Estimating Vulnerability to Poverty using Panel Data: Evidence from Indonesia

Traditional poverty measures fail to indicate the degree of risk of becoming or remaining poor that
households are confronted to. They can therefore be misleading in the context of implementing
poverty reduction policies. In this paper I propose a method to estimate an index of ex ante
vulnerability to poverty, defined as the probability of being poor in the (near) future given current
observable characteristics, using panel data. This method relies on the estimation of the expected
mean and variance of future consumption conditional on current consumption and observable
characteristics. It generates a vulnerability index, or predicted probability of future poverty, which
performs well in predicting future poverty, including out of sample. About 80% of households with a
2000 vulnerability index of 100% are actually poor in 2007. This approach provides information on
the population groups that have a high probability of becoming or remaining poor in the future,
whether currently poor or not. It is therefore useful to complement traditional poverty measures such
as the poverty headcount, in particular for the design and planning of poverty reduction policies.