Copyright © International Labour Organization 2003 Publications of the International Labour Office enjoy copyright under Protocol 2 of the Universal Copyright Convention. Nevertheless, short excerpts from them may be reproduced without authorization, on condition that the source is indicated. For rights of reproduction or translation, application should be made to the ILO Publications Bureau (Rights and Permissions), International Labour Office, CH-1211 Geneva 22, Switzerland. The International Labour Office welcomes such applications. Libraries, institutions and other users registered in the United Kingdom with the Copyright Licensing Agency, 90 Tottenham Court Road, London W1T 4LP [Fax: (+44) (0) 20 7631 5500; email: [email protected]], in the United States with the Copyright Clearance Center, 222 Rosewood Drive, Danvers, MA 01923 [Fax: (+1) (978) 750 4470; email: [email protected]] or in other countries with associated Reproduction Rights Organizations, may make photocopies in accordance with the licences issued to them for this purpose. ISBN 92-2-115187-5 ISSN 92-2-115188-3 First published 2003 The designations employed in ILO publications, which are in conformity with the United Nations practice, and the presentation of material therein do not imply the expression of any opinion whatsoever on the part of the International Labour Office concerning the legal status of any country, area or territory or of its authorities, or concerning the delimitation of its frontiers. The responsibility for opinions expressed in signed articles, studies and other contributions rests solely with their authors, and publication does not constitute an endorsement by the International Labour Office of the opinions expressed in them. References to names of firms and commercial products and processes does not imply their endorsement by the International Labour Office, and any failure to mention a particular firm, commercial product or process is not a sign of disapproval. ILO publications can be obtained through major booksellers or ILO local offices in many countries, or direct from ILO Publications, International Labour Office, CH-1211 Geneva 22, Switzerland. Catalogues or lists of new publications are available free of charge from the above address. Printed by the International Labour Office, Geneva, Switzerland The impact of liberalization and globalization on income inequality in developing and transitional economies Working Paper No. 14 Giovanni Andrea Cornia,* Policy Integration Department International Policy Group International Labour Office Geneva October 2003 Working papers are preliminary documents circulated to stimulate discussion and obtain comments *The author would like to thank Francois Bourguignon for sharing with him an unpublished draft of his 2001 paper with Christian Morisson. The impact of liberalization and globalization on income inequality in developing and transitional economies Contents Page Foreword………………………………………….......................................................................... ii 1. Introduction........................................................................................................................ 1 2. Global income distribution in historial perspective........................................................ 2 3. Changes in global and between-country inequality ........................................................ 4 4. Changes in within-country inequality .............................................................................. 10 4.1. Inequality changes by main regions........................................................................... 10 4.2 Econometric analysis of within-country inequality ................................................... 15 5. Causes of the recent changes in inequality ...................................................................... 18 6. Conclusions......................................................................................................................... 26 7. References........................................................................................................................... 29 Working paper No. 14 i Foreword This working paper is an output of the first phase of a research project funded by the Department for International Development (DFID) (UK government) on the impact of opening to trade and FDI on employment, income distribution and poverty in developing countries. In this phase of the project the studies are based on international cross-section data. The second phase, currently underway, will consist of country studies. In his contribution, Giovanni Andrea Cornia critically discusses the various determinants of global income distribution, also presenting interesting and up-dated empirical evidence about both between-country inequality and within-country income inequality. Eddy Lee Director International Policy Group ii Working Paper No. 14 1. Introduction Over the past two centuries, the world economy has become substantially more unequal. The second globalization wave of the past twenty years has been characterized by a slowdown in this secular trend following the partial convergence of the incomes per capita of Southeast Asia, coastal China and parts of urban India towards that of the advanced nations. They have also witnessed, however, an increase in the income gap between advanced nations and all other developing and transitional countries, as well as a worrying reversal in many nations of past trends towards lower domestic inequality. While the debate on the causes of these changes is not yet over, initial evidence shows that they are in part due to the spread of the new “global market paradigm”. This paradigm envisages the removal of barriers to the international trade of goods and services, opening up foreign direct investments, liberalizing short-term portfolio flows, creating a standardized patent regime regulating technology transfers and intellectual property (now embodied in the TRIPS agreement of the WTO), simplifying norms relating to travel, visas, payment systems and regulating international exchange. In contrast, liberalization of international labour flows remains off the policy agenda and since the early 1980s migration to Europe has slowed considerably due to the growing legal restrictions. The globalization of the world economy was preceded, and made possible, by the liberalization of domestic markets that began in the early 1980s in many countries. For instance, the rise in foreign investments of the 1990s often consisted in the acquisition by multinational firms of state-owned enterprises and would not have taken place without their prior privatization and the parallel liberalization of the labour market that allowed large job cuts in privatized firms. Likewise, the surge in short-term portfolio flows of the 1990s would not have occurred without the liberalization of domestic financial markets in the 1980s. Thus, both theoretically and empirically, it is often impossible to separate the effects of globalization from those of domestic liberalization and we shall not try to do so in this paper. Advocates of the “global market paradigm” claim that this approach enhances global economic efficiency by reducing domestic prices, providing major export opopportunities for poor countries, channelling world savings to countries with low capital accumulation but high rates of return on investment, accelerates the transfer of modern technology to backward countries. They also claim that liberalization improves global income distribution following the equalisation of factor prices across nations and the convergence of the income per capita of poorer countries with those of the advanced nations. While inequality may worsen in the advanced countries importing labour-intensive goods, it is expected to fall in the poor nations and on the global scale. Against this background, this paper will review trends in global, between-country and within-country inequality over the past twenty years. To place such trends into historical perspective, the changes in income concentration during the first wave of globalization of 1870-1912 will be analysed to emphasize the similarities and differences that can be observed over these two periods. The paper will then show that the predictions of the standard theory on the changes resulting from the liberalization of the world economy often clash with a substantial and growing body of statistical evidence pointing to the fact that global inequality has risen over the past two decades, and that past declines in within- country inequality have been reversed since the early 1980s. Finally, the paper will explore the possible causes of these changes by emphasizing the linkages between liberalization, globalization and income distribution; the conclusions will follow thereafter. Working Paper No. 14 1 2. Global income distribution in historical perspective Between 1870-1914 there was an unprecedented economic integration between the countries of the Old and New World. The ratio of exports plus imports to GDP rose steadily in all countries of the Old and New World1 after the fall in transport costs and cuts in the pre-1870 tariff rates; at the same time commodity prices in the different markets converged sharply and led to price gap cuts of 81 per cent (Lindert and Williamson, 2001). Meanwhile capital markets became much more integrated and international lending from Great Britain, France and Germany to the New World and a few Asian countries increased 20 times between the