Globalization and Income Distribution: Evidence from Pakistan Shahzad Hussain, Dr. Imran Sharif Chaudhry and Mahmood-ul-Hasan* Abstract It is widely believed that income inequality can be reduced through opening up of the economies of developing countries into the world market. But changes in country’s trade exposure and world market can affect negatively the distribution of resources within the country. This paper empirically explores the impact of globalization on income distribution using econometric time series approach for the period 1972- 2005 in Pakistan. The results are in favor of the conventional wisdom that opening up of the economy into the international market has good effects on the distribution of income. Income inequality can be reduced through foreign capital penetration. Huge trade volume with negative trade balance must be controlled. Key Words: Globalization, Income Distribution, Trade Openness, Foreign Direct Investment, Remittances JEL Classification: D31, F10, F21, F24 I. Introduction Nations across the globe have established progressively closer contacts with the passage of time, but recently the pace has dramatically increased. These closer contacts of different forms are welcomed by the politicians, academics, journalists and economists throughout the world. But many also believe that business-driven globalization is uprooting the old ways of life and threatening the cultures and livelihoods of the poor people. Nevertheless globalization is a multi-dimensional phenomenon. Economic globalization can comprehensively defined as a process of rapid economic integration among countries driven by liberalization of trade, investment and capital flows as well as technological change (Torres, 2001).Globalization is also movement across international borders of goods and factors of production. Globalization and distribution of income have received extensive attention during last two decades. * The authors are Ph.D. Scholar in Economics, Associate Professor of Economics and Ph.D. Scholar in Economics at Bahauddin Zakariya University, Multan, Pakistan respectively. It is widely believed that greater openness to international trade has positive impact on per capita incomes and incomes of the poor through growth channels. It is also consistent with economic theories about the effects of globalization and international trade on income distribution and poverty. International trade theory implies that increased openness to trade and foreign direct investment (FDI) through its impact on economic growth should reduce poverty and make the distribution of income more equal in developing countries. The relationship between globalization and income distribution is important in the literature of globalization. Bigsten (1999) assessed the global factors that affected income distribution and poverty in Uganda in 1980’s and 1990’s. He suggested that Uganda should become internationally competitive in areas outside traditional commodity exports. Trade liberalization is an important ingredient in a strategy for integration with global economy. Mugerwa (2001) concluded that globalization can not entirely be blamed for increased poverty and inequality. Internationally-backed reforms failed due to lack of institutions, suitable local conditions or ability to negotiate effectively for foreign aid in Sub-Saharan Africa. Lindert and Williamson (2001) concluded that the countries that integrated to world economy succeeded in reducing the income inequality. But inequality rose in labour- scarce countries by opening up to international trade and to international factor movements. However, the effect of globalization on income inequality within nations has gone in both ways. Wei and Wu (2001) found that Chinese cities that experienced a greater degree of openness in trade also tend to have greater declines in rural-urban income inequality. Like many others, Cornia (2002) reviewed global inequality trends between country and within country during last two decades. He also compared first wave of globalization (1870-1914) with recent one. During first phase of globalization international migrations played central role in equalizing the incomes while the recent wave could not do so due to growing restrictions of migration policies in developed countries. Technology remained at the centre stage to play vital role during this wave of globalization as compared to previous one. Heshmati (2003) used two composite indices of globalization in regression analysis to study the casual relationship between income inequality and globalization. These indices explain only 7 to 11 percent of the variations in income inequality among countries. There is strong evidence that trade openness adversely affected the poor and in fact led to deterioration in income distribution in developing countries. Milanovic (2003) also analyzed the impact of trade openness and foreign direct investment on relative income shares across the entire income distribution. He concluded, using the new data derived directly from household surveys, at low average income level, it is the rich who benefit from openness. Distribution of income can be improved with the help of Foreign Direct Investment in Latin America through appropriate development policy especially in the areas of education, training and infrastructure (Velde, 2003). The major objective of this paper is to analyze empirically the impact of globalization on income distribution in Pakistan. The paper is structured as follows. Section II briefly reviews the trends in globalization and income distribution in Pakistan. Section III describes the methodology and specifies the model for estimation. Data description and empirical evidence are given in section IV. Last section concludes the study with some policy implications. II. Globalization and Income Distribution in Pakistan: A Brief Review A) Globalization: Like many other developing countries, Pakistan is also engaged in structural reforms. The country is also moving towards free trade, privatization, deregulation and liberalization policies. Globalization can be discussed in different terms i.e. openness of foreign trade, foreign direct investment, foreign remittances etc. i) Openness of Foreign Trade: Pakistan is focusing on competitive trade from last twenty years. Pakistan adopted import substitution policies with high tariff level and non-tariff barriers (Chaudhary, 2004). Openness of foreign trade can be measured with total volume of foreign trade. Fig. 1 shows trends in trade openness in Pakistan for the period 1972-2005. Total volume of trade in 1972 was 1300.5 million dollars as compared to 35155 million dollars in 2005. There is rapid increase in total trade of Pakistan from 2003 to 2005 as indicated in figure 1. It is due to increasing concern of the present government towards trade. In 2002, Pakistan liberalized its trade by reducing tariffs from about 200 percent to just only 25 percent. Figure 1: Trends in Trade Openness in Pakistan (1972-2005) 40000 Total Foreign Trade (Million Dollars) 30000 20000 10000 0 75 80 85 90 95 00 05 Years Source: Federal Bureau of Statistics. ii) Foreign Direct Investment: Initially foreign investment had not free flow in Pakistan due to its restriction to only few areas. With the passage of time, it has opened the industrial sector for investment and agriculture sector remained restricted but it also now opened up for foreign investment. In the early seventies, FDI flow was very poor i.e. 8.1 million dollars in 1972. It increased very slowly and remained under 100 million dollars till mid eighties. The pace of the increase in FDI was accelerated after the mid eighties. Pakistan witnessed its highest figure of FDI flow in 2005 i.e. 1524 million dollars. Figure 2: FDI Flows in Pakistan (1972-2005) 1600 1200 800 FDI Flows (Million Dollars) 400 0 -400 75 80 85 90 95 00 05 Years Source: State Bank of Pakistan iii) Foreign Remittances: Workers remittances has also important role to open up the economy. Pakistan witnessed rapid flow in remittances at the end of seventies and continued till the mid of eighties. This flow started to decline at the end of eighties and reached at 983.73 million dollars in 2000, the lowest figure of eighties and nineties. This flow started to increase rapidly after 2000 and touch the peak (4236.85 million dollars) in 2003. To sum up, a keen interest has been witnessed of the government of Pakistan towards globalization after 2000, as above three variables indicating. The government of Pakistan is opening up the economy and very much relying on deregulation, privatization making attractive environment for foreign investment. It will accelerate economic growth, reduce poverty and make the distribution of income equal in the long run. These are question marked still. Figure 3: Workers Remittances (1972-2005) 5000 4000 3000 Remittances (Million Dollars) 2000 1000 0 75 80 85 90 95 00 05 Years Source: State Bank of Pakistan B) Income Distribution: The distribution of income remained a burning economic issue in Pakistan. Over the last thirty years, income inequality in Pakistan followed by uneven pattern. The Gini coefficient of the distribution of income rose from 0.36 in 1972 to 0.41 in 2005. There is no significant increase or decrease in the trend of Gini coefficient during our sample period. It remained fluctuated around 0.40 during the whole period as indicated by figure 4. Income inequality widened during the seventies. The share of the poorest 20% in total income decreased during this period while the