Declining Latin American inequality: Market forces or state action?

Nora Lustig, Luis Lopez-Calva

06 June 2010

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Latin America is always singled out because of its high and persistent income inequality (see for example de Ferranti et al. 2004). With a Gini coefficient of 0.53 in the mid-2000s, Latin America was 18% more unequal than Sub-Saharan Africa, 36% more unequal than East Asia and the Pacific, and 65% more unequal than the high-income countries.

But after rising throughout the 1990s, income inequality in Latin America declined steadily between 2000 and 2007. This is in stark contrast with trends experienced in, for example, China, India, and South Africa. Of the 17 Latin American countries for which comparable data are available, 12 experienced a decline in their Gini coefficient (Figure 1). The average decline for the 12 countries was 1.1% a year. Here we present the findings of an in-depth study of Argentina (urban), Brazil, Mexico, and Peru (Lopez-Calva and Lustig 2010). This study is among the first attempts to understand why inequality has fallen in Latin America since 2000.1

Figure 1. Percentage change in Gini coefficient by country, 2000-2006

Source: Authors’ calculation with data from SEDLAC (July, 2009). Note: Using bootstrapped standard errors, the changes in Guatemala, Nicaragua, and Venezuela were not statistically significant at the 95% level and are represented horizontal lines in bars.

The four countries we analyse can be considered a representative sample of middle-income countries in Latin America. The sample includes:

  • One of the five most unequal countries in Latin America (Brazil);
  • A traditionally low-inequality country, which has witnessed the largest increase in inequality of the region in the past three decades (Argentina);
  • Three of the largest countries in the region in terms of population and GDP (Argentina, Brazil, and Mexico);
  • Two countries where innovative, large-scale conditional cash transfers have been implemented (Brazil and Mexico);
  • One country with a large indigenous population (Peru). In 2001 around 37% of Peru’s population was indigenous (Maldonado et al. 2006).

All four countries experienced substantial market-oriented reforms in the 1990s (in the case of Mexico, since the 1980s). In particular, trade and foreign investment were liberalised, many state-owned enterprises were privatised, and, more generally, markets were deregulated. The four countries also faced significant macroeconomic crises between 1995 and 2006 and, except for Argentina, have pursued broadly prudent fiscal and monetary policies in particular since 2000. In 2003, following the boom in commodity prices, Argentina and Peru began to benefit from very favourable terms of trade and as a result, both countries enjoyed high per capita growth rates between 2003 and 2006 (7.8% and 5.2% per year, respectively). In contrast, GDP per capita growth was modest in Brazil and Mexico (2.7% and 2.8% per year, respectively). (See data from WDI database, World Bank 2009).

What caused inequality to fall?

Two leading factors seem to account for the decline in inequality in Argentina, Brazil, Mexico, and Peru during the last decade. The first was a decrease in the earnings gap between high-skilled and low-skilled workers (Figure 2); the second was an increase in government transfers to the poor.

Figure 2. Returns to education

Source: for Argentina, Brazil and Peru authors’ calculation with data from SEDLAC (July, 2009). For Mexico see Lopez-Acevedo (2006). Note: Coefficients of primary and secondary over omitted variable (incomplete primary or without education) for total working men.

The decrease in the earnings gap, in turn, seems to be mainly the result of the expansion of basic education during the last couple of decades, which substantially reduced the share of people with only primary and less-than-primary schooling in the labour force (Figure 3). Another explanation might also be the petering out of the skill-biased technical change of the 1990s that was associated with the opening up of trade and investment, which disproportionately benefitted the better educated. In any case, in the past ten years educational upgrading has been the dominant force for changing inequality (see Tinbergen 1975 and Goldin and Katz 2008).

Figure 3. Composition of adult population by educational level

Source: Authors’ calculation with data from SEDLAC (July, 2009).

The equalising contribution of government transfers seems to be associated with the implementation or expansion of large-scale conditional cash transfer programmes in Argentina (Jefes y Jefas de Hogar), Brazil (Bolsa Escola/Bolsa Familia and BPC), and Mexico (Progresa/Oportunidades) and with in-kind transfers in Peru (see Fiszbein et al. 2009 and Lopez-Calva and Lustig 2010).

The upgrading of skills of the poor, however, will soon face the “access-to-tertiary education” barrier – mainly due to the low quality education that the poor receive in basic and secondary levels – and thus the decline in inequality is not likely to continue when that barrier is reached. Despite the progress in making public policy more pro-poor, a large share of government spending continues to be either neutral or regressive, and the collection of taxes on personal income and wealth is very low. Making public spending and taxes more progressive and improving the quality of public services for the poor – especially in education – are key measures to keep society on the path towards greater equality of opportunity.

