Globalization effects on reducing Poverty and Inequality. (PART 1)

Over the past 20 years or so India, China, and the rest of East Asia, experienced fast economic growth and falls in the poverty rate, Latin America stagnated, the former Soviet Union, Central and Eastern Europe, and sub-Saharan Africa regressed. But what are the net trends? The neoliberal argument says that world poverty and income inequality fell over the past two decades for the first time in more than a century and a half, thanks to the rising density of economic integration across national borders. The evidence therefore confirms that globalization in the context of the world economic regime in place since the end of Bretton Woods generates more "mutual benefit" than "conflicting interests."

Introduction

The neoliberal argument says that the distribution of income between all the world's people has become more equal over the past two decades and the number of people living in extreme poverty has fallen, for the first time in more than a century and a half. It says that these progressive trends are due in large part to the rising density of economic integration between countries, which has made for rising efficiency of resource use worldwide as countries and regions specialize in line with their comparative advantage. Hence the combination of the "dollar-Wall Street" economic regime in place since the breakdown of the Bretton Woods regime in the early 1970s, and the globalizing direction of change in the world economy since then, serves the great majority of the world's people well. The core solution for lagging regions, Africa above all, is freer domestic and international trade and more open financial markets, leading to deeper integration into the world economy.

Evidence from the current long wave of globalization thus confirms neoliberal economic theory––more open economies are more prosperous, economies that liberalize more experience a faster rate of progress, and people who resist further economic liberalization must be acting out of vested or "rent-seeking" interests. The world economy is an open system in the sense that country mobility up the income/wealth hierarchy is unconstrained by the structure. The hierarchy is in the process of being flattened, the North–South, core-periphery, rich country-poor country divide is being eroded away as globalization proceeds. The same evidence also validates the rationale of the World Trade Organization (WTO), the World Bank, the International Monetary Fund (IMF) and other multilateral economic organizations as agents for creating a global "level playing" field undistorted by state-imposed restrictions on markets. This line of argument is championed by the more powerful of the centers of "thinking for the world" that influence international policy making, including the intergovernmental organizations such as the World Bank, the IMF and the WTO, also the US and UK Treasuries, and opinion-shaping media such as The Financial Times and The Economist.

The standard Left assumption, in contrast, is that the rich and powerful countries and classes have little interest in greater equity. Consistent with this view, the "anti-globalization" (more accurately, "anti-neoliberal") argument asserts that world poverty and inequality have been rising, not falling, due to forces unleashed by the same globalization (for example, union leader Jay Mazur's quote above). The line of solution is some degree of tightening of public policy limits on the operation of market forces; though the "anti-neoliberal" camp embraces a much wider range of solutions than the liberal camp.

The debate tends to be conducted by each side as if its case was overwhelming, and only an intellectually deficient or dishonest person could see merit in other's case. For example, Martin Wolf of The Financial Times claims that the "anti-globalization" argument is "the big lie." If translated into public policy it would cause more poverty and inequality while pretending to do the opposite.

This paper questions the empirical basis of the neoliberal argument. In addition, it goes beyond the questions to suggest different conclusions about levels and trends, stated in terms not of certainties but stronger or weaker probabilities. Finally it explains why we should be concerned about probably-rising world inequality, and how we might think about the neglected subject of the political economy of statistics.

Globalization

I have raised doubts about the liberal argument's claim that (a) the number of people living in extreme poverty worldwide is currently about 1.2 billion, (b) it has fallen substantially since 1980, by about 200 million, and (c) that world income inequality has fallen over the same period, having risen for many decades before then. Let us consider the other end of the argument––that the allegedly positive trends in poverty and inequality have been driven by rising integration of poorer countries into the world economy, as seen in rising trade/GDP, foreign direct investment/GDP, and the like.

