,
    Is it inevitable that rising productivity and increased production will lead to smaller shares of profit for the BOP? In such a situation do we also have to ensure the creation of markets and other market interventions to enable the BOP to get higher margins?
    To give an example, agriculture in the U.S.A is highly productive but relies heavily on subsidies for survival.

  • http://www.adityaathalye.com Aditya Athalye

    Aashish,

    I think if an activity relies on subsidy to survive, it cannot be called productive. Subsidy artificially lowers cost of american agricultural produce below that of global substitutes. It masks the real cost of production which is otherwise high, therefore uncompetitive and is indicative of an inefficient system of production.

  • http://the-redpill.blogspot.com Kiran Varanasi

    Hi Atanu

    A very timely article. When you raise the question about BOP being a harmless illusion or a dangerous delusion – I agree it is obviously the latter. It is always about the opportunity cost !

    Looking at the others’ comments, I believe it is time you posted your thoughts about “agricultural subsidies” – as you have promised me. :)

  • Guru Gulab Khatri

    I too was puzzled by small packaging of
    shampoos….
    I thought that a rich fella is more likely to purchase the small one time use packet when traveling….
    However a girl in a poor neighborhood is more
    likely to purchase one time use shampoo for a trip with her friends…
    rather than have a to buy a larger bottle for more frequent use.
    I do agree that ROI on education is high

    Also I will point 1 thing out to mr prahlad that terrorism isnt related with poverty.
    Percapita income is quite decent in saudi arabia and it is a major source of terrorism.
    The MR sheikh (a british of pakistani ancestory) who was involved in indian airlines hijack from nepal and later with
    daniel pearl issues WAS NEVER POOR.
    He was upper middle class MUSLIM.

  • http://valluvar.blogspot.com shiv

    “Roughly a fourth of the shampoo market is in rural India. But the rural market is the key driver for sachets, which make up 70 per cent of the total shampoo sales. HLL has higher stakes in the rural market with an 80 per cent share.”
    http://www.thehindubusinessline.com/2006/01/10/stories/2006011001210800.htm

    In light of this fact what is your opinion ? While it was CavinKare that broke into the sachet market (smaller but more expensive package per ml), it is HLL (the mnc, not a local SME) that is the volume leader. My own experience is that it is difficult to second guess ‘affordability’ of any demographic strata. People do strange things to acquire ‘stuff’ which they covet. Bottom line is to have a functional product and great distribution. The bottom of the pyramid will buy if the product is sexy enough and available in the corner store. It is truly a magical market as volumes go.

  • http://www.adityaathalye.com Aditya Athalye

    I look at poverty as a systemic imbalance. Never mind the fact that somebody picked one variable ($$$), drew a line and said, “Behold! These are the poor”. This premise is fallacious. There are far too many reasons to call someone poor.

    My view: A person is poor if he leads a life his environment does not support.

    Such a condition of poverty may arise out of many factors. Some factors, not in any particular order, are “Birth effect” (what local and global circumstance the person is born into), social dynamics, education, disease, and financial situation et. al.

    I think poverty can be removed by adopting a new lifestyle that works well with the existing environment OR by moving to an environment that supports the existing lifestyle.

    One can estimate / extrapolate a money number to represent the poverty condition. A $ value thus becomes an overall-variable representative of poverty. IMHO, the trouble with using a single overall-variable indicator is this. A solution to the poverty problem tends to tackle it at the level of this single variable only. The solution does not necessarily scale to address the more fundamental lifestyle or environmental issues at the root of poverty. In fact it may be counterproductive when it feeds into bad lifestyle traits.

    Education is an important tool to address the issue of poverty. Here it is to be noted that literacy is education’s most deceptive face. It is again akin to a single-variable measure of education. An educated person is, among other things, aware of the world around him, and is aware that there are ways and means to find solutions to problems s/he faces. Education suffers when literacy is thought of as a prerequisite.

    I think it is important to devise an education system that is sensitive to the individual’s context of life. The fundamental premise of such an education is that the learner looks at the teaching from his own unique perspective.

    Education that imparts Perspective is the key to addressing poverty in its various forms.

  • little Ram

    Atanu,

    I have for long been very sceptical of Prahalad’s BOP argument.

    Poverty anywhere, has the following underlying causes-

    1. Poor access to markets
    2. Poor access to education to develop marketable skills
    3. Inadequate healthcare sometimes leading to a regression to poverty through loss of the means for earning
    4. Inadequate risk management mechanisms (against failure of rainfall, pests, loss of livestock to disease, etc.)
    5. Restricted access to capital
    6. Unstable/ violent societies

    Societies and Governments everywhere have tried using measures like cooperatives, support pricing, microfinance, rural heath initiatives/ telemedicine, etc. Although I would agree that in the Indian context microfinance/ rural credit could be managed better, and education is sadly neglected. Mercifully, the last point has become less of an issue over time in India with still some way to go in UP/ Bihar/ NER.