Conclusions

Economic theory tells us that the co-existence of imperfect capital markets and investment indivisibilities imply that market forces in Latin America were likely to produce and maintain inequality unless government action equalised opportunities and outcomes (see Kahhat 2010). Furthermore, these countries are likely to benefit from redistribution not only through improvements in equality but also through improvements in growth.

Political economy analysis suggests that the recent redistributive momentum may be a consequence of the strengthening of democracy (see Robinson 2010). Moreover, there is some evidence that social democratic left-leaning regimes have been more effective at reducing inequality and poverty than both non-left and radical left regimes (Lustig and McLeod 2009). But consolidating the redistributive momentum will require a transition from clientelistic to programmatic politics.

To do this, it will be essential to help the disenfranchised to mobilise and to act collectively through political parties as well as to promote the strengthening of legislatures and the restriction of presidential powers. From the experience of advanced countries we can see that sustaining equity over time requires a permanent redistributive effort through progressive income and wealth taxation of the very top incomes in particular (see Alvaredo and Piketty 2010). We also find that progressive fiscal policy is consistent with prosperity.

References

Alvaredo, Facundo and Thomas Piketty (2010), “The Dynamics of Income Concentration in Developed and Developing Countries: A View from the Top”, in Luis F Lopez-Calva and Nora Lustig (eds.), Declining Inequality in Latin America: a Decade of Progress?, Brookings Institution Press and UNDP.

de Ferranti, David, Guillermo Perry, Francisco Ferreira, and Michael Walton (2004), “Inequality in Latin America. Breaking with History”, World Bank.

Fiszbein, Ariel, and Norbert Schady with Francisco H. G. Ferreira, Margaret Grosh, Nial Kelleher, Pedro Olinto, and Emmanuel Skoufias (2009), “Conditional Cash Transfers: Reducing Present and Future Poverty”, Policy Research Report, World Bank.

Goldin, Claudia, and Lawrence Katz (2008), The Race between Education and Technology, Belknap Press of Harvard University Press.

Kahhat, Jaime (2010), “Labor Earnings Inequality: The Demand for and Supply of Skills”, in Luis F Lopez-Calva and Nora Lustig (eds.), Declining Inequality in Latin America: a Decade of Progress?, Brookings Institution Press and UNDP.

Lopez-Acevedo, Gladys (2006), “Mexico: two decades of the evolution of education and inequality”, World Bank Policy Research Working Paper 3919, May.

Lopez-Calva, Luis F and Nora Lustig (2010), “Explaining the Decline in Inequality in Latin America: Technological Change, Educational Upgrading and Democracy” in Luis F Lopez-Calva and Nora Lustig (eds.), Declining Inequality in Latin America: a Decade of Progress?, Brookings Institution Press and UNDP.

Lopez-Calva, Luis F and Nora Lustig (eds.) (2010), Declining Inequality in Latin America: a Decade of Progress?, Brookings Institution Press and UNDP.

Lustig, Nora and Darryl McLeod (2009), “Are Latin America’s New Left Regimes Reducing Inequality Faster?” Addendum to Nora Lustig, “Poverty, Inequality, and the New Left in Latin America”, Woodrow Wilson International Center for Scholars.

Maldonado, Stanislao and Vanessa Ríos (2006), “Más allá de la igualdad de oportunidades: Desigualdad de ingresos, responsabilidad individual, y movilidad social en el Perú”, Informe Final. Lima: Consorcio de Investigación Económica y Social / Centro de Estudios para el Desarrollo y la Participación.

Tinbergen, Jan (1975), Income Distribution: Analyses and Policies, North- Holland Publishing Co.

Robinson, James (2010), “The Political Economy of Redistributive Policies”, in Luis F Lopez-Calva and Nora Lustig (eds.), Declining Inequality in Latin America: a Decade of Progress?, Brookings Institution Press and UNDP.


1 The authors are Leonardo Gasparini and Guillermo Cruces for Argentina; Ricardo Barros, Mirela Carvalho, Samuel Franco and Rosane Mendonça for Brazil; Gerardo Esquivel, Nora Lustig and John Scott for Mexico; and, Miguel Jaramillo and Jaime Saavedra for Peru.

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Topics:  Poverty and income inequality

Tags:  income inequality, Latin America, conditional cash transfers

Samuel Z. Stone Professor of Latin American Economics at Tulane University

Chief Economist at the Regional Bureau of Latin America and the Caribbean of the United Nations Development Programme (UNDP)

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