Clearly the proposition is not well supported at the world level if we agree that globalization has been rising while poverty and income inequality have not been falling. Indeed, it is striking that the pronounced convergence of economic policy toward "openness" worldwide over the past 20 years has gone with divergence of economic performance. But it might still be possible to argue that globalization explains differences between countries: that more open economies or ones that open faster have a better record than less open ones or ones than open more slowly.
This is what World Bank studies claim. The best known, Globalization, Growth and Poverty, distinguishes "newly globalizing" countries, also called "more globalized" countries, from "nonglobalizing" countries or "less globalized" countries. It measures globalizing by changes in the ratio of trade to GDP over 1977–97. Ranking developing countries by the amount of change, it calls the top third the more globalized countries, the bottom two-thirds, the less globalized countries. It finds that the former have had faster economic growth, no increase in inequality, and faster reduction of poverty than the latter. "Thus globalization clearly can be a force for poverty reduction," it concludes.

The conclusion does not follow. First, using "change in the trade/GDP ratio" as the measure of globalization skews the results. The globalizers then include China and India, as well as countries such as Nepal, Côte d' Ivoire, Rwanda, Haiti, and Argentina. It is quite possible that "more globalized" countries are less open than many "less globalized" countries, both in terms of trade/GDP and in terms of the magnitude of tariffs and nontariff barriers. A country with high trade/GDP and very free trade policy would still be categorized as "less globalized" if its increase in trade/GDP over 1977–97 put it in the bottom two-thirds of the sample. Many of the globalizing countries initially had very low trade/GDP in 1977 and still had relatively low trade/GDP at the end of the period in 1997 (reflecting more than just the fact that larger economies tend to have lower ratios of trade/GDP). To call relatively closed economies "more globalized" or "globalizers" and to call countries with much higher ratios of trade/GDP and much freer trade regimes "less globalized" or even "nonglobalizers" is an audacious use of language.

Excluding countries with high but not rising levels of trade to GDP from the category of more globalized eliminates many poor countries dependent on a few natural resource commodity exports, which have had poor economic performance. The structure of their economy and the low skill endowment of the population make them dependent on trade. If they were included as globalized their poor economic performance would question the proposition that the more globalized countries do better. On the other hand, including China and India as globalizers––despite relatively low trade/GDP and relatively protective trade regimes––guarantees that the globalizers, weighted by population, show better performance than the nonglobalizers.

The second problem is that the argument fudges almost to vanishing point the distinction between trade quantities and trade policy, and implies, wrongly, that rising trade quantities––and the developmental benefits thereof––are the consequence of trade liberalization.
Third, the argument assumes that fast trade growth is the major cause of good economic performance. It does not examine the reverse causation, from fast economic growth to fast trade growth. Nor does it consider that other variables correlated with trade growth may be important causes of economic performance: quality of government, for example. One reexamination of the Bank's study finds that the globalizer countries do indeed have higher quality of government indicators than the nonglobalizer countries, on average. Finally, trade does not capture important kinds of "openness," including people flows and ideas flows. Imagine an economy with no foreign trade but high levels of inward and outward migration and a well-developed diaspora network. In a real sense this would be an open or globalized economy, though not classified as such.

Certainly many countries––including China and India––have benefited from their more intensive engagement in international trade and investment over the past one or two decades. But this is not to say that their improved performance is largely due to their more intensive external integration. They began to open their own markets after building up industrial capacity and fast growth behind high barriers. In addition, throughout their period of so-called openness they have maintained protection and other market restrictions that would earn them a bad report card from the World Bank and IMF were they not growing fast. China began its fast growth with a high degree of equality of assets and income, brought about in distinctly nonglobalized conditions and unlikely to have been achieved in an open economy and democratic polity.

