International trade, especially trade between advanced countries and poorer developing countries, has brought immense benefits to all participating countries.
But the question is: are all of our citizens benefiting from this trade?  Or are the richer, higher skilled members of society coming out on top?  Let’s try to scratch the surface of this important question.




Trends in income equality



According to the OECD, the gap between rich and poor has grown in more than three-quarters of OECD countries over the past two decades.  Economic growth of recent decades has benefitted the rich more than the poor.  And in some countries, such as Canada, Finland, Germany, Italy, Norway and the United States, the gap also increased between the rich and the middle-class.



Wages have been improving for those people who were already well paid.  And employment rates have been dropping among less-educated people.  In addition, countries with a wide distribution of income tend to have more widespread income poverty. Also, social mobility is lower in countries with high inequality, such as Italy, the United Kingdom and the United States, and higher in the Nordic countries where income is distributed more evenly.



The US is the country with the highest income inequality level and poverty rate out of the OECD member countries, except for Mexico and Turkey.  And since 2000, income inequality has increased rapidly.  And wealth is distributed much more unequally than income.  The top 1% control about one-third of total net worth, and the top 10% hold 70%.  Redistribution of income by government plays a relatively minor role in the US because of low spending on social benefits.  And social mobility is lower than in countries like Denmark, Sweden and Australia.



Income inequality and poverty have declined in Japan over the past five years.  But Japan’s income from work and income are still 30% more unequal than in the mid-1980s, and its level of poverty is the 4th highest in the OECD area.



Similar trends are also evident among the developing countries of Asia.  Although economic growth and poverty reduction has been impressive, the gap between rich and poor has been growing dramatically.  It is not however a case of the rich getting richer and poor getting poorer.  Everyone is doing better and rich are doing even better.  The inequality is also evident across regions (coastal versus inland) and sectors (agriculture versus manufacturing).



According to the Asian Development Bank, the following countries seen increased inequality – Nepal, China, Cambodia, Sri Lanka, Bangladesh, Lao, India, Korea, Taiwan, Viet nam, Turkmenistan, Azebaijan, Tajikstan, Philippines, Pakistan.  (Positive trends are witnessed in Thailand, Armenia, Kazakhstan, Malaysia, Mongolia and Indonesia.)  This inequality is not just in terms of income or expenditure, but also for health status, and distribution of land.



What are the causes of growing inequality?



Growing inequality is a case of the rich getting richer and the poor not doing so well.  But below that, it is mainly a case of higher skilled workers doing much better than lower skilled workers.  And much of the debate about the issue boils down to whether trade and other aspects of globalization (like investment and migration) are the main cause or whether technological progress is the cause.  As technology advances, there is less demand for lower skilled workers, while higher skilled workers are necessary to work with this technology.



Now what does international trade theory tell us?  According to the Stolper-Samuelson theory, as trade develops between a high-tech and high-skilled country like the US, and a lower-tech and lower-skilled country like China, the US should see the demand for its higher skilled workers increase relative to the demand for its lower skilled workers.  And in the case of China, it should be the reverse.  So, its not surprising that the higher, skilled workers should be doing better in the US, but it is surprising that higher skilled workers should be doing better in China and other countries.



Another factor is that many jobs or tasks, especially in the IT sector, are now exposed to international competition, whereas this was not previously the case.  These are jobs which are now outsourced to call centres and other operations in India and the Philippines.



The conclusion of most of the empirical research is that in the case of the US and other developed countries trade is one factor widening the gap between the rich and the poor, but that technological progress is the major factor.  This empirical research must, however, be carefully interpreted because international is also a vector for technology diffusion between countries.



Regarding the case of China and other developing countries, it seems clear that the effect of trade is overwhelmed by technological progress.  Again, most importantly, much of this technology is imported.  It also seems clear that in China and many other developing countries, government policies have favoured certain groups.



Does inequality matter?



Inequality is a problem in many ways.  First, it can polarize societies, dividing regions within countries, and carving up societies between rich and poor.  This can lead to social and political instability.  Witness recent instability in China and Thailand.  Second, to the extent that inequality is associated with greater poverty, it can lead to human suffering.  Third, inequality reduces social mobility is generally higher, condemning too many children of poor parents to a future of poverty.  Third, many populations blame globalization for inequality.  This can lead to protectionist pressures.



What to do?



Governments could grant more on social benefits and reduce taxes for the poor to redistribute incomes and curb poverty, and thereby offset the trend towards more inequality.  Education policies should aim to equip people with the skills they need in today’s labour market.  Better education is also a powerful way to achieve growth which benefits all, not just the elites.  Unemployment is also a cause of inequality, so increasing employment is an effective solution.





References:

OECD, Growing Unequal? Income Distribution and Poverty in OECD Countries

http://www.oecd.org/document/53/0,3343,en_2649_33933_41460917_1_1_1_37419,00.html

Inequality in Asia.  Key Indicators 2007 Special Chapter.  Asian Development Bank.

http://www.adb.org/Documents/books/key_indicators/2007/pdf/Inequality-in-Asia-Highlights.pdf