Managing Globalization: Reducing Inequality – It’s Not So Simple

It’s only because of inequalities of wealth or skills that people, products and ideas shift around the globe. Such shifts influence individual communities with increases or decreases in jobs, crime or education – either reducing or exacerbating the inequality. Economists suggest that increased trade should reduce inequality at all income levels. But instead, author Daniel Altman argues, the major beneficiaries are highest-skilled employees in both developing and developed nations. “Unskilled labor is losing out everywhere," according to economist Pranab Bardhan. Economic gains by the highest skilled workers do not trickle down fast enough to reduce inequality. As inequality increases within a society – both in developed or emerging economies – cooperation breaks down, particularly on public projects that provide basic services from education to water. – YaleGlobal

Managing Globalization: Reducing Inequality – It's Not So Simple

Daniel Altman
Thursday, September 7, 2006

News of the effects of globalization usually comes out in dribs and drabs; jobs are outsourced, companies expand overseas, cultures collide. But what about the big picture? What happens, for example, to inequality in the world's globalizing economies?

The implications of inequality in incomes and wealth can be important and far-reaching, touching everything from workers' productivity to crime rates. Big changes in inequality, up or down, usually happen over decades and are hard to reverse. When an economy is changing rapidly, however, changes in inequality can occur just as quickly.

Mainstream economic theory implies that increased trade between countries should result in less inequality, especially in poorer countries, as low-skilled workers find new overseas buyers for their products. But that's not what seems to be happening.

"If skilled labor gains at the expense of unskilled labor in the rich countries, in the poor countries the opposite should happen," said Pranab Bardhan, a professor of economics at the University of California in Berkeley. "But actually most of the data suggest the opposite."

Part of the problem may be that the forces of globalization aren't actually getting a chance to work in some places.

"You could say the problem with the very poor countries in the world is that they haven't participated a lot in international trade," said Michael Kremer, a professor of economics at Harvard University. "Africa has seen its share of world trade decline a lot, for example."

But recent research by Kremer and a colleague, Eric Maskin, suggests that a lot of globalization may not be helping low-skilled workers to produce valuable goods and services for export. Instead, it could just be linking high- skilled workers from poor countries, like Indian software programmers, with their high-skilled counterparts in rich countries.

"There's been a technological change that makes it easier to do things internationally that weren't easy to do before," Kremer said in an interview by telephone. "The high-skilled workers, in some sense, can exit their local economy.

"Maybe 30 years ago, those people would have become engineers in a textile or auto factory in India, and they would have been working with a lot of less skilled Indian workers," Kremer said. "Our model suggests the less skilled Indian workers would be marginalized by all of this."

Sometimes outsourcing by poor countries, not rich countries, is the culprit, Bardhan said.

"In the construction industry in India, which used to be quite labor-intensive, now, when there is a big construction project, they give global tenders, and some big international companies win the bidding," he said. "When they go there, they bring their highly skill-biased technology. Unskilled labor is losing out everywhere."

Another subtle dynamic can also hurt low-skilled workers. Bardhan said that after the North American Free Trade Agreement, for example, some exports from Mexico were squarely in the middle of the skill spectrum. By Mexican standards, the workers who produced them were high-skilled, but the American workers they replaced were low-skilled by American standards. As a result, high-earning Mexicans earned more, and low-earning Americans earned less. Inequality increased in both countries.

And those increases in inequality can harm poor countries, sometimes more than they might hurt rich countries. Crime can rise, Bardhan said, and levels of trust within the societies can fall.

"When there is a lot of inequality, it makes collective action more difficult," Bardhan said. "A lot of the poor's livings depend on management of environmental resources. Disputes can arise, but in many parts of poor countries, you see traditional cooperative arrangements for things like sharing water. Over time, when inequality increases, other things remaining the same, some of these cooperative arrangements break down."

The difficulty of coordinating people to take collective action can even affect macroeconomics. In East Asian countries, where inequality is relatively low, people are typically more willing to make sacrifices to recover from financial crises, Bardhan said. In Latin America and India, it's more difficult for leaders to persuade ordinary people to accept austerity measures.

Though there is a chance that some of the economic gains made by high- skilled workers may trickle down to their low-skilled counterparts, it may not be enough to reverse increases in inequality.

Economic theory often indicates a trade-off between efficiency of production and equality of incomes. But the fact that inequality can hurt emerging economies suggests that there is room for redistributive policies to increase efficiency, Bardhan said. "There are many areas where this trade-off is either exaggerated or even false," he said.

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