Their experience––and that of Japan, South Korea and Taiwan earlier––shows that countries do not have to adopt liberal trade policies in order to reap large benefits from trade. They all experienced relatively fast growth behind protective barriers; a significant part of their growth came from replacing imports of consumption goods with domestic production; and more and more of their rapidly growing imports consisted of capital goods and intermediate goods. As they became richer they tended to liberalize their trade––providing the basis for the misunderstanding that trade liberalization drove their growth. For all the Bank study's qualifications (such as "We label the top third ‘more globalized' without in any sense implying that they adopted pro-trade policies. The rise in trade may have been due to other policies or even to pure chance"), it concludes that trade liberalization has been the driving force of the increase in developing countries' trade. "The result of this trade liberalization in the developing world has been a large increase in both imports and exports," it says. On this shaky basis the Bank rests its case that developing countries must push hard toward near-free trade as a core ingredient of their development strategy, the better to enhance competition in efficient, rent-free markets. Even when the Bank or other development agencies articulate the softer principle––trade liberalization is the necessary direction of change but countries may do it at different speeds––all the attention remains focused on the liberalization part, none on how to make protective regimes more effective.

In short, the Bank's argument about the benign effects of globalization on growth, poverty and income distribution does not survive scrutiny at either end. And a recent cross-country study of the relationship between openness and income distribution strikes another blow. It finds that among the subset of countries with low and middle levels of average income (below $5,000 per capita in PPP terms, that of Chile and the Czech Republic), higher levels of trade openness are associated with more inequality, while among higher-income countries more openness goes with less inequality.

Conclusion

It is plausible, and important, that the proportion of the world's population living in extreme poverty has probably fallen over the past two decades or so, having been rising for decades before then. Beyond this we cannot be confident, because the World Bank's poverty numbers are subject to a large margin of error, are probably biased downward, and probably make the trend look rosier than it really is. On income distribution, several studies suggest that world income inequality has been rising during the past two to three decades, and a study of manufacturing pay dispersions buttresses the same conclusion from another angle.

The trend is sharpest when incomes are measured at market-exchange-rate incomes. This is less relevant to relative well-being than PPP-adjusted incomes, in principle; but it is highly relevant to state capacity, interstate power, and the dynamics of capitalism. One combination of inequality measures does yield the conclusion that income inequality has been falling––PPP-income per capita weighted by population, measured by an averaging coefficient such as the Gini. But take out China and even this measure shows widening inequality. Falling inequality is thus not a generalized feature of the world economy even by the most favorable measure. Finally, whatever we conclude about income inequality, absolute income gaps are widening and will continue to do so for decades.

If the number of people in extreme poverty is not falling and if global inequality is widening, we cannot conclude that globalization in the context of the dollar-Wall Street regime is moving the world in the right direction, with Africa's poverty as a special case in need of international attention. The balance of probability is that––like global warming––the world is moving in the wrong direction.

The failure of the predicted effects aside, the studies that claim globalization as the driver are weakened by (a) the use of changes in the trade/GDP ratio or FDI/GDP ratio as the index of globalization or openness, irrespective of level (though using the level on its own is also problematic, the level of trade/GDP being determined mainly by country size); (b) the assumption that trade liberalization drives increases in trade/GDP; and (c) the assumption that increases in trade/GDP drive improved economic performance. The problems come together in the case of China and India, whose treatment dominates the overall results. They are classed as "globalizers," their relatively good economic performance is attributed mainly to their "openness," and the deviation between their economic policies––substantial trade protection and capital controls, for example––and the core economic policy package of the World Bank and the other multilateral economic organizations is glossed.

At the least, analysts have to separate out the effect of country size on trade/GDP levels from other factors determining trade/GDP, including trade policies, because the single best predictor of trade/GDP is country size (population and area). They must make a clear distinction between statements about (i) levels of trade, (ii) changes in levels, (iii) restrictiveness or openness of trade policy, (iv) changes in restrictiveness of policy, and (v) the content of trade––whether a narrow range of commodity exports in return for a broad range of consumption imports, or a diverse range of exports (some of them replaced imports) in return for a diverse range of imports (some of them producer goods to assist further import replacement).