    Quite simply to claim that turning the poor into a market for goods will magically transform them and the world around them is an argument that ignores all of the causes of poverty listed above.

  • Pingback: Atanu Dey on India’s Development » The False Bottom of the Pyramid — 2

  • http://www.fracturedearth.org mrajshekhar

    dear atanu,
    good post. had spoken to sivakumar of itc echoupal a long time back when he made some crucial distinctions about the concept of the BOP.
    there are, he said, those companies that boost rural incomes through traditional (agriculture, handicrafts) and non-traditional (BPO) means; those that sell productive investments to the poor (like Godrej Agrovet and its cattle feed); those that, while doing nothing to boost incomes directly, make the poor far more financially robust (weather insurance, health insurance schemes like Yeshasvini, the commodity exchanges); and, then, those that rejig their product and distribution mix to make the product more accessible for the poor (HLL’s Project Shakti). In this last category, while there might be some incremental job creation, the impact on the village economy (in terms of whether more monies flow in or out) is indeed still open to debate.
    one of the critical issues here is the impact that a company’s desire for growth has on the poor people it coopts into its model. a couple of years ago, i had travelled to parts of UP to study how the shakti model was working there (was writing a story for bw). what i found was predictably grim.
    In January 2004, Shakti was rolled out in Uttar Pradesh. In June, the targets were abruptly jacked up. RSPs had to get Shakti dealers to gross at least Rs 15,000 a month. But, says a former employee who launched Shakti in Uttar Pradesh: “The women in the state are not that empowered. They could not be expected to start going door to door within weeks of being selected.” They missed the target by miles. As sales through the women stayed low, panicking RSPs first began signing on more and more women to meet targets through the first stock purchase. as negative word of mouth spread, they took another way out, began bribing distributors, and getting them to show sales to retailers as sales to Shakti ammas. By the time one such RSP left, he had 60 ‘Shakti dealers’ working under him — 44 of them were shopkeepers.
    cheers

  • Sharad

    Dear Atanu,

    Following your link in subsequent post on this topic I read Pralhad’s reply. There it is mentioned that the rural Indian redit is estimated by ICICI to be 15,000 billion rupees of which only 40 billion is tapped by banks in India.

    The very high interest rates could be draining a good share of rural income to moneylenders. Reduction of money sourced from moneylenders could leave enough money both with banks and borrowers and could create additional income in turn.

    For someone who reads these nuggets, the impression one gets is that rural credit is a cakewalk and a market waiting to be tapped. (It is not clear why the market is opening up now instead of in previous decade if not earlier.) There is no analysis of crop and irrigation risks, need for high debts for customs such as expensive marriages (living far beyond income) etc. There may be greater need for insurance than that of credit.

    It will help if you can shed some light on this rural/micro-credit market which is currently in the limelight.

    Sharad

  • http://www.crazyfinger.org Crazyfinger

    Caution: Lengthy comment.

    Aditya: “I think poverty can be removed by adopting a new lifestyle that works well with the existing environment OR by moving to an environment that supports the existing lifestyle.”

    “I think it is important to devise an education system that is sensitive to the individual’s context of life. The fundamental premise of such an education is that the learner looks at the teaching from his own unique perspective.

    Aditya – I know the spirit with which you say this it may not look as good when in practice. In fact haven’t the civilizations and societies codified and adopted laws precisely in order to protect themselves from the runaway effects of such a society?

    It is tempting to think that this way is better as it is a painting of a communally harmonious way of living. But sociologically speaking, lifestyles, individual contexts, “own unique perspectives” are all so subjective. It would not only be a futile exercise – though well-intentioned – to direct our energies in this direction, but I think also dangerous in the long run. It will not be long before our own little world would start to look like – I am not trying to twist your words – a bunch of disconnected enclaves: a fundamentalist Mormon, a Naxalite, a Taliban, a consensus-based Sati, or even a … I can’t think of anything worse. All these little enclaves would have education uniquely suited to their context, their perspective, their environment, worldview suited to their lifestyles etc. Where do we end up as a society, if we evolve like this?

    Aditya’s and “little Ram”‘s comments on poverty resonate with my own – somewhat muddled – thinking on this matter.

    Though when comments going back and forth go too long I sort of throw up my hands, wanting to “go to the next step”, I’ll press on write them anyway. Some of you may have seen these words of mine elsewhere.

    If we look at poverty-line as a weighted vector, then not only we can preserve the existing “a single number” view of poverty (the norm of the vector), we can, additionally, start to track the direction of each weight and see how they fare from one population segment to another.

    Roughly cut, itemizing a few key factors that influence poverty status of an individual/community, shouldn’t be hard, right?:

    aa) income,
    bb) nourishment,
    cc) health care,
    dd) living long,
    ee) education
    ff) competitive economic activity
    gg) access to justice/law
    hh) and few others that are not on this list.

    It seems to me that a comprehensive measure of poverty would work out to be some sort of a weighted average of each of the above factors.

    So a person’s poverty-rating = weighted vector of (income, nourishment, access to health care, living long, education, access to justice/law, etc.)

    Of these, the item (ff), the competitive economic activity is of special interest.

    At a simplistic level, you all know that for free-market proponents (I am one of those), the key lies in the competitive economic activity.

    The argument that I find myself making all the time is: this competitive economic activity factor alone is a primary force that eventually lifts the quality of all the other factors. The more people are drawn into the fold of the competitive economic activity, the better off for everyone, i.e., (I am totally geeking out here):

    F(economic activity, competition) = betterment of overall poverty w.r.t. the above poverty-rating vector

    Problem is, most of our experience with free-enterprise economies of the developed countries is positive because our experience is largely in situations where all the other factors are abundantly already present. It is only because the federal/state governments do their job in helping to sustain the above factors that the economic activity, privatization etc., is so vibrant and helpful.

    Is it a stretch to say that when it comes to our India there is a big contrast?

    Anyone who says that we have to start with economic activity/competition – such as at the BOP – is leaving a big question mark in the minds of the naysayers: how is this competitive economic activity going to help the poverty-rating vector?

    The above functional relationship between competition and betterment of poverty-line, that is taken for granted and proven effective in the developed nations, is yet to be felt, yet to be realized in India.

    This is also an economic literacy problem, but more important, I think it’s a…how should I say? While our poor folk are at the bottom of the pyramid, the folks who are in the governance are like mummies in the pyramid (MIP), inured to everything.

    So, we have here a case that the barriers to empowering the BOP are the MIP, the Mummies in Pyramid.

    While thinking of poverty-line vs. economic growth, in one of those simplistic analogies, I think of an exercise where we measure each individual’s poverty rating w.r.t. a normalized axis of a scalar number 1.0.

    So a person’s poverty-rating = weighted average of (income, nourishment, access to health care, living long, education, access to justice/law, etc.) = equal to, or less than, or more than “1.0.”

    Now, most “economic growth” is akin to an amplification effect. That is, a person with a poverty-rating of less than 1.0 (”below poverty line”) will become more poorer (squaring a less-than-one quantity) and a person with a poverty-rating of more than 1.0 (”above poverty line”) gradually becomes more richer (squaring a more-than-one quantity.)

    It’s simple to interpret how the rest of analogy stretch goes: simply growing economic activity without improving the rest of the contributing factors is not going to help.

    This is where the MIPs are supposed to come to do their duty. People should not be required to, nor should they be expected to, be innovative just to meet their basic livelihood needs. The competitive economic activity germinates only after you and I stop worrying about procuring our next meal.

    That, I am afraid, won’t happen as long as we have MIPs.

    Regards,
    Crazyfinger

  • Pingback: DesiPundit » Archives » Mirage at the Bottom of the Pyramid

  • http://www.ada-paavi.blogspot.com vatsan

    antanu, the BOP model isnt a one way model, with producers looking to just sell goods, as Prahalad points out. Its important that companies should also look at the poor (most notably farmers) as producers, like you have mentioned, and buy products from them. If the agricultural goods are purchased directly from the farmers, giving them more disposable income, then it makes sense to sell goods to them. But, the catch is that india i think (am not sure) needs modernisation of agriculture and more importantly farmers need finance. If companies can provide the whole gamuth of services, right from technology, to finance and also buy produce, while selling goods, then there is money at the bottom pyramid.

  • Pingback: stillhaventfound.org » Occasional Links 11

  • Pingback: fractured.earth / can companies reduce poverty?

  • John

    There are two things will reduce the poverty

    1.Educating the farmer for quality production
    2.Farmers should be paid more for their production rather than small amount

  • Renuka

    Mr C.K Prahalad in his book Fortune at the
    BoP has not mentioned that making poor people will erase povery.The book is meant fot CEO’s of big companys be it MNCs or a local manufacturing unit . It is to inspire them to seek a marketing strategy which will benifit both those who are the part of BoP and the companies.As the title suggests
    eradicting povert through PROFIT ,so it depends on the companies and thier startegy how well do they tap this market.

  • Pingback: BOP and Opportunity « World is Green

  • Pingback: can companies reduce poverty | fractured earth