Sara Murawski is policy advisor Europe, Finance and International Trade Treaties at the Dutch Socialist Party.
There is much talk about inequality these days. It is a hot topic in both the academic world and the world of policy. International organizations like UNRISD, Oxfam and ILO persistently point to inequality as one of the world’s main challenges for the 21st century, while the IMF, World Bank and OECD, which have not addressed inequality explicitly for a long time, have recently also focused attention on the problem. And the mainstream media is doing its part: in mid October, The Economist launched a special report on inequality, claiming that it is one of the biggest social, economic and political challenges of our time. Bestsellers like Wilkinson and Pickett’s The Spirit Level and Joseph Stiglitz’s The Price of Inequality address its impact on societies, arguing that the concentration of wealth in the developed world is increasingly moving to the top at the expense of the other ‘99%’. Reducing inequality was an essential theme in the political campaigns of progressive world leaders like Obama, Rousseff and Hollande. The governments of emerging economies are increasingly under pressure to get to grips with current inequality trends: the Indian government still has a lot to live up to in terms of inclusive growth, while the government of China is searching for an adequate strategy to cope with increasing social unrest, caused by growing income disparities. Last year, inequality was one of the main topics at the World Economic Forum in Davos. With the deadline for the Millennium Development Goals approaching, one strand in the discussion on future global policies urges that the focus of the post-2015 agenda should be on inequality.
Income inequality by geographic region. Source: The Conference Board of Canada, based on World Bank, World Development Indicators.
Inequality, poverty and growth
Inequality may be the talk of the day, but that begs the question whether everyone is talking about the same thing: what kind of inequality and between whom? First of all, it is important to note that inequality is not the same as poverty. While inequality is rising across the world, global GDP has been increasing for over a century (especially since the Second World War) and global poverty has been declining for several decades. Meanwhile, the world’s poorest people no longer live in the poorest countries but in middle-income countries: MICs now account for three-quarters of the world’s ‘bottom billion’. How then does inequality differ from poverty and how are they related?
Poverty refers to deprivation of the most basic human needs. In economic terms, it affects only the world’s poorest people, those living on a maximum of $1,25 a day. This is also known as extreme poverty. The moderate poverty standard is set at $2 a day. Inequality on the other hand expresses a specified disparity between people. Policy targets can aim to reduce poverty or inequality, or both. However, the recent surge of interest in inequality underlines that the problems of poverty and inequality should not be addressed in isolation from each other.
In the past two decades, the number of people living in poverty has decreased from 1.67 to 1.33 billion, mainly due to the dramatic decrease in China. Nevertheless, over 40% of the world’s population continues to live very close to extreme poverty lines, surviving on a maximum of $2 a day. Given the fact that inequality is currently rising in most countries, the question arises how this affects the poor. High inequality rates have a negative impact on poverty for two reasons: they systematically hinder the poor from benefiting from growth, and they hamper economic growth itself, blocking poverty reduction through growth. In his Global Poverty and the New Bottom Billion, Andy Sumner addresses the question why economic growth has led to MICs with high poverty levels and little societal change. In brief he argues that, without economic, social and political transformations, poverty is likely to persist in countries that experience economic growth. In general, sustainable growth (growth over the long horizon) which reduces poverty remains much of a challenge.
The link between poverty and inequality becomes all the more clear if we consider other indicators like nutrition, labour market participation, years of education, social security, free time and sanitation. These indicators are related to values that are relevant in the context of fighting both poverty and inequality: equal opportunities, equity, justice, fairness and wellbeing. However, unless stated otherwise, this article will mainly focus on inequality, and more specifically, income inequality (primarily caused by unequal distribution of wages and assets) within countries or regions.
There are several ways to measure inequality. Generally, three main methods can be distinguished:
Within- or intra-country inequality, which addresses income inequalities within a country;
Between-, cross- or inter-country inequality (also referred to as international inequality), which compares income differences between countries…
Over the last 40 years, average global income per person has doubled. At the same time, however, the rich are getting richer and the income gap between rich and poor is widening: the world’s richest 1% owns 40 % of global wealth, while the bottom half owns merely 1%. Based on the inequality rates for 108 countries, the Conference Board of Canada has calculated that 71% of the world population lives in countries where income inequality increased between the mid 1990s and the mid-to-late 2000s. Another 21% of people live in countries where inequality has been declining, and 7% in countries where it has remained stable. These inequality levels are calculated using the Gini coefficient, the most common inequality indicator, which expresses how unequal a society is by aggregating income gaps into a single indicator, ranging from 0 to 1 (or 100). A score of 0 means that everyone has identical incomes, while 1 (or 100) signifies that all income goes to one person.
Increase and decrease in income inequality across the world Source: The Conference Board of Canada, based on World Bank, World Development Indicators.
High inequality is traditionally a trademark of underdeveloped countries. Not surprisingly, the most unequal countries, like Colombia, Rwanda and South Africa, are mainly located in southern Africa and Latin America. But several emerging economies, including China, Russia and Turkey, also rank relatively high on the world’s inequality scale. India contains by far the largest share of the world’s poor, and its inequality rate is increasing significantly. Advanced economies are generally less unequal, although recent trends point to increasing inequality rates in these countries as well. In the UK and the US, for example, inequality has risen significantly in recent decades, while in traditionally more egalitarian countries like Sweden, Finland and New Zealand it has also been increasing. In most Eastern European countries inequality rates have made big leaps since the 1990s. Latin America is the exception to the global trend of rising inequality; although many Latin American countries have high inequality rates, the Gini coefficient for countries like Brazil, Mexico and Argentina has been falling since the 1990s. By contrast, inequality has increased in all of the other G20 countries (except for Korea), as well as in 17 of the 22 OECD countries for which long-term data series are available.
Since the 1950s, there has been a data revolution, resulting in a significant stock of information on incomes based on comparative tax data and household surveys. These data have enabled researchers to provide more precise statistics on global poverty and inequality. However, Atkinson and Brandolini (2009) are critical of the way in which researchers have dealt with the data. They argue that the Gini coefficient is generally indeterminate, and call instead for an investigation into the development of key variables that determine inequality…
Read moreInequality in Africa, Latin America, India and China
In Africa, differences in inequality rates are striking. The north and northeast of the continent are the most equal, whereas the south and southwest harbour the most unequal and poorest countries in the world. The number of poor people in Sub-Saharan Africa has significantly increased in the last 30 years. The relative poverty rate, indicating income inequalities within a region, has fallen slightly (from 51% in 1981 to 47% in 2008). Compared to other regions in the world, however, this decline remains very small. But there is also good news: a range of countries, including Burkina Faso, the Central African Republic, Ethiopia, Guinea-Bissau, Kenya, Lesotho, Senegal, Sierra Leone, Swaziland and Zambia, reduced their inequality rates between 1990 and 2005 by at least five Gini points. This reduction is especially significant in the case of Ethiopia, which accounts for 8% of Africa’s population. At the same time, Africa’s major giant Nigeria, home to more than 15% of the African people, has a Gini coefficient of around 50, and a poverty rate of approximately 60%, while ‘emerging’ South Africa has shown no improvements in tackling its extremely high inequality rate in the last ten years.
During the last two decades of the 20th century, inequality was on the rise in Latin America. But after peaking in 2000, it began to drop. In the period between 2006 and 2011, income disparities were significantly reduced. These developments, occurring in a decade of overall leftist governments, are mainly due to economic growth, the success of social programmes and overall better monetary, spending and tax policies. According to UNCTAD, in 15 of 18 countries for which relevant data are available, inequality is falling after reaching a historical peak in 2000, marking the end of two decades of debt crises and neoliberal economic reforms. Overall, the decrease in inequality is remarkable, and not easy to understand: inequality has fallen in both countries with strong leftist (Venezuela and Argentina) and more moderate governments (for example Chile and Colombia); in fast growing (Chile and Peru) and relatively slow growing economies (Brazil and Mexico), and in export countries (Peru) and countries that rely more on manufacturing (Mexico). A recent study by the Society for the Study of Economic Inequality (ECINEQ) identifies two main factors that have played a role in reducing inequality in the past decade in Argentina, Brazil, Mexico and Peru: a fall in the premium to skills and more progressive government transfers.
Do it yourself: Gini index variations over time by country, population, income grouping, geography and other indicators. Source: The Conference Board of Canada, based on World Bank, World Development Indicators.
As for China and India, the situation is different. Both countries had relatively low inequality levels before adopting radical economic reforms in the late 1970s and early 1990s, respectively. Both have experienced significant reductions in poverty since the 1980s, although this applies much more strongly to China than to India. Most of the decline occurred in the urban areas, and again, more significantly in China than in India. In general, high initial inequalities between rural and urban regions encourage migration from the land to towns, exacerbating inequality. In China, however, the increased output of the agricultural sector was at the same time the main driving force of poverty reduction. Overall, China has been performing well in applying a pro-poor growth strategy. There are two reasons for this: the initial conditions in China in the pre-reform era left the country with relative low levels of inequality in access to productive inputs (most importantly farmland), which enabled the poor to profit from the benefits of economic growth; and the subsequent economic policy reforms were relatively successful in improving the situation of the poor. However, taking China’s rising inequality levels into account, it is clear that the country still has a lot of work to do when it comes to social policies, such as conditional cash transfers to promote children’s health and education. In this case, it is clear that poverty reduction does not necessarily imply a decrease in inequality, unless it is accompanied by specific equalizing and redistributive policies.
In India, inequality appears at first glance to have increased far less in the past two decades than in China, rising from 0.31 to 0.33 between 1990 and 2005, compared to China’s increase from 0.29 to 0.42. The World Bank’s poverty expert Martin Ravallion warns, however, that these numbers may be misleading: for India, the Gini coefficient is based on consumption rather than income, which is probably much higher. Generally, India has performed poorly in poverty reduction. In contrast to China, India’s performance in reducing poverty has its roots in the success of the services sector. A likely cause of this is that access to agricultural land was much less equally distributed in India than in China. In general, India’s economic growth has not trickled down to large parts of the poor: the country’s strong geographical and sectoral imbalances have resulted in high inequality rates, reflected in both income and consumption divergences between the urban and the rural population. Comparing the performances of different states shows that initial strong inequalities in human development (particularly in the fields of education, health and gender) have hampered the positive effects of growth on poverty reduction. However, recent evidence has suggested that urban economic growth has also helped to reduce poverty rates in rural areas.
Economic growth and the growing middle classes
To understand inequality patterns more thoroughly, we need to consider the role of the middle class. As economic growth in developing countries and emerging economies increases, the middle classes are also growing. The growth of the middle and upper class causes a rise in a country’s mean income. And as LICs turn into MICs, they take the ‘bottom billion’ with them. However, this does not necessarily imply that the total number of poor is decreasing (in Africa for example, the number of poor has increased despite the growth of the middle class). Three-quarters of the world’s poor now live in middle-income countries, mainly due to the fact that India, Pakistan, Indonesia and Nigeria have recently become MICs. Meanwhile, inequality in most of these countries (India, Indonesia and Nigeria), as well as in MIC ‘giant’ China, is increasing. The question is how should we understand these developments?
These portraits are part of the project ‘The other Africa’ created by Philippe Sibelly. Click on the photo’s to learn more about the people in the photo’s.
First, we need to determine what part of the population we mean when we speak of the middle class. There are many ways to define the middle class (see box: Defining the middle class), but here we take the economic view, so as to assess the growth of the middle classes in relation to economic growth. Broadly speaking, it makes sense to distinguish between two kinds of middle classes: the world or global middle class, and the middle class in the developing world. The former defines the middle class according to developed world standards, whereas the latter is determined by the income standards of the developing world, which are much lower. In the developing world, only one tenth of the population belongs to the global middle class, whereas the middle class accounts for approximately half of the population of developing countries. Both classes are expected to continue to grow in the coming decades. However, Martin Ravallion emphasizes that a large proportion of the developing world’s middle class remains close to poverty levels, barely escaping the $2 line, which indicates median poverty.
From an economic perspective, the middle classes can be defined in two ways: in absolute terms, referring to a specific income level which is equal for all countries, or in relative terms, which equate the middle class with the middle-income segment of a specific country. A common standard of the latter approach is former World Bank research economist William Easterly’s quintile division, which defines the middle class as the three quintiles between the poorest and the richest 20%. A disadvantage of this approach is that middle class income and consumption data differ per country, indicating a very broad scope of what might be termed middle class…
So how to understand the growth of middle classes in relation to economic growth and the level of inequality? Economic growth and the accompanying growth of the middle class do not necessarily imply a decrease in inequality. An increase of inequality is often explained by the Kuznets curve, which describes a pattern of first rising and then falling inequality in a society. In this model, there is an initial increase in inequality in a country as industrialization sets in (implying an increasing rural-urban gap) and a subsequent decline when the trickle-down effect starts having an impact on society and the welfare state gets into shape. However, whether the trickle-down effect can live up to its promise of more prosperity for all, and whether we see the Kuznets hypothesis confirmed in reality, remains a matter of debate: the model is contradicted by empirical evidence and fails to explain the current increase in inequality in advanced economies like the USA.
In some countries, economic growth and the growth of the middle class have gone hand in hand with a reduction in inequality. Oxfam states that the decrease in inequality in Brazil, Argentina and Mexico is due to the rise of the income share of the middle class, at the expense of the richest 10%. But economic growth, and the subsequent transformation from LIC to MIC, does not automatically mean that the poor will benefit from it. On the contrary: the exclusion of specific groups from economic growth can make them even worse off. The question is whether governments will succeed in equalizing their societies while their economies keep expanding. Sumner argues that in the coming decades, a substantive share of the world’s MICs (largely concentrated in parts of Latin America and East Asia) will follow more equitable growth paths and experience a low poverty gap as a percentage of GDP as average incomes will continue to rise. It is in mainly these countries that the future’s poor will live. This means that poverty will increasingly become a matter of national inequality.
What we can learn from the past, or: future paths for inequality
Summing up: although the world’s poverty levels are diminishing, inequality rates remain high and are rising globally. Meanwhile, we are witnessing a growing middle class on a global scale with the ‘bottom billion’ shifting from the LICs to the MICs. In the BRIC countries (Brazil, Russia, India and China), the middle classes are growing at a fast pace and becoming a big fish in the eyes of hungry businesses always on the lookout for new outlets. However, as the numbers show, a large proportion of these ‘middle classes’ still linger close to the poverty line, and the sustainability of their ‘upgraded’ status is everything but certain. Simultaneously, the economic growth that enables the middle class to expand often leads to higher inequality rates, with myriad negative consequences for society. However, there are signs that public opinion is starting to understand that inequality is not necessarily an inevitable effect of economic development. At the same time, the consequences of inequality for societies are becoming increasingly tangible, all over the world. These facts combined will bring inequality on the forefront inevitably.
Stephan Klasen, Professor of Development Economics at the University of Göttingen, Germany.
Shobha Raghuram, independent researcher who has specialised in development studies and philosophy.
David Sogge, independent researcher based in Amsterdam, the Netherlands, where he is board secretary of the Transnational Institute, a worldwide fellowship of scholar activists.
Arjan de Haan, Program Leader, for ‘Inclusive Growth’ at the International Development Research Centre, Canada.
Wil Hout, Institute of Social Studies (ISS), The Hague, the Netherlands.
About the author
Sara Murawski is policy advisor Europe, Finance and International Trade Treaties at the Dutch Socialist